BCAJ | Bombay Chartered Accountant Journal

Capital Gains – Amount received on sale of additional benefit derived by the assessee by way of getting vested with additional FSI on the land and building owned by the assessee is only a windfall gain by operation of law and which had not cost the assessee any money is a capital receipt Book Profits – A particular receipt which is in the capital field cannot be brought to tax u/s 115JB merely on the ground that the assessee has voluntarily offered it in the return of income

35 Batliboi Ltd. vs. ITO [(2021) TS-410-ITAT-2021 (Mum)] A.Y.: 2013-14; Date of order: 21st May, 2021 Sections 4, 45, 115JB

Capital Gains – Amount received on sale of additional benefit derived by the assessee by way of getting vested with additional FSI on the land and building owned by the assessee is only a windfall gain by operation of law and which had not cost the assessee any money is a capital receipt

Book Profits – A particular receipt which is in the capital field cannot be brought to tax u/s 115JB merely on the ground that the assessee has voluntarily offered it in the return of income

FACTS
The assessee company owned land along with super structure which was acquired by it vide a sale deed dated 15th April, 1967. During the financial year relevant to the assessment year under consideration, the assessee company proposed to sell the said land along with its super structure. In the course of negotiations it became aware that post acquisition of land and constructed building, the Development Control Regulations (DCR) in the city of Coimbatore had undergone a change resulting in the company obtaining an additional benefit by way of additional FSI of 0.8.

The company sold the said land along with super structure vide a deed of sale on 23rd January, 2013 for a consideration of Rs. 11,14,00,000. Taking the help of the valuer, Rs. 4,76,25,000 out of this composite consideration was attributed to the additional FSI obtained as a result of the amendment in the DCR. In the return of income filed, the assessee regarded the sum of Rs. 4,76,25,000 received towards additional FSI as a capital receipt. However, while computing the book profit u/s 115JB, the said sum of Rs. 4,76,25,000 was included in the book profit.

The A.O. brought this sum of Rs. 4,76,25,000 to tax as long-term capital gains. This amount was also treated as part of book profits u/s 115JB since it was already offered to tax voluntarily by the assessee.

Aggrieved, the assessee preferred an appeal to the CIT(A) who confirmed the action of the A.O.

The aggrieved assessee preferred an appeal to the Tribunal where it also raised an additional ground, viz., that the sum of Rs. 4,76,25,000 being a capital receipt is not part of the operating results of the assessee and therefore is not includible in computing its book profits u/s 115JB.

HELD
The Tribunal observed that the total sale consideration of Rs. 11,14,00,000 has not been doubted by the Revenue. The break-up of consideration, as done by the assessee, by relying on the independent valuer’s report was also not doubted by the Revenue. The only dispute was whether the said sum of Rs. 4,76,25,000 could be treated as a capital receipt thereby making it non-exigible to tax both under normal provisions as well as in the computation of book profits u/s 115JB.

The Tribunal held that the assessee could not have pre-empted any change in the DCR in the city of Coimbatore at the time of purchase or before sale. Admittedly, no cost was incurred by the assessee for getting such benefit by way of additional FSI. Hence, it could be safely concluded that the additional benefit derived by the assessee by way of additional FSI on the land and building owned by him is only a windfall gain by operation of law and which had not cost him any money. The Tribunal found that the entire issue in dispute is squarely covered by the decision of the Jurisdictional High Court in the case of Kailash Jyoti No. 2 CHS Ltd. and others dated 24th April, 2015. Following this decision, the Tribunal held that the sum of Rs. 4,76,25,000 received by the assessee on the sale of additional FSI is not exigible for long-term capital gains. It directed that the same be excluded under the normal provisions of the Act.

While deciding the additional ground, the Tribunal observed that there is absolutely no dispute that the receipt of Rs. 4,76,25,000 is indeed a capital receipt and the same does not form part of the operational working results of the assessee company. Even according to the Revenue, the said receipt is only inseparable from the land and building and accordingly it only partakes the character of a capital receipt. The Tribunal held that merely because a particular receipt, which is in the capital field, has been offered to tax by the assessee voluntarily in the return of income while computing book profits u/s 115JB it cannot be brought to tax merely on that ground. It is very well settled that there is no estoppel against the statute. It noted that the dispute is covered by the Tribunal in the assessee’s own case in ITA No. 5428/Mum/2015 for A.Y. 2011-12, order dated 17th December, 2021.

Following this decision, the Tribunal held that the sum of Rs. 4,76,25,000 being a capital receipt from its inception is to be excluded while computing book profits u/s 115JB and also on the ground that it does not form part of the operational working results of the company.

The Tribunal allowed both the grounds of appeal filed by the assessee.

shailesh.kwebmaker

Alleged on-money received cannot be taxed in the hands of assessee, a power of attorney holder – Assessee being power of attorney holder, cannot be treated as rightful owner of the income which has arisen on sale of a particular property as his action was only in a representative capacityAlleged on-money received cannot be taxed in the hands of assessee, a power of attorney holder – Assessee being power of attorney holder, cannot be treated as rightful owner of the income which has arisen on sale of a particular property as his action was only in a representative capacity

34 Bankimbhai D. Patel vs. ITO [(2021) TS-403-ITAT-2021 (Ahd)] A.Ys.: 2003-04 and 2004-05; Date of order: 19th May, 2021 Section 4

Alleged on-money received cannot be taxed in the hands of assessee, a power of attorney holder – Assessee being power of attorney holder, cannot be treated as rightful owner of the income which has arisen on sale of a particular property as his action was only in a representative capacity

FACTS
In this case, the original assessment for A.Y. 2003-04 was completed u/s 143(3) r/w/s 147 assessing total income at Rs. 29,86,640 against a returned income of Rs. 47,120. The case of the A.O. was that the assessee was a power of attorney (PoA) holder of certain pieces of land on which construction was done and these were sold. He received on-money and that on-money has not been accounted for by the assessee. The A.O. recorded the statement of one Rasikbhai Patel who confessed that he paid Rs. 8,71,695 but documents were executed only for Rs. 1,32,500. On the basis of this statement, the A.O. harboured the belief that the difference of these two amounts, i.e., Rs. 7,39,195, was collected by way of on-money. He applied this rate to all the plots sold during the year and believed that the assessee has retained on-money which deserves to be assessed in the hands of the assessee. A similar exercise was done for the A.Y. 2004-05.

When the matter reached the Tribunal, it restored the matter back to the file of the A.O. with a direction to find out as to what was the arrangement between the landowners and the PoA holder and who has received the sale consideration; and whether the recipient of sale consideration has offered capital gains; after examining all these aspects and also after finding out what has happened in the hands of the owners, the A.O. should decide the issue afresh and pass necessary orders.

In the set-aside proceedings from which this appeal has arisen, the A.O. made reference to evidence collected in the first round of the assessment proceedings and added the undisclosed and unrecorded income by way of on-money to the total income of the assessee on the ground that the landowners have not filed their return of income for A.Y. 2003-04.

Aggrieved, the assessee preferred an appeal to the CIT(A) who confirmed the action of the A.O. The assessee preferred an appeal to the Tribunal.

HELD
The Tribunal observed that both the authorities have failed to analytically examine the issue as per the direction of the ITAT in the first round. The A.O. was specifically directed to examine the understanding between the landowners and the assessee; whether it has been agreed that the landowners would receive only the amount mentioned in the sale deed. It noted that the A.O. has not recorded the statement of any of the landowners though he was given all the details. He recorded the statement of one of the purchasers in the first round but that is not a relevant evidence as that evidence can be taken for determination of quantum but cannot be used to determine who received that quantum. The Tribunal found the action of the A.O. in holding that since the landowners have not paid capital gains, on-money is to be taxed as income of the assessee to be illogical.

The Tribunal held that the law contemplates that the A.O. has to first determine in whose hand the income has to be assessed and who is the rightful owner. The assessee being a PoA holder, cannot be treated as the rightful owner of the income which has arisen on the sale of a particular property. His action was only in a representative capacity. It observed that it could have appreciated the stand of the A.O. if he had been able to bring on record the terms of agreement between the assessee as well as landowners specifying the distribution of amount between the assessee in his capacity as PoA holder vis-à-vis the actual owner. No such steps were taken in spite of the specific direction of the Tribunal in the first round. Considering all these aspects, the Tribunal held that there is no justification for sustaining addition in both the assessment years in the hands of the assessee. The appeal filed by the assessee was allowed.

shailesh.kwebmaker

INDIA’S MACRO-ECONOMIC & FINANCIAL PROBLEMS AND SOME MACRO-LEVEL SOLUTIONS

India’s leadership wishes that India be recognised as an economic superpower.

But there is one catch in fulfilling this intent. Can we become an economy that comes in the first five in GDP rankings (although due to our large population, per capita we may still be very low) if we do not really ‘own’ our businesses in financial structures and do not supposedly pay our due share of taxes?

How can there be an entrepreneurial push to an economy when so much of quality time is spent not on expanding business and exploiting opportunities, but on creating ‘suitable business, financial and tax structures’?

Why are Indians considered a model minority culturally overseas when within the country we see examples of businesses defaulting on loans and interest payments with the term ‘wilful defaulter’ being specially coined for them and being accused of ‘tax evasion’?

[Please refer link (as example) – https://wap.business-standard.com/article/companies/around-rs-10-52-trn-corporate-debt-may-default-over-3-years-india-ratings-120030200388_1.html.]

‘Wilful defaulter’ is someone who has the ability to pay but is organising his business with the intent not to pay.

There are two macro-economic and financial problems that India is facing today:
(I) High debt capital gearing, and
(II) Intent of tax evasion (direct and indirect).

(I) High debt capital gearing
A classic case of high capital gearing and borrowings to fund business outcome comes from a major
telecom service provider (source – ‘moneycontrol.com’, standalone financials).

Between the years 2016-17 and 2020-21, this telecom company had these important events:
i)   Increase in equity capital – Rs. 25,130.07 crores;
ii)   Increase in tangible & intangible assets – Rs. 86,637.52 crores;
iii)   Increase in long-term borrowings – Rs. 105,777.67 crores;
iv)   Increase in short-term borrowings – Rs. 39.35 crores;
v)   Losses incurred in this period – Rs. 86,561.43 crores.

One can see that the increase in share capital to fund losses and increase in tangible and intangible assets is much lower than the increase in borrowings. The company has also used operating creditors to fund its business.

In the case of a large Indian entity whose major business is in oil and gas, between the years 2016-17 and 2020-21, the increase in reserves and surplus due to undistributed profits is Rs. 182,980 crores, while the increase in long-term and short-term borrowings is Rs. 92,447 crores. Clearly, there is a good match between increased borrowings and increased profits after tax for the period under review.

‘High Capital Gearing’ in Indian corporates is resulting in a skewed debt to equity ratio. This high debt when not serviced by payments on due dates of interest and principal instalment due, results in the corporate being ultimately called a ‘Non-Performing Asset’ (by bankers as lenders) and the process of recovery of dues starts.

NPAs pose a serious problem for the financial viability of India’s financial lending sector.

(Please see link – https://www.business-standard.com/article/finance/banks-gross-npas-may-rise-to-13-5-by-sept-financial-stability-report-121011200076_1.html.)

NPAs are unfair to the savings class of citizens because they destroy the net worth of banks – very unfairly, the insurance for the individual saving and keeping money in banks is restricted to Rs. 5 lakhs per bank. How this figure of Rs. 5 lakhs has come about is not known. Anybody who has studied Indian middle class savings patterns knows that a very large part of their savings corpus is in bank deposits. More than the borrower being impacted by action against him, the bank customer is hit hard, again very unfairly. Why has the RBI as regulator not thought of protecting the bank depositor by insisting that all deposits should be fully insured for bank default is not known. If the DICGC (Credit Insurance and Credit Guarantee Corporation) which is a 100% subsidiary of RBI does not have the financial muscle to carry the entire risk liability, one can always bring in Indian and overseas insurers for providing the default risk cover.

The issue that needs attention is why do corporates accumulate such high debt (mainly from the banking sector)? The reality is that once the banking sector was opened to private players and long-term funding got opened in foreign exchanges, both the then Development Finance Institutions, ICICI Ltd. and IDBI Ltd., chose to become commercial / retail banks.

As the push for infrastructure came from the Government of India, commercial bankers became financiers of long-term debt (instead of just working capital funding). Bankers who were working capital funding entities started moving into long-term capital funding without truly understanding the implications. The intent of this article is not to comment on fraudulent behaviour or political intervention in sanctioning of loans. That is a different matter and proving of criminal conduct and punishment thereof is outside the scope of this article.

Corporate promoter groups in multiple business types saw an opportunity to draw large debt (facilitated by the financial markets meltdown in 2008 and 2009) and exploited the situation. The absence of the ‘skin in the game’ philosophy resulted in debt being incurred on unmerited and unviable business expansion / extension or new business proposals. In the hope of keeping the engines of growth firing, the banking sector funding went into undependable and unviable projects. Why did banks and financial institutions continue their funding despite ‘High Capital Gearing’ being visible is the question to be asked. The ease of getting borrowings has compounded the problem. Ultimately, the borrower is facilitated and the depositor is ruined!

To be fair, there is no doubt that in many over-leveraged business segments like the realty sector during Covid-19, the business entities have worked towards reducing debt by sale of business, liquidation of assets, etc.

SOLUTION
One part of the solution to avoid ‘High Capital Gearing’ and funding thereof is to have a much better overview of lending proposals and their appraisal at the lenders’ end (banks and financial institutions).

The other part which is systemic in nature is to remove the Income tax shield advantage of interest cost. Any entity has two sources of funds:
1) Shareholders capital – This funding is less popular because returns to shareholders come after corporate or business Income tax.
2) Borrowings – This funding is more popular because interest paid on debt funds is an eligible item of deductible expense, thereby reducing their cost impact for the business.

If a business wishes to give a shareholder dividend of Rs. 1,000 at a corporate income tax rate of 30%, it needs to earn Rs. 1,400+. However, Rs. 1,000 paid as interest on borrowings being eligible for income tax deduction as expense, actually costs Rs. 700 to the business (tax shield Rs. 300).

This business structuring and Income tax differential treatment of interest payment and returns to shareholders post tax, has moved the pendulum unswervingly towards debt from shareholders’ funds. Also, Indian corporate and business management is still very much dependent on family-based promoter groups who clearly would like to keep their exposure to risk at the lowest level. The principle of ‘as little skin in the game’ is followed.

Owing to this family / promoter development in Indian corporates, and maybe because the law is not facilitative enough, we do not have aggressive ‘business control’ wars and that has closed off the option of takeover by a rival if the business is languishing or going down. The IBC comes in much later at the point where insolvency is declared.

This is why in India the promoters’ exposure when business goes down is very low, thanks further to low capital invested. The high risk exposure is taken by the unsecured creditors and debt holders who are the ones taking the ‘haircut’. Hence, we are seeing the way the existing promoter is fighting to retain control of the entity in the Insolvency and Bankruptcy proceedings. Companies languish but don’t die.

(Please see link – https://m.economictimes.com/news/company/corporate-trends/view-india-is-no-country-for-dying-companies/articleshow/85552085.cms.)

Our laws and our infrastructure to ensure timely implementation of laws are often not in sync with one another. This is fully exploited by a defaulting promoter. As the late Mr. Arun Jaitley said, ‘There are sick defaulting companies, but no poor promoters’!

Business Income tax should be based on profit before interest and tax, thereby removing the tax shield that is provided by interest. To compensate for this additional tax outgo, the rate on business income tax should be brought down by about 300 to 500 basis points (3 to 5%). By putting both sources of funds, at the same tax treatment level, the incentive to move towards debt and reduce equity contribution should diminish.

(II) Intent of tax evasion (direct and indirect)
There is no point in repeating ad nauseam that as per Finance Ministry Officials Indians evade both direct and indirect tax. Of course, nobody talks of the fact that agricultural income does not come under Income tax and therefore all international comparisons of percentage of direct taxpayers and percentage of total direct tax collection to total tax collected from individual assessees gets terribly vitiated.

GST has tightened indirect tax compliance to a great extent, but it could still do better on compliance matters. It is one thing to keep saying that Indians are tax-evaders and another to create an environment where tax evasion is not contemplated because it gives very marginal advantage.

SOLUTION
The solution is evident from the problem. There is a need to break the Chinese wall separating the Direct Tax Administration from the Indirect Tax Administration. GST has an issue because it is borne by the end customer who gets no credit on tax and it becomes a cost to him. That is why we have the sales without invoice, the unverified composition dealer sales, etc. Where the income tax payer can take GST credit (CGST, SGST, IGST) totally, he will be quite pleased.

The author is not aware whether fungibility between direct and indirect tax is available in other economies. All economies do have direct and indirect tax payment by the ultimate consumer. However, the Indian situation is different. We need to incentivise the ultimate taxpayer so that tax revenues are buoyant.

Amend the tax laws such that a direct tax payer is permitted GST paid on his personal purchases funded by income (taxable) as a credit. The moment this is done, the customer will insist on getting a proper ‘GST Invoice’. Of course, this GST invoice must have the assessee’s name and PAN #or Aadhaar #. Once the GST invoice is made, the details of a GST dealer will be available. A direct tax payer for the sake of taking GST credits on direct tax liability payable, will file his income tax return, thereby increasing the numbers of income tax returns filers.

Increased GST Returns filings will benefit state governments also in SGST and share of IGST.

It is preferred that agriculture income also comes within the income tax net, although this may have serious political consequences and may need to wait for implementation. Farmers buying agriculture equipment, seeds, fertilisers will be benefited.

In fact, if after full GST deduction the income tax assessee has a tax refund, 40% of that should be given / paid to him as incentive and the other 60% stand cancelled.

Our tax authorities (both direct and indirect) will need to do some original tax thinking. Just stating that Indians evade tax is insulting and does not improve tax compliance. Let them think of a solution that is not very convoluted and cumbersome.

The taxpayer must feel advantaged in filing the direct tax return, The authorities have to integrate direct and indirect tax, since the end customer is paying for the same and is the same person.

The answer to both the above serious problems lies in making the final individual taxpayer the centre of Government and regulatory authorities’ policies. The solution is available, it has to be accepted and implemented.

Of course, there will be serious resistance to the above proposals from the Revenue Ministry and from businesses, for being ‘impractical and unviable’. However, both proposals are of benefit to the individual – whether as bank depositor, shareholder of over-leveraged entities or as taxpayer (direct and indirect tax). The time has come to be different in thinking and implementing policies.

(The author is grateful for the usage of news links which have collaborated his point of view)

shailesh.kwebmaker

IMPLICATIONS OF KEY AMENDMENTS TO COMPANIES ACT, 2013 ON MANAGEMENT AND AUDITORS

The effect of laws and regulations on financial statements varies considerably. Non-compliance with the same may result in fines, litigation or other consequences for the entity that may have a material effect on the financial statements. It is the responsibility of management, with the oversight of those charged with governance, to ensure that operations are conducted in accordance with the provisions of various laws and regulations, including those that determine the reported amounts and disclosures in an entity’s financial statements.

Standards on Auditing (SA) 250, Consideration of Laws and Regulations in an Audit of Financial Statements, deals with the auditor’s responsibility to consider laws and regulations when performing an audit of financial statements. The provisions of some laws or regulations have a direct effect on the financial statements in that they determine the reported amounts and disclosures in an entity’s financial statements, e.g., the Companies Act, 2013 (‘2013 Act’). Other laws and regulations that do not have a direct effect on the determination of the amounts and disclosures in the financial statements, but compliance with which may be fundamental to the operating aspects of the business, to an entity’s ability to continue its business, or to avoid material penalties (e.g., compliance with the terms of an operating license, compliance with regulatory solvency requirements, or compliance with environmental regulations), non-compliance with such laws and regulations may therefore have a material effect on the financial statements. The Code of Ethics issued by the ICAI also includes specific sections on Responding to Non-Compliance of Laws and Regulations (NOCLAR)1 for listed companies. However, the auditor is not responsible for preventing non-compliance and cannot be expected to detect non-compliance with all laws and regulations.

The MCA has issued various amendments to the Companies Act, 2013, including an amendment to Schedule III of the Companies Act, 2013 to increase transparency and to provide additional disclosures in the financial statements, and CARO 2020 to enhance the reporting requirements for auditors. The MCA has also amended the provisions of Rule 11 of the Companies (Audit and Auditors) Rules, 2014 to include additional matters in the Auditor’s Report w.e.f. 1st April, 2021 (except the requirement related to audit trail which is applicable w.e.f. 1st April, 2022).

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1 The ICAI issued an announcement dated 26th July, 2021 and deferred the applicability date of these provisions to 1st April, 2022

This article attempts to provide an overview of the key amendments relating to the definition of listed company, Corporate Social Responsibility and managerial remuneration and related challenges emanating from these amendments and the enhanced role of management and auditors.

I. AMENDMENT TO DEFINITION OF LISTED COMPANY
Section 2(52) of the 2013 Act provides the definition of a listed company. Listed companies under this Act are required to adhere to stricter compliance norms when it comes to filing of annual returns, maintenance of records, appointment of auditors, appointment of independent directors and woman directors, constitution of board committees, etc. This may dis-incentivise (or demotivate) private companies / unlisted public companies from seeking listing of their debt securities even though doing so might be in the interest of the company. Effective 1st April, 20212, the MCA amended section 2(52) of the 2013 Act and Companies (Specification of Definitions Details) Rules, 2014 to exclude the following class of companies from the definition of a listed company:

Public companies which have not listed their equity shares on a recognised stock exchange but have listed:

– Non-convertible debt securities, or
– Non-convertible redeemable preference shares, or
– Both the above categories
issued on private placement basis in terms of the SEBI (Issue and Listing of Debt Securities) Regulations, 2008 / SEBI (Issue and Listing of Non-Convertible Redeemable Preference Shares) Regulations, 2013, respectively.

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2 The MCA issued Notification No. G.S.R. 123(E) dated 19th February, 2021 on the
Companies (Specification of Definitions, Details) Second Amendment Rules, 2021

Private companies which have listed their non-convertible debt securities on private placement basis on a recognised stock exchange in terms of the SEBI (Issue and Listing of Debt Securities) Regulations, 2008.

Public companies which have not listed their equity shares on a recognised stock exchange but whose equity shares are listed on a stock exchange in a permissible foreign jurisdiction as specified in the sub-section of section 23(3)3 of the 2013 Act.

It may be noted that SEBI has not modified the definition of a listed company. Accordingly, the implications are limited to the provisions prescribed under the 2013 Act. Some of these considerations are discussed below:

Relaxation for companies from compliances under 2013 Act
Listed companies are required to comply with additional stringent requirements under the 2013 Act, e.g., at least 1/3rd of the total number of directors to be independent directors, appointment of one woman director on the board, appointment of an internal auditor and compliance with auditor’s rotation norms. Companies which no longer qualify as listed companies pursuant to the above amendment would not be required to comply with such stringent requirements.

Besides, it is interesting to note that though the intent of the amendment is to provide relaxations for private / public companies, there might be some unintended consequences as well. One such unintended consequence is the debenture redemption norms. Section 71(4) of the 2013 Act read with Rule 18 of the Companies (Share Capital and Debentures) Rules, 2014 prescribes the quantum of debenture redemption reserve and the investment or deposit of sum in respect of debentures maturing during the year ending on the 31st day of March of the next year, unless specifically exempted. It may be noted that in accordance with Rule 18(7)(b)(iii)(B), debenture redemption reserve is not required to be created by listed companies having privately-placed debentures. Pursuant to the amendment, these exemptions may no longer be available; creation of the debenture redemption reserve and investment of sums in respect of debentures might become applicable for listed companies having privately-placed debentures. However, this will be subject to clarification by the MCA or the ICAI.

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3 Such class of public companies may issue such class of securities for the purposes of listing on permitted stock exchanges in permissible foreign jurisdictions or such other jurisdictions, as may be prescribed

Preparation of financial statements under Ind AS by the company
One of the criteria for applicability of Ind AS prescribed under the Companies (Indian Accounting Standards) Rules, 2015 is that companies whose ‘equity or debt securities are listed’ or are in the process of being listed on any stock exchange in India (except for listing on the SME exchange or Innovators Growth Platform), or outside India would be required to prepare financial statements as per Ind AS. Further, these Rules provide that once a company starts following Ind AS, it would be required to follow these for all the subsequent financial statements even if any of the prescribed criteria do not subsequently apply to it. Accordingly, companies which no longer qualify as listed companies but have prepared financial statements under Ind AS, would continue to prepare financial statements in accordance with Ind AS.

Private / public companies listing non-convertible debt securities and / or non-convertible redeemable preference shares on a private placement basis are excluded from the definition of ‘Listed company’ as per the amended definition. One may argue that Ind AS applies to all listed companies. Since these companies are not listed companies as defined under the 2013 Act, such companies would not be required to comply with Ind AS (unless other thresholds are met). A closer look at the aforesaid Rules indicates that Ind AS applies to companies whose ‘equity or debt securities are listed’ – instead of ‘listed company’. Hence, strictly speaking, the other possible view is that private / public companies having listed non-convertible debt securities / non-convertible redeemable preference shares on a private placement basis would need to comply with Ind AS. These companies need to consider GAAP applicable to them and their auditors, while issuing an opinion on true and fair view and compliance with accounting standards u/s 133 of the Act, will need to consider this amendment.

Auditors reporting on Key Audit Matters (KAM)
Auditors are required to report Key Audit Matters in the audit report of a listed entity which has prepared a complete set of general purpose financial statements as required by SA 701, Communicating Key Audit Matters in the Independent Auditor’s Report. KAMs are those matters that, in the auditor’s professional judgement, were of most significance in the audit of the financial statements of the current period. The Standard on Quality Control – 1 and SA 220, Quality Control for an Audit of Financial Statements, define a listed entity as an entity whose shares, stock or debt are quoted or listed on a recognised stock exchange, or are traded under the regulations of a recognised stock exchange or other equivalent body.

Different definitions of ‘Listed company’ under the 2013 Act and SA 220 may raise an applicability issue. One may argue that auditing standards are prescribed u/s 143(10) of the 2013 Act. Accordingly, the question is whether a listed company should be understood uniformly for all purposes under the 2013 Act, including while reporting on KAMs, or the definition of SA 220 be applied while auditing and reporting on the company’s financial statements. The definitions under the 2013 Act are for compliance with the legal requirements under the 2013 Act and do not apply to accounting and auditing matters. Since auditors are responsible to conduct audit in accordance with the SA, the auditor should follow the definition of a listed entity as envisaged in the SAs while reporting on KAMs. Hence, one may argue that auditors of all listed companies (even those not considered as listed companies under the 2013 Act) would continue to report on KAMs as required by SA 701. The MCA and the ICAI may consider clarifying this aspect.

Auditor’s reporting on CARO 2020
The Central Government, in exercise of the powers conferred on it under sub-section (11) of section 143 of the Companies Act, 2013 (hereinafter referred to as ‘the Act’), issued the Companies (Auditor’s Report) Order, 2020 on 25th February, 2020. Called CARO 2020 for short, it is applicable for the financial years commencing on or after 1st April, 2021 to a prescribed class of entities including listed companies, public companies and private companies meeting the prescribed thresholds.

One may take a view that CARO 2020 does not prescribe the listing of securities by any company (including a private company) as a criterion for applicability. Hence the change in definition of a listed company may not impact the applicability of CARO. The MCA and the ICAI may consider clarifying this issue. However, reporting on CARO 2020 would continue to apply to all public companies (listed or unlisted).

II. AMENDMENT TO CORPORATE SOCIAL RESPONSIBILITY (CSR) PROVISIONS
Section 135 of the 2013 Act and the Companies (Corporate Social Responsibility Policy) Rules, 2014 (‘CSR Rules’) prescribe the norms relating to CSR. The MCA has recently overhauled the norms and brought significant changes in implementation of CSR initiatives, introduced new concepts like mandatory impact assessment, and prescribed the manner of dealing with unspent CSR amounts. These amendments were notified on 22nd January, 2021. CARO 2020 has also introduced specific additional reporting requirements for the auditors related to unspent amount under sections 135(5) and 135(6) of the 2013 Act. The revised Schedule III under the 2013 Act has added specific disclosures to be made by companies in respect of CSR spend.

The requirement of audit of CSR activities has not been made mandatory under the 2013 Act. However, various provisions of the Companies (Company Social Responsibilities Policy) Rules, 2014 require the monitoring and reporting mechanism for CSR activities.

Auditor’s responsibilities
Wherever an eligible company undertakes CSR activity itself, the key responsibilities of the auditor are summarised below:
• Auditors should check compliance with section 135 of the 2013 Act and check whether the expenditure has been incurred as per the CSR policy formulated by the company;
• The auditor is also required to check whether the activity / project undertaken is within the purview of Schedule VII of the Act;
• If mere contribution / donation is given for a specified purpose, then whether it is specifically allowed as per Schedule VII of the Act;
• The auditor, while opining on the financial statements, will also be required to check whether separate
disclosure of expenditure on CSR activities has been made as per Schedule III applicable for the financial
year ending 31st March, 2021 and additional disclosures as per revised Schedule III have been made by the company for the financial year commencing on or after 1st April 2021;
• The auditor to check whether the company has recorded a provision as at the balance sheet date to the extent considered necessary in accordance with the provisions of AS 29 / Ind AS 37, Provisions, Contingent Liabilities and Contingent Assets, in respect of the unspent amount;
• To check compliance with relevant Standards on Auditing for audit of CSR spend including:
– SA 250 – Consideration of Laws and Regulations in an Audit of Financial Statements;
– SA 720 (Revised) – The Auditor’s Responsibilities Relating to Other Information.

Eligible CSR activities in the context of Covid-19
The MCA has issued a Circular dated 30th July, 2021 clarifying that spending of CSR funds for Covid-19 vaccination for persons other than the employees and their families is an eligible CSR activity under Schedule VII of the Companies Act, 2013. Management would need to establish necessary internal controls to track that the spend is made to benefit persons other than employees and their families.

Increased focus on impact creation
The amendments require every company with an average CSR obligation of INR 10 crores or more (in the three immediately preceding F.Y.s) to undertake an impact assessment of their CSR projects having an outlay of INR 1 crore or more and has been completed not less than one year before undertaking the impact study. The assessment should be carried out through an independent agency and the impact assessment reports should be placed before the board and should be annexed to the annual report on CSR.

Enhanced monitoring mechanism
The amendments significantly enhance the monitoring mechanism and require the CSR committee to formulate and recommend an annual action plan in pursuance of its CSR policy to the board of directors. The action plan should include the prescribed matters such as the manner of execution of such projects or programmes, modalities of utilisation of funds and implementation schedules, and the monitoring and reporting mechanism for the projects or programmes.

The board of the company is required to satisfy itself that the funds disbursed have been utilised for the CSR purposes and in the manner as approved by it. It should be certified by the Chief Financial Officer or the person responsible for the financial management of the company.

The amendments have introduced a new format for the annual report on CSR activities to be included in the board’s report of a company for the F.Y. commencing on or after 1st April, 2020. Some of the new disclosures to be made by companies in the annual report include details of impact assessment of CSR projects (if applicable) along with the report and amount spent on impact assessment, details of the amount available for set-off and details of unspent CSR amount for the preceding three F.Y.s, including amount transferred to unspent CSR account and fund specified in Schedule VII of the 2013 Act. In case of creation or acquisition of a capital asset, additional disclosures are prescribed.

The auditor will also be required to read the information included in the annual report as required by SA 720, The Auditor’s Responsibilities Relating to Other Information.

Unspent CSR amount – Reporting in CARO 2020
Section 135 prescribes a mandatory spending of 2% of the average net profits made by the company during the three immediately preceding financial years on CSR activities. Earlier, section 135 followed a ‘comply or explain approach’, i.e., the board of directors was required to explain in the Board Report the reason for not spending the minimum CSR amount. Accordingly, no provision for unspent amount was required to be made before the amendment.

The MCA observed that a tenable reason does not expel or extinguish the obligation to spend the stipulated CSR amount4. With this objective in mind, section 135 and the CSR Rules were amended and the ‘comply or explain’ approach was replaced with a ‘comply or pay penalty’ approach. The amended provisions now require the following in respect of ‘unspent amounts’:

• On-going CSR projects [Section 135(6)]: In this case, the company should transfer the unspent amount to a special bank account within a period of 30 days from the end of the financial year. The company should spend such amount within a period of three F.Y.s from the date of such transfer as per its obligation towards the CSR policy. In case it fails to do so, it would be required to transfer the same to a fund specified in Schedule VII of the 2013 Act within a period of 30 days from the date of completion of the third financial year.

Other than on-going projects [Section 135(5)]: When there is no on-going project, the unspent amount should be transferred to a fund specified in Schedule VII of the 2013 Act within a period of six months from the end of the financial year.

Additional reporting requirements for CSR have been introduced in CARO 2020 which require the auditor to report on the above two aspects.

_____________________________________________________________

4 Report of the High-Level Committee on Corporate Social Responsibility, 2018

Subsequent to the amendment, the revised Technical Guide on CSR issued by the ICAI provides that an obligation to transfer the unspent amount to a separate bank account within 30 days of the end of the financial year and eventually any unspent amount out of that to a specified fund, indicates that a provision for liability for the amount representing the extent to which the amount is to be transferred within 30 days of the end of the financial year needs to be recognised in the financial statements.

Implementation challenges
The following implementation challenges will need to be considered and evaluated by both the company and the auditor in this regard:

• The CSR amendments do not link the applicability of the amendments to any financial year. It may be noted that the applicability of this amendment is prospective and therefore provision may be required for shortfall for the F.Y. 2020-21 and onwards.

• Assessment of presentation of unspent amount in the CSR bank account in the financial statements may be critical as such amounts would not be available for any other purpose. Ind AS 7 / AS 3 on Cash Flow Statement requires companies to disclose, together with a commentary by management, the amount of significant cash and cash equivalent balances held by the entity that are not available for use by the entity. Thus, the amounts in the unspent CSR bank account should be disclosed as restricted cash with adequate commentary by the management in the financial statements.

• While preparing quarterly financial information, an issue may arise whether provision for CSR obligation for the entire year should be recognised in the first quarter or the provision for unspent amount should be made at the end of the year. In this regard, the ICAI has clarified that for the unspent amount a legal obligation arises to transfer to specified accounts depending upon the fact whether or not such unspent amount relates to on-going projects. Therefore, liability needs to be recognised for such unspent amount as at the end of the financial year. However, the amount spent during the interim period needs to be charged as expense for the same interim period. It cannot be deferred to the remaining interim periods of the financial year.

The amendments have also prescribed significant penalties, e.g., in case of non-compliance with provisions relating to unspent amount a penalty twice the default amount would be imposed on the company subject to a maximum of INR 1 crore. The auditor will need to evaluate the implications on the audit report in case of non-compliance with the mandatory and stringent CSR provisions.

III. MANAGERIAL REMUNERATION
Section 149(9) of the 2013 Act provides that an independent director may receive remuneration by way of profit-related commission as may be approved by the members. In case of no / inadequate profit, section 197 of the 2013 Act permitted payment of remuneration only to its executive directors or managers.

The MCA has extended the model followed for remuneration to executive directors to non-executive directors (including independent directors) by amending section 149 and section 197, and Schedule V to the 2013 Act. Schedule V now prescribes the following limits for payment of remuneration to each non-executive director (including independent directors):

Where the effective capital is	Limit of yearly remuneration payable shall not exceed (INR) in case of other director (i.e., other than managerial person)
Negative or less than INR 5 crores	12 lakhs
INR 5 crores and above but less than INR 100 crores	17 lakhs
INR 100 crores and above but less than INR 250 crores	24 lakhs
INR 250 crores and above	24 lakhs plus 0.01% of the effective capital in excess of INR 250 crores

Remuneration in excess of the above limits may be paid if the resolution passed by the shareholders is a special resolution.

While Schedule V has been amended to include the limits for non-executive directors, Explanation II which provides for computation of effective capital for a managerial person has not been amended. It provides as below:
• Where the appointment of the managerial person is made in the year in which the company has been incorporated, the effective capital shall be calculated as on the date of such appointment;

• In any other case the effective capital shall be calculated as on the last date of the financial year preceding the financial year in which the appointment of the managerial person is made.

In the absence of a specific amendment, one may take the view that similar provisions should be applied for other directors also, i.e., for a non-executive director. The MCA may issue a clarification in this regard.

The above amendment is effective from 18th March, 2021. This means that companies would need to comply with the amended provisions in F.Y. 2020-21 and onwards.

Amendment to remuneration policy
The earlier remuneration policies of the company would not have the flexibility of payment of remuneration in case of no / inadequate profits as payment of remuneration to non-executive directors (including independent directors). Since the amendments now permit payment of remuneration in case of loss / inadequate profits, the remuneration policy of the company would need to be updated so as to comply with these requirements.

Auditor’s reporting
Auditor’s reporting on director’s remuneration in its audit report (under ‘Report on Other Legal and Regulatory Requirement’) will encompass remuneration paid to non-executive directors as well. Since remuneration would be paid to non-executive directors (including independent directors) in case of no / inadequate profits, the auditors would need to verify compliance in this regard.

BOTTOMLINE
The overhaul of the CSR provisions, amendments to the definition of listed company and managerial remuneration highlights the intent of the MCA aimed towards developing a robust and coherent regulatory and policy framework and underlying ecosystem. The primary responsibility of effective implementation of these amendments lies with the management by ensuring their compliance in a timely manner. However, the reporting responsibilities and issuing a true and fair view on the financial statements of the company lies with the auditor. The auditor should keep track of these fast-changing regulations and their consequential implications on the audit report, especially in case there is any non-compliance.

Love what you have. Need what you want. Accept

shailesh.kwebmaker

SPECIAL PURPOSE ACQUISITION COMPANIES – ACCOUNTING AND TAX ISSUES

Special Purpose Acquisition Companies (SPACs) have become a rage in the United States and some other countries over the past few months. SPACs have a number of unique features – they have a limited shelf-life as they are in business only for a few years, they have no object other than acquiring a target company and they do not have too much in common with other corporates in terms of assets, liabilities, employees, etc. SEBI is considering issuing guidelines on how SPACs should operate in India. This article summarises the accounting and tax issues that SPACs could encounter here.

INTRODUCTION
SPACs. The word does not sound very exciting but it is a phenomenon that is taking stock markets (at least in the USA) by storm. The abbreviation expands as Special Purpose Acquisition Companies but a more street-sounding name is ‘blank cheque companies’. These are companies that are set up with next to nothing and list on the stock exchanges only for the purpose of raising capital for acquisitions. In India, SEBI is planning to come out with a framework on SPACs ostensibly to facilitate Startups to list on the exchanges. SPACs are usually formed by private equity funds or financial institutions, with expertise in a particular industry or business sector, with investment for initial working capital and issue-related expenses.

Private companies would benefit from SPACs as they go on to become listed entities without going through the rigours of an Initial Public Offering (IPO). It is not that SPACs is a new phenomenon – the concept of reverse mergers resembles a SPAC in many respects. SPACs are different from normal companies in that they have only one object – to list on the exchanges with the sole intention of acquiring a target company. One of the main advantages of a SPAC is the fact that it can use forward-looking information in the prospectus – this may not be permitted in a usual IPO.

In case the SPAC is not able to identify and acquire a target company within the set time frame it winds up and the funds are returned to the investors. In case the SPAC identifies a target company and enters into a Business Combination, the shareholders of the SPAC will have the opportunity to redeem their shares and, in many cases, vote on the initial Business Combination transaction. Each SPAC shareholder can either remain a shareholder of the company after the initial Business Combination or redeem and receive its pro rata amount of the funds held in the escrow account.

Investors in a SPAC put in a small amount of money for a stake in the company (usually around 20%). They get allotted shares with a lock-in period of up to a year. They have the option of exiting once the lock-in period is over. SPACs would also have similarities with Cat-1 alternate investment funds (AIF’s) – an angel fund listing on the SME platform.

THREE STAGES
Usually, a SPAC will have three phases with different time frames:

*Stage*	*Activity*	*Indicative time frame*
1	IPO	3 months
2	Search for target company	18 months
3	Close transaction	3 months

Ind AS accounting standards
Since all SPACs have to list on some stock exchange, they would have to follow Ind AS accounting standards as it is mandatory for all listed entities.

Stage 1
In Stage 1, SPACs normally issue different types of financial instruments to the founders / investors such as equity shares, convertible shares or share warrants. Investors would be keen to invest in these instruments since the warrants give them an opportunity to get some more shares in case a target company has been identified. Usually, the IPO price is fixed at par (say Rs. 10) while the exercise price of the warrants is fixed about 15% higher. SPACs are forced to invest at least 85% of their IPO proceeds in an escrow account. Accounting for these instruments would be driven by Ind AS 32 / Ind AS 109. Since the SPAC would not be undertaking any commercial activities at this stage, very few Ind AS standards other than Ind AS 32/109 would need to be applied. Typically, at this stage SPACs do not own too many assets. The nature of the financial instruments issued to the investors would determine the accounting. These instruments could be equity instruments, share warrants that are exercisable, convertible shares or bonds and other instruments that are entirely equity in nature. The type of the instrument would determine whether it would be accounted for as equity share capital, under other equity, or as a separate line item ‘instruments that are entirely equity in nature’.

Stage 2
Once a target company has been identified and the acquisition is formalised, Ind AS 103 Business Combinations would have to be applied. There are seven steps in Business Combination accounting:

1.   Is it an acquisition
2.   Identify the acquirer
3.   Ascertain acquisition date
4.   Recognising and measuring assets acquired, liabilities assumed, and NCI
5.   Measuring consideration
6.   Recognising and measuring Intangible Assets
7.   Post-acquisition measurement and accounting

First step – Is it an acquisition?
An amendment to Ind AS 103 has made the distinction between an asset acquisition and a Business Combination clearer. The main pointers are:

1.   Business must include inputs and substantive processes applied to those inputs which have ability to create output / contribute to ability to create output.
2.   Change in definition of ‘output’ – it now focuses on goods and services provided to customers.
3.   Omission of ability to substitute the missing inputs and processes by the market participants.
4.   Addition of ‘Optional Concentration Test’.

Remaining steps
Once the transaction meets the definition of a Business Combination, the other six steps would need to be followed. These would invariably be: identifying the acquirer, determining the acquisition date, measuring acquisition date fair values, measuring the consideration to be paid, recognising goodwill and deciding on post-combination accounting. Business Combination Accounting permits the recognition of previously unrecognised Intangible Assets – this clause would be important for SPACs since they would invariably look at technology companies that have some Intangible Assets for an acquisition.

GOING CONCERN?
Most SPACS have a limited shelf-life of about two to three years. One of the fundamental principles on which the Framework to Ind AS Standards has been formulated is the principle of Going Concern. An interesting question that arises is whether the management will need to comment on the going concern concept since it is clear that the SPAC will not be a going concern in a few years from the date of listing. Usually, SPACs provide a disclosure on their status in the financial statements. The disclosure given below is from the Form 10K (annual report) of Churchill Capital Corp IV for the year ended 31st December, 2020:

‘Our amended and restated certificate of incorporation provides that we will have until 3rd August, 2022, the date that is 24 months from the closing of the IPO, to complete our initial business combination (the period from the closing of the IPO until 3rd August, 2022, the “completion window”). If we are unable to complete our initial business combination within such period, we will: (1) cease all operations except for the purpose of winding up; (2) as promptly as reasonably possible, but not more than ten business days thereafter, redeem the public shares at a per share price, payable in cash, equal to the aggregate amount then on deposit in the trust account, including interest (net of permitted withdrawals and up to $100,000 of interest to pay dissolution expenses), divided by the number of then outstanding public shares, which redemption will completely extinguish public stockholders’ rights as stockholders (including the right to receive further liquidating distributions, if any), subject to applicable law; and (3) as promptly as reasonably possible following such redemption, subject to the approval of our remaining stockholders and our board of directors, dissolve and liquidate, subject in each case to our obligations under Delaware law to provide for claims of creditors and the requirements of other applicable law. There will be no redemption rights or liquidating distributions with respect to our warrants, which will expire worthless if we fail to complete our initial business combination within the completion window.’

It would appear that a disclosure on the above lines would suffice to satisfy the ability of the entity to continue as a going concern during the limited period of its existence.

CONTINGENT CONSIDERATION
A SPAC merger agreement may include a provision for additional consideration to be transferred to the shareholders of the target company in the future if certain events occur or conditions arise. This additional consideration, commonly referred to as an ‘earn-out’ payment, may be in the form of additional equity interests in the combined company, cash or other assets. If the SPAC is identified as the accounting acquirer and the target company is a business, the earn-out payment may represent contingent consideration in connection with a Business Combination. While such payments may be negotiated as part of the merger, the terms of the arrangement need to be evaluated to determine whether the payment is part of or separate from the Business Combination. In making this evaluation, the SPAC should consider the nature of the arrangement, the reasons for entering into the arrangement and which party receives the primary benefits from the transaction.

If the arrangement is entered into primarily for the benefit of the SPAC or the combined company rather than primarily for the benefit of the target or its former shareholders, the arrangement is likely a separate transaction that should be accounted for separately from the Business Combination. For example, payments are sometimes made to shareholders of the target company who will remain as employees of the combined company after the merger. In this case, the SPAC must carefully evaluate whether the substance of the arrangement is to compensate the former shareholders for future services rather than to provide additional consideration in exchange for the acquired business. If the SPAC determines that an earn-out provision represents consideration transferred for the acquired business, the contingent consideration is recognised at acquisition-date fair value under Ind AS 103. However, earn-out arrangements that represent separate transactions are accounted for under other applicable Ind AS. For example, payments made to former shareholders of the target company that are determined to be compensatory are accounted for as compensation expense for services provided in the post-merger period.

TAX IMPACT
Shareholders
At the time of the Business Combination, shares are usually issued. For shareholders under the Indian Income-tax Act, 1961, issue of shares in any form results in a ‘transfer’ of shares held by the existing shareholders of the Indian target entity. The consideration is received in the form of SPAC shares. Capital gains tax may emerge on the sale / swap of shares of the Indian target company against the shares of SPAC. The taxable capital gains would be the excess of the fair market value over the cost of acquisition in the hands of the selling shareholders. Tax rates vary from 10% to 40% under the Indian tax laws, plus applicable surcharge and cess. Tax rates shall primarily depend upon various factors – inter alia, the mode of transfer, i.e., share swap vs. merger, residential status of shareholders, availability of treaty benefits and the period of holding of the shares.

SPAC
A SPAC is required to comply with the applicable withholding tax obligation at the time of discharge of consideration to non-residents, i.e., whether on account of a merger or swap of shares.

If an Indian target company has unabsorbed tax losses and its shareholder voting rights change by more than 49%, then the unabsorbed tax losses would lapse and it shall not be eligible to carry forward its past tax losses.

Once the shares of the SPAC are listed, it is possible that the tax implications of the indirect transfer rules outlined in section 9(1)(i) would need to be considered. However, this would apply only if the SPAC is a foreign company. [Will SPAC be an Indian or a foreign company?] If it is an Indian company, then its shares are actually located in India only. Where is the question of applying indirect transfer rules? For example, a tax liability would arise if a SPAC derives its substantial value from India (more than 50%) under the Indian indirect transfer rules. Shareholders who hold less than 5% of the voting power or the SPAC’s capital are not subject to Indian indirect transfer implications, provided certain conditions are met. For other shareholders, any transfer of SPAC shares results in Indian indirect transfer implications.

SPONSORS
Typically, a SPAC sponsor converts its Class B shares into Class A shares upon successfully acquiring a target company. Depending upon the date and timing of the Business Combination and the conversion of Class B shares into Class A shares, tax implications under the Indian indirect transfer rules need to be evaluated for the SPAC sponsor.

SPACs would also need to consider the implications of Notification No. 77/2021 dated 7th July, 2021 issued by the Central Board of Direct Taxes which clarifies that where the value of net goodwill removed from the block is in excess of the opening written down value as on 1st April, 2020, such excess will now be offered to tax as short-term capital gain.

WOULD SPACs BE A SUCCESS IN INDIA?
The answer to this question would obviously depend on the guidance that SEBI comes up with on SPACs. The Primary Market Advisory Committee of SEBI is deliberating on whether a framework for SPACs should be introduced. The Committee is also looking into any safeguards that should be built into the framework being proposed. From the information available now, SPACs are being set up by hedge funds and private equity investors who plan for a quick exit from their investments in a couple of years. The success of SPACs depends on the existence of companies that are available for a Business Combination. Traditional Indian companies may not be interested in the SPAC route as many would feel that it is too short-term in nature – they are in for the long term. Startups could provide a good source of companies that are SPAC-eligible. India has a large number of Startups but how many of them are worthy of listing remains to be seen. In addition, Indian companies do not have a history of issuing complicated financial instruments which is one of the basic requirements of a SPAC. As things stand today, it would be reasonable to conclude that there will be a few SPAC transactions in India but the concept of SPAC is not going to overly excite everyone at Dalal Street!

shailesh.kwebmaker

MLI SERIES ANALYSIS OF ARTICLES 3, 5 & 11 OF THE MLI

A. ARTICLE 3 – Hybrid mismatch arrangement

Instances of entities treated differently by countries for taxation are commonplace. A partnership is a taxable person under the Indian Income-tax Act, 1961, while in the United Kingdom a partnership has a pass-through status for tax purposes, with its partners being taxed instead. The problems caused by such asymmetric treatment of entities as opaque or transparent for taxation by the Contracting States is well-documented. There have been attempts to regulate the treatment of such entities, notably the 1999 OECD Report on Partnerships and changes made to the Commentary on Article 1 of the OECD Model in 2003. One common problem where Contracting States to a tax treaty treat an entity differently for tax purposes is double non-taxation. Let us take the following example, which illustrates double non-taxation of an entity’s income:

Example 1: T is an entity established in State P. A and B are members of T residing in State R. State P and State S treat the entity as transparent, but State R treats it as a taxable entity. T derives business profits from State S that are not attributable to a permanent establishment in State S.

Figure 1

State S treats entity T as fiscally transparent and recognises the business profits as belonging to members A and B, who are residents of State R. Applying the State R-S Treaty, State S is barred from taxing the business profits without a PE. On the other hand, State R does not flow through the partnership’s income to its partners. Accordingly, State R treats entity T as a non-resident and does not tax the income or tax its partners A and B. The double non-taxation arises because both State R and State S treat the entity differently for taxation. Another problem is that an entity established in State P could have partners / members belonging to third countries (as in Figure 1 above), encouraging treaty shopping.

1.1 Income derived by or through fiscally transparent entities [MLI Article 3(1)]
The Action 2 Report of the Base Erosion and Profit Shifting (BEPS) Project on Hybrid mismatch arrangements (‘Action 2 Report’) deals with applying tax treaties to hybrid entities, i.e., entities that are not treated as taxpayers by either or both States that have entered into a tax treaty. Common examples of such hybrid entities are partnerships and trusts. The OECD Commentary on Article 1 of the Model (before its 2017 Update) contained several paragraphs describing the treatment given to income derived from fiscally transparent partnerships based on the 1999 Partnership Report.

As per the recommendation in the Action 2 Report, Article 3(1) of the Multilateral Instrument (‘MLI’) inserts a new provision in the Covered Tax Agreements (‘CTA’) which is to ensure that treaties grant benefits only in appropriate cases to the income derived through these entities and further to ensure that these benefits are not granted where neither State treats, under its domestic law, the income of such entities as the income of one of its residents. A similar text has also been inserted as Article 1(2) in the OECD Model (2017 Update).

Article 3(1) reads as under:
For the purposes of a Covered Tax Agreement, income derived by or through an entity or arrangement that is treated as wholly or partly fiscally transparent under the tax law of either Contracting Jurisdiction shall be considered to be income of a resident of a Contracting Jurisdiction but only to the extent that the income is treated, for purposes of taxation by that Contracting Jurisdiction, as the income of a resident of that Contracting Jurisdiction.

The impact of Article 3(1) on a double tax avoidance agreement can be illustrated in the facts of Example 1 above. Unless State R ‘flows through’ the income of the entity T to its partners for taxation and tax the income sourced in State S as income of its residents, State S is not required to exempt or limit its taxation as a Source State while applying the R-S Treaty. State S will also not apply the P-S Treaty since the income belongs to the partners of entity T who are not residents of State P. The Source State is expected to give treaty benefits only to the extent the entity’s income is treated for taxation by the Residence State as the income of its residents. The following example illustrates this:

Example 2: A and B are entity T’s members residing in State P and R, respectively. States R and P treat the entity as transparent, but State S treats it as a taxable entity. A derives interest arising in State S. There is no treaty between State R and State S.

Figure 2

In this example, State S will limit its taxation of interest arising in that State under the P-S Treaty to the extent of the share of A in the profits of P. The income derived from the entity by the other member B will not be considered by State S to belong to a resident of State P and it will not extend the P-S treaty to that portion of income. Since there is no R-S treaty, State S will tax the income derived by member B from the entity as per its domestic law.

The OECD Commentary
As per paragraph 7 of the Commentary on Article 1 in the OECD Model (2017 Update), any income earned by or through an entity or arrangement which is treated as fiscally transparent by either Contracting States will be covered within the scope of Article 1(2) [which is identical to Article 3(1) of the MLI] regardless of the view taken by each Contracting State as to who derives that income for domestic tax purposes, and regardless of whether or not that entity or arrangement has a legal personality or constitutes a person as defined in Article 3(1) of the Convention. It also does not matter where the entity or arrangement is established: the paragraph applies to an entity established in a third State to the extent that, under the domestic tax law of one of the Contracting States, the entity is treated as wholly or partly fiscally transparent, and income of that entity is attributed to a resident of that State. State S is required to limit application of its DTAA only to the extent the other State (State R or State P, as the case may be) would regard the income as belonging to its resident. Thus, when we look at the facts in Example 2 above, the outcome will not change even if the entity T is established in State R (or a third state which has a treaty with State S) so long as that State flows through the income of the entity to a member resident in that State.

In other words, State S applies the P-S Treaty because A is a resident of State P and is taxed on his share of income from entity T and not because the entity is established in that State. Similarly, if a treaty exists between State R and State S, State S shall apply that treaty only to the extent of income which State R regards as income of its resident (B in this case).

However, India has expressed its disagreement with the interpretation contained in paragraph 7 of the Commentary. It considers that Article 1(2) covers within its scope only such income derived by or through entities that are resident of one or both Contracting States. Article 4(1)(b) of the India-USA DTAA (which is not a CTA) is on the lines of Article 3(1) of the MLI. On the other hand, Article 1 of the India-China Treaty (which was amended vide a Protocol in 2018 and not through the MLI) requires the entity or arrangement to be established in either State and to be treated as wholly fiscally transparent under the tax laws of either State for the rule on fiscally transparent entities to apply.

Impact on India’s treaties
India has reserved the application of the entirety of Article 3 of the MLI relating to transparent entities from applying to its CTAs, which means that this Article will not apply to India’s treaties. A probable reason could be that India finds it preferable to bilaterally agree on any enhancement of scope of the provisions relating to transparent partnerships to other fiscally transparent entities only after an examination of its impact bilaterally rather than accept Article 3(1) in the MLI, which would have applied across the board to all its CTAs.

1.2 Income derived from fiscally transparent entities – Elimination of double taxation [MLI Article 3(2)]
Action 6 Report of the BEPS Project on Preventing the Granting of Treaty Benefits in Inappropriate Circumstances (‘Action 6 Report’) recommends changes to the provisions relating to the elimination of double taxation. Article 3(2) of the MLI is intended to modify the application of the provisions related to methods for eliminating double taxation, such as those found in Articles 23A and 23B of the OECD and UN Model Tax Conventions. Often, such situations arise in respect of income derived from fiscally transparent entities. For this reason, this provision has been inserted in Article 3 of the MLI which deals with transparent entities. Article 3(2) of the MLI reads as follows:

Provisions of a Covered Tax Agreement that require a Contracting Jurisdiction to exempt from income tax or provide a deduction or credit equal to the income tax paid with respect to income derived by a resident of that Contracting Jurisdiction which may be taxed in the other Contracting Jurisdiction according to the provisions of the Covered Tax Agreement shall not apply to the extent that such provisions allow taxation by that other Contracting Jurisdiction solely because the income is also income derived by a resident of that other Contracting Jurisdiction. [emphasis supplied]

The article on eliminating double taxation in a tax treaty obliges the Contracting States to provide relief of double taxation either under exemption or credit method where the other State taxes the income of a resident of the first State in accordance with that treaty. However, there may be cases where each Contracting State taxes the same income as income of one of its residents and where relief of double taxation will necessarily be with respect to tax paid by a different person. For example, an entity is taxed as a resident by one State while it is treated as fiscally transparent, and its members are taxed instead, in the other State, with some members taxed as residents of that other State. Thus, any relief of double taxation will need to take into account the tax that is paid by different taxpayers in the two States.

Action 6 Report notes that, as a matter of principle, Articles 23A and 23B of the OECD Model require a Contracting State to relieve double taxation of its residents only when the other State taxed the relevant income as the Source State or as a State where there is a permanent establishment to which that income is attributable. The Residence State need not relieve any double taxation arising out of taxation imposed by the other State in accordance with the provisions of the relevant Convention solely because the income is also income derived by a resident of that State. In other words, the obligation to extend relief lies only with that State which taxes an income of a person solely because of his residence in that State. Other State which may tax such income because of both source and residence need not extend relief. This will obviate cases of double taxation relief resulting in double non taxation.

The OECD Commentary gives some examples to illustrate the scope of this provision. Some of these examples are discussed here in the context of the India-France DTAA for the reader to relate to them more easily.

Example 3: The partnership P is an Indian resident under Article 4 of the India-France DTAA. In France, the partnership is fiscally transparent and France taxes both partners A and B as they are its residents.

Figure 3

The only reason France may tax P’s profits in accordance with the provisions of the Treaty is that the partners of P are its residents and not because the income arises in France. In this example, France is taxing income of A and B solely on residence whereas India is taxing income of P on both residence and source. Thus, India is not obliged to give credit to P for the French taxes paid by the partners on their share of profit of P. On the other hand, France will be required to provide relief under Articles 23 with respect to the entire income of P as India may tax that income in accordance with the provisions of Article 7. This is even though India taxes the income of P, which is its resident. The Indian taxes paid by P will have to be considered for exemption under Article 23 against French taxes payable by the partners in France.

Example 4: Income from immovable property situated in other State

Figure 4

The facts are the same as in Example 3 except that P earns rent from immovable property in France. In this example, France is taxing income of A and B on residence and source whereas India is taxing income of P solely on residence. Thus, India is obliged to give credit for French taxes paid, which is in accordance with Article 6 of the India-France Treaty even though France taxes the income derived by the partners who are French residents. On the other hand, France is not obliged to give credit for Indian taxes, which are paid only because P is resident in India and not because income is sourced in India. However, both India and France have to give credit to tax paid in third State as per their respective DTAAs with the third State. If there is no DTAA with the third State, credit may be given as per the respective domestic law [viz., section 91 of IT Act]. Both India and France giving FTC is not an aberration as both would have included income from third State in taxing their residents.

Example 5: Interest from a third state

Figure 5

Here, the facts are the same as in Example 3 except that P earns interest arising in a third State. France taxes the interest income in the hands of the partners only because they are French residents. Consequently, India is not obliged to grant credit for French taxes paid by the partners in France. In this case, India is not obliged to give credit for French taxes paid in accordance with the India-France Treaty only because the interest is derived by the partners who are French residents. Also, France is not obliged to give credit for Indian taxes paid in accordance with the Treaty only because P is resident in India and not because income is sourced in India.

The above discussion is also relevant for countries that have opted for the credit method in Option C through Article 5(6) of the MLI since that Option contains text similar to that contained in Article 3(2).

1.3 Right to tax residents preserved for fiscally transparent entities [MLI Article 3(3)]
It is commonly understood that tax treaties are designed to avoid juridical double taxation. However, treaties have been interpreted in a manner to restrict the Resident State from taxing its residents. Article 11 of the MLI contains the so-called ‘savings clause’ whereby a Contracting State shall not be prevented by any treaty provision from taxing its residents. Article 3(3) of the MLI provides for a similar provision for fiscally transparent entities. The saving clause, as introduced by Article 11, is discussed in greater detail elsewhere in this article.

Impact on India’s treaties
Since India has reserved the entirety of Article 3 of the MLI, paragraphs 2 and 3 also do not apply to modify any of India’s CTAs.

B. ARTICLE 5 – Methods of elimination of double taxation
Double non-taxation arises when the Residence State eliminates double taxation through an exemption method with respect to items of income that are not taxed in the Source State. Article 5 of the MLI provides three options that a Contracting Jurisdiction could choose from to prevent double non-taxation, which is one of the main objectives of the BEPS project. These are described below:

2.1 Option A
Article 23A of the OECD Model Convention provides for the exemption method for relieving double taxation. There have been instances of income going untaxed in both States due to the Source State exempting that income by applying the provisions of a tax treaty, while the Resident State also exempts the same. Paragraph 4 of Article 23A of the OECD Model addresses this problem by permitting the Residence State to switch from the exemption method to the credit method where the other State has not taxed that income in accordance with the provisions of the treaty between them.

As explained in the OECD Model (2017) Commentary on Article 23A (paragraph 56.1), the purpose of Article 23A(4) is to avoid double non-taxation as a result of disagreements between the Residence State and the Source State on the facts of a case or the interpretation of the provisions of the Convention. An instance of such double non-taxation could be where the Source State interprets the facts of a case or the provisions of a treaty in such a way that a treaty provision eliminates its right to tax an item of income. At the same time, the Residence State considers that the item may be taxed in the Source State ‘in accordance with the Convention’ which obliges it to exempt such income from tax.

The BEPS Action 2 Report on Hybrid Arrangements recommends that States which apply the exemption method should, at the minimum, include the ‘defensive rule’ contained in Article 23A(4) in the tax treaties where such provisions are absent. As per Option A, the Residence State will not exempt such income but switch to the credit method to relieve double taxation of its residents [MLI-A 5(3)]. For example, Austria and the Netherlands, both of whom adopt the exemption method to relieve double taxation of their residents, have chosen Option A and have notified the relevant article eliminating double taxation present in the respective CTAs with India. The deduction from tax in the Residence State shall be an ordinary credit not exceeding the tax attributable to the income or capital which may be taxed in the other State.

2.2 Option B
One of the instances of base erosion is commonly found under a hybrid mismatch arrangement where payments are deductible under the rules of the payer jurisdiction but not included in the ordinary income of the payee or a related investor in the other jurisdiction. The Action 2 Report recommends introducing domestic rules targeting deduction / no inclusion outcomes (‘D/NI outcomes’). Under this recommended rule, a dividend exemption provided for relief against economic double taxation should not be granted under domestic law to the extent the dividend payment is deductible by the payer.

In a cross-border scenario, several treaties provide an exemption for dividends received from foreign companies with substantial shareholding. To counter D/NI outcome from such treatment, insertion of a provision akin to Article 23A(4) (described above under Option A) provides only a partial solution. Option B found in Article 5(4) of the MLI permits the Residence State of the person receiving the dividend to apply the credit method instead of the exemption method generally followed by it for dividends deductible in the payer State. None of India’s treaty partners has chosen this Option.

2.3 Option C
Action 2 Report also recommends States to not include the exemption method but opt for the credit method in their treaties as a more general solution to the problems of non-taxation resulting from potential abuses of the exemption method. Option C implements this approach wherein the credit method would apply in place of the exemption method provided for in tax treaties. The deduction from tax in the Residence State shall be an ordinary credit not exceeding the tax attributable to the income or capital which may be taxed in the other State.

The text of Option C contains the words in parenthesis, ‘except to the extent that these provisions allow taxation by that other Contracting Jurisdiction solely because the income is also income derived by a resident of that other Contracting Jurisdiction’. These words are similar to the MLI provision in Article 3(2) relating to fiscally transparent entities. The reader can refer to the discussion under Article 3(2) above, which describes the import of these words, which have also been added in Article 23A-Exemption Method and Article 23B-Credit Method in the OECD Model (2017). As per paragraph 11.1 of the Commentary on Articles 23A and 23B, this rule is merely clarificatory. Even in the absence of the phrase, the rule applies based on the current wording of Articles 23A and 23B.

2.4 Asymmetric application
Article 5 of the MLI permits an asymmetric application with the options chosen by each State applying with respect to its residents. For example, India has chosen Option C which applies to the provisions for eliminating double taxation to be followed by India in its treaties for its residents. The provisions in a treaty to eliminate double taxation by the other State are not affected by India’s choice of Option. Similarly, the other State’s choice also does not affect the provision relating to India. For example, the Netherlands has opted for Option A, while the Elimination article in the treaty for India will not get modified as India has not notified the CTA provision.

2.5 Impact of India’s treaties
India’s treaties generally follow the ordinary credit method to eliminate double taxation of its residents barring a few countries where it adopts the exemption method. India has opted for Option C, which will apply in place of the exemption method in the CTAs, where it follows the exemption method. Accordingly, India has notified its CTAs with Bulgaria, Egypt, Greece and the Slovak Republic. Greece and Bulgaria have reserved the application of Article 5 of the MLI, due to which their CTAs with India are not modified. Both India and the Slovak Republic have chosen Option C and both countries have moved from the exemption method in their CTA to the credit method. As for its CTA with Egypt, India’s Option C applies for its residents while Egypt has not selected any option and the exemption method in the CTA continues to apply to its residents. By opting for Option C with the Slovak Republic and Egypt, India has impliedly applied MLI 3(2) which it has otherwise reserved in entirety.

Of the other countries which apply the exemption method to relieve double taxation of their residents in India’s treaties, Austria and the Netherlands have opted for Option A and notified the CTA provisions. Estonia and Luxembourg, too, follow the exemption method for their residents in their CTA with India. Yet, though they have opted for Option A, they have not notified the relevant provisions and the CTAs shall remain unmodified. Presumably, since the India-Luxembourg DTAA already contains provisions of the nature contained in Option A, and under the India-Estonia treaty, Estonia exempts only that income from taxation taxed in India, these jurisdictions have chosen not to avail of the defensive rule provided in the MLI.

C. ARTICLE 11 – Saving of a State’s right to tax its own residents
3.1 Rationale
A double tax treaty is entered into with the object of relieving juridical double taxation. The double taxation is relieved, either by allocating the taxing rights to one of the contracting States to that treaty, or eliminated by the relief provisions through an exemption or credit method. However, treaties have sometimes been interpreted to restrict the Resident State from taxing its residents in some instances.

One example would be to interpret the phrase ‘may be taxed in the source State’ as ‘shall only be taxed in the source State’, thereby denuding the right of the Residence State to tax its resident. Another example is a partnership that is resident of State P with one partner resident of State R. State P taxes the partnership while State R treats the partnership as transparent and taxes the partners.

Figure 6

The partnership P is resident of State P and is entitled to the P-R Treaty, similar to the OECD Model. If the partnership earns royalty income arising in State R, State R is not entitled to tax the same as per Article 12(1) of the OECD Model which allocates the taxing right only to the residence state, State P. Thus, the partner resident in State R could argue, based on the language of Article 12(1), that State R does not have the right to tax him on his share of the royalty income earned by the partnership since the P-R treaty restricts the taxing right of State R.

However, many countries disagree with this interpretation. Article 12 applies to royalties arising in one State and paid to a resident of the other State. When taxing partner B, State R is taxing its resident on income arising in its territory. To clarify that State R is not prevented from taxing its residents, paragraph 6.1 was inserted to the Commentary on Article 1 of the OECD Model, which reads as under:

‘Where a partnership is treated as a resident of a Contracting State, the provisions of the Convention that restrict the other Contracting State’s right to tax the partnership on its income do not apply to restrict that other State’s right to tax the partners who are its own residents on their share of the income of the partnership. Some states may wish to include in their conventions a provision that expressly confirms a Contracting State’s right to tax resident partners on their share of the income of a partnership that is treated as a resident of the other State.’

The BEPS Report on Action 6 – Preventing Treaty Abuse concluded that the above principle reflected in paragraph 6.1 of the Commentary on Article 1 should be more generally applied to prevent interpretations intended to circumvent the application of a Contracting State’s domestic anti-abuse rules. The report recommends that the principle that treaties do not restrict a State’s right to tax its residents (subject to certain exceptions) should be expressly recognised by introducing a new treaty provision. The new provision is based on the so-called ‘saving clause’ usually found in US tax treaties. The object of such a clause is to ‘save’ the right of a Contracting State to tax its residents. In contrast to the savings clause in the US treaties that apply to residents and citizens, the savings clause inserted into the covered tax agreements by Article 11 of the MLI applies only to residents. The savings clause inserted by Article 11 of the MLI plays merely a clarifying role, unlike the substantial role of the US savings clause due to its more extensive scope.

Article 11 of the MLI is aimed at the Residence State and its tax treatment of its residents. This provision does not impact the source taxation of non-residents. There are several exceptions to this principle listed in Article 11 of the MLI where the rights of the Resident State to tax its residents are intended to be restricted:

a) A correlative or a corresponding adjustment [a provision similar to Article 7(3) or 9(2) of the OECD Model] to be granted to a resident of a Contracting State following an initial adjustment made by the other Contracting State in accordance with the relevant treaty on the profits of a permanent establishment of that enterprise or an associated enterprise;
b) Article 19, which may affect how a Contracting State taxes an individual who is resident of that State if that individual derives income in respect of services rendered to the other Contracting State or a political subdivision or local authority thereof;
c) Article 18 which may provide that pensions or other payments made under the social security legislation of the other Contracting State shall be taxable only in that other State;
d) Article 18 which may provide that pensions and similar payments, annuities, alimony payments, or other maintenance payments arising in the other Contracting State shall be taxable only in that other State;
e) Article 20, which may affect how a Contracting State taxes an individual who is a resident of that State if that individual is also a student who meets the conditions of that Article;
f) Article 23, which requires a Contracting State to provide relief of double taxation to its residents with respect to the income that the other State may tax in accordance with the Convention (including profits that are attributable to a permanent establishment situated in the other Contracting State in accordance with paragraph 2 of Article 7);
g) Article 24, which protects residents of a Contracting State against certain discriminatory taxation practices by that State (such as rules that discriminate between two persons based on their nationality);
h) Article 25, which allows residents of a Contracting State to request that the competent authority of that State consider cases of taxation not in accordance with the Convention;
i) Article 28, which may affect how a Contracting State taxes an individual who is resident of that State when that individual is a member of the diplomatic mission or consular post of the other Contracting State;
j) Any provision in a treaty which otherwise expressly limits a Contracting State’s right to tax its residents or provides expressly that the Contracting State in which an item of income arises has the exclusive right to tax that item of income.

The last item [at serial (j) above] is a residuary provision that refers to the distributive rules granting the Source State the sole right to tax an item of income. For example, Article 7(1) of the India-Bangladesh DTAA provides that the State where a PE is situated has the sole right to tax the profits attributable to that PE and is not impacted by the savings clause. Treaty provisions expressly limiting the tax rate imposable by a Contracting State on its residents are also covered by the exception to the savings clause. An example of such a provision is contained in Article 12(1) of the Israel-Singapore Treaty which states: ‘Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State. However, the tax so charged in the other Contracting State shall not exceed 20 per cent of the amount of such royalties.’

3.2 Dual-resident situations
The saving clause in Article 11 of the MLI applies to taxation by a Contracting State of its residents. The meaning of residents flows from Article 4 (dealing with Residence) of the tax treaties and not from the domestic tax law. Thus, where a person is resident in both Contracting States within the meaning of Article 4 of the treaty, the tie-breaker rule in Article 4(2) or (3) will determine the State where that person is resident, and the saving clause shall apply accordingly. The State that loses in the tie-breaker does not benefit from the savings clause to retain taxing right over that person even though he is its resident as per its domestic tax law.

3.3 Application of domestic anti-abuse rules
A savings clause also achieves another objective of preserving anti-abuse provisions by the Resident State like the ‘controlled foreign companies’ (‘CFC’) rules. In a CFC regime, the Resident State taxes its residents on income attributable to their participation in certain foreign entities. It has sometimes been argued, based on a possible interpretation of provisions of the Convention such as paragraph 1 of Article 7 and paragraph 5 of Article 10, that this common feature of CFC legislation conflicted with these provisions. The OECD Model Commentary (2017 Update) on Article 1 in paragraph 81 states that Article 1(3) of the Model (containing the saving clause) confirms that any legislation like the CFC rule that results in a State taxing its residents does not conflict with tax conventions.

3.4 India’s position and impact on India’s treaties
India has not made any reservation for the application of Article 11. Forty-one countries have reserved their application leaving 16 CTAs to be modified by inserting the savings clause. Article 11 of the MLI will have only a limited effect on India’s treaties as India does not have domestic CFC rules and treats partnerships as fiscally opaque. However, it is possible that the interpretation of the courts of the distributive rule ‘may be taxed’ in the Source State as ‘shall be taxed only’ in the Source State, thus preventing the taxation by India of such income of its residents could be impacted.

In CIT vs. R.M. Muthaiah [1993] 202 ITR 508 (Kar), the High Court, interpreting the words ‘may be taxed’ in the context of the India-Malaysia Treaty, held that ‘when a power is specifically recognised as vesting in one, exercise of such a power by other, is to be read, as not available; such a recognition of power with the Malaysian Government would take away the said power from the Indian Government; the Agreement thus operates as a bar on the power of the Indian Government in the instant case.’ The High Court concluded that India could not tax its residents on such income. Article 11 of the MLI could undo the decision to enable India to tax its residents, notwithstanding the said ruling. On the other hand, an alternative interpretation could be that ‘may be taxed’ or ‘shall only be taxed’ are distributive rules in treaties that expressly allocate taxing rights to one or both the Contracting States and are covered by the exception listed in Article 11(1)(j) reproduced above. The saving clause is not targeted at them.

shailesh.kwebmaker

DIGITAL WORKPLACE – WHEN ALL ROADS LEAD TO ROME…

In the previous article we spoke briefly about the ‘Digital Workplace’, its advantages, limitations and so on. ‘Digital Workplaces’ are evolving very quickly; while there are many who feel that these will replace existing physical offices completely, others believe that these will go out of fashion as soon as ‘normalcy’ returns. However, we believe that just like every other technological change, starting from computers to mobile phones, the ‘Digital Workplace’ will not replace the existing way of working but it will co-exist with the existing office environment; however, we will see a digital transformation in the way we work.

Digital transformation is a journey that every firm will have to undertake in its own way with multiple connected intermediary goals, striving, in the end, towards ubiquitous optimisation across processes… and the business ecosystem of a hyper-connected age between people, teams, technologies, various players in ecosystems, etc., is the key to success.

Before talking about the alternatives, we are sure everyone reading this article is aware that a Traditional Office was the basic or primary way that an office existed. A professional wanting to start a business or practice would first look for an ‘Office Place’.

The ‘Office’ had its own advantages and limitations but it was the only way we used to work. Many employees complained about having to get to the office daily, or getting half a day’s wages cut for punching in five minutes late and spending so much critical time travelling to the office. A study by MoveInSync1 found that Indians spend 7% of their day getting to their offices. However, with the outbreak of the pandemic, everything has changed, starting from the perception of individuals to realistic circumstances. Since travelling has not been permitted for the major portions of the years 2020 and 2021, businesses have been left with no option but to switch to digitalisation and to a digital office. In India we call this ‘jugaad’. But the ‘jugaad’ worked! Almost everyone adjusted to the new normal and somehow survived the toughest of times. After the two ‘waves’ that have come and gone and the threat of a third wave looming large, some of the businesses have already restarted and switched back to the traditional office concept. People are taking precautions to the extent possible and are resigned to their fate, but feeling that they do not have any other option, offices are resuming normal work.

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1 https://economictimes.indiatimes.com/jobs/indians-spend-7-of-their-day-getting-totheir- office/articleshow/70954228.cms

But is it true that we do not have any option other than to just move back to our physical offices despite all the inherent dangers? Or can we have better alternatives and take maximum benefit of the learnings from the past and, with the help of technology, find a perfect mixture of physical and digital workplaces to ensure that we do not lose the advantages of a physical office and maximise the available technologies at our disposal?

There are three big limitations of physical or traditional offices:

1. Cost of real estate – Rent, lease, etc.: With the constant rise in the price of real estate and limited supply, the rent in the P&L account is always a significant amount for Indian companies. And some of the well-established businesses which have saved on rent by purchasing office space are now realising that their significant capital is stuck in real estate which is not growing at the same rate as their business. So it is not always wise to invest limited capital in real estate and block it for a long time when as a businessman you can put it to work harder. We have spoken to various professionals from India and received information that the total cost of real estate investment / rent could be between 20 and 40% of the total revenue a firm can generate.

2. Commuting for employees: As stated earlier, in India people spend nearly two hours to reach the office and if that is not already bad, the situation of overcrowded public transport, bad infrastructure and roads, and unrealistic traffic wastes a lot of valuable time of employees in travelling. More often than not, employees going out for a crucial meeting will prefer to leave an hour early instead of risking getting late. However, this leaving early may be good for creating an impression, but the time that it costs can be huge for the overall business. On an average an Indian spent as much as 9% of his time in commuting2 in the pre-lockdown era. Now, due to the lockdown, this cost is only going to be higher.

3. Limitation in hiring: The traditional office works within the four walls of the premise, so many times a company from Chennai or Delhi cannot hire talent from Mumbai or Bangalore unless the employee is willing to relocate; in many cases, companies have to spend extra on relocation expenses, etc.

There are arguments that the above limitations have always existed and these, coupled with other limitations, were always part of the game; companies had come to accept the limitations and functioned without much ado.

So what has changed now? It’s the pandemic which is working either like a blessing in disguise or a ‘rude awakening’ for businesses. Traditional offices may not suddenly go out of fashion, but a shift towards digitalisation which started gradually has taken a huge leap of faith and the pandemic has allowed everyone to adopt the trial and error method as they were assessing the limitations that their businesses were facing due to the ‘Work From Home’ culture. However, while many were struggling during this period, some started thriving and excelled in this new culture. The businesses that understood how technology worked and the best way to utilise the alternatives are now setting the standards for others to follow.

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2 https://www.dnaindia.com/mumbai/report-mmrda-you-spend-84-of-your-income-oncommute- 2715777

What are the alternatives to traditional offices?

While the traditional offices may not go out of fashion completely, businesses are finding different ways to mix and match them with the new alternatives available to maximise the work culture vis a vis the cost. There are many different types of offices that are being set up currently. Let us look at some examples:

1. Shared Offices
2. Work From Home
3. Flexi Offices
4. Co-working Spaces
5. Virtual Office (only for registration)

Shared Offices:
XYZ Associates, a CA firm, has 50 employees. Most of them are on audit and mostly never visit the office. XYZ Ltd. had purchased a large office space earlier. Now, realising that it does not need such a big sitting capacity and that it has already spent so much on infrastructure that it is not feasible to change office, it has decided to share its office spaces in a strategic manner so that the total cost is divided. This used to be the practice earlier, especially with brokers at the BSE or at other places where the cost was too high; but now many professionals have started utilising extra space in their offices with clear demarcations and sub-let it to other businesses to improve the return on the capital invested in their bigger office. If need be, in future they may stop sharing the office space.

Honestly, the shared office concept was there even prior to the pandemic but it was very limited and mostly seen as a way to save on rent; but the way shared offices were used was more in the manner of a traditional office where, after sharing the space, the business will occupy its own space and operate just as a traditional office. Now, with technology the concept of shared offices is evolving where businesses are realising that their need for office space may not be constant and, accordingly, the ‘shared office space’ concept has made a comeback where the same old concept is used in a modern way. But the principle is the same.

Work From Home:
Since the onset of the pandemic, XYZ Associates has been left with only one option – Work From Home. It facilitates employees with all necessary hardware and software (readers may refer to our previous article). The work is done, the client is satisfied and the lockdown rules are also not violated. What else do we need?

One of the most used expressions of 2020 has to be ‘Work From Home’ (WFH). Almost all offices have shifted to this culture. People enjoyed working from home till it lasted as the new dressing sense arrived, attending meetings via mobile phone and computer started saving a lot of time and they started getting more time to spend with family; these have helped many people, but after a point of time many got tired as it was merely a makeshift arrangement. However, some companies do prepare well and have utilised the opportunity diligently to ensure that they shift part of their workforce to WFH at a reduced pay; with the kind of savings employees manage on cost of travelling to having to buy or rent a house in a premium location to avoid travelling, many employees have willingly accepted the offer as it has offered a net advantage to them. WFH, if established well in an organisation with a proper digital workplace with impeccable communications, regular flow of information and processes, can help iron out a lot of limitations in businesses.

Flexi Offices:
XYZ Associates earlier had an office with a seating capacity of 100. During the pandemic it realised that a traditional office is a must for multiple purposes (having a registered address for compliances, holding client meetings and important team meets), but everyone need not visit it daily. The cost of such an office is also too high. So it decided to shift to a smaller space with 30 seats and flexi timings. Now the employees can plan and ‘book’ the office for meetings or visits. This has indeed solved many problems for the firm.

This is a new concept in offices that has been growing in recent years. Offices will have the capacity for a limited number of employees and while it will be used as an office, not everyone would be accommodated at the same time. So while most of the employees can continue to work from home, the ‘Flexi Office’ system permits some of the employees to travel to the office in a predetermined way (by appointment!). It can be used for important meetings or discussions which cannot be done via the online mode or when employees are not able to work from home owing to temporary limitations. Organisations will use different methods to regulate who can travel to office, from making an early ‘booking’ to rotating the staff on fixed days to allow them to access the office. In this system, the organisation does not have fixed desks or places for employees – instead, a desk space / seating area is shared and generally allocated on a FIFO basis. The concept of a ‘Flexi Office’ gives the optimum benefits of the traditional office and also an option for organisations to take advantage of technology to save costs as well as hire talent without geographical limitations.

Co-working Spaces:
Mr. A stays on the outskirts of Mumbai and has a downtown office. In an ideal situation, he would love to work from home to save on travel time and cost. But he has various limitations at home: a small home which may not be ideal for attending calls, it would be difficult to ignore guests that may visit during office hours, as also multiple people working from the same home. Mr. A can’t work from home, but also wants to save on travel time and cost.

On the other hand, the firm XYZ Associates where he works wants to save on office infrastructure cost but is not comfortable with employees working from home. They have seen employees’ family members disturbing them during WFH calls or have experienced wi-fi connections getting lost.

Both XYZ Associates and Mr. A agree to opt for Co-working spaces. They find such a space in an area nearest to the employee which offers a desk, electricity, infrastructure and unlimited high speed wi-fi. This will solve everyone’s problem. While Mr. X will take only ten minutes and spend Rs. 20 daily to travel to such a Co-working space, XYZ Associates will save on office infrastructure. Also, when the company offers Co-working to employees in locations like Bandra-Kurla Complex or Nariman Point in Mumbai, it may cost them as much as Rs. 30,000 to Rs. 50,000 per seat but on the outskirts it may go down to Rs. 5,000 to Rs. 10,000 annually.

Co-working spaces are growing in popularity in India and companies like Innov8, WeWork, Springboard, etc. are already investing big time to provide Co-working spaces. Co-working is basically like a shared office but instead of an organisation deciding rules and managing costs, it is managed by a team of professionals who share their space for a fee. For example, just as we pay rent to a hotel to avail all facilities, Co-working is a ‘hotel’ for our business where we can focus just on work and all the formalities from cleaning the space, arranging for coffee, to collecting your courier, etc., is taken care of by the service provider. Plus, Co-working provides no distraction working along with a virtually office-like experience for employees who are working from home. Many Startups that are offering WFH have also started offering incentives to employees if they prefer to work from any of the Co-working spaces near by. And especially in cities like Mumbai where the houses are small and it’s not possible for all employees to manage working from home without distractions, businesses are benefiting from this new option. Co-working charges a minimum monthly or daily fee and lets individuals work without worrying about the other basic necessities like Internet access or arranging for administrative responsibilities.

One can use Co-working spaces by booking a desk for a single day, a week or a month.

Virtual Office (only for registration):
XYZ Limited started its business asking all employees to work from home. Now, since their turnover has crossed the minimum limit for GST registration they are in trouble as to how to do it without an official place of business. So they have been looking for Virtual Offices that charge a minimum amount and let them rent the office only for documentation purposes. XYZ Limited will now have a registered place of business while the employees can still continue working from home.

Virtual Office as a concept is growing in popularity in India owing to regulatory requirements wherein we still need a physical office address to start a business. A Virtual Office is basically a service in which a business owner can show a place as its address for communication and compliance purposes at minimal cost. This becomes useful in cases where a person wants to work from home but does not have all the documents for office premises, or does not want to show the residential address for business correspondence.

CONCLUSION
Growth is optional, but change is constant. There are many examples in the past when companies which have moved along with the shift in technology have gained significant ground vs. the companies that resisted change. The giants of the retail business have fallen because they did not adapt to eCommerce, while newbies of the market like Flipkart and Zomato are becoming far more valuable as they have shown adaptability.

Through this article we are not saying that traditional offices will be out of fashion immediately but now the time has come when, as things have started moving, the one who is ready to adapt to change will thrive. The Digital Workplace is the future and the only thing that is still not clear is the extent to which it will change our lives. Like the computer revolution of the 1980s or mobile phones earlier in this century, every one of us knew it would be a game-changer but ‘how’ was not clear back then. Similarly, the Digital Workplace is going to be the modern way of working and we can either resist the change and delay it, or accept it with open arms and get ready for the future.

shailesh.kwebmaker

WHY INDIA SHOULDN’T JUST AIM TO BE A $5 T ECONOMY

Indians succeed MUCH more in every country compared to India! They are, in fact, a model minority – highly educated, do not seek state support, have the lowest police arrests, blend well culturally and rise to the highest positions in business and profession.

Indians in the US have a per capita income of $55,000 (and average household income of $120,000 surpassing all ethnic groups, including white Americans1). If the same group were in India, the GNP of India will be more than $70 trillion!

India was about 25% of the world’s economy till 18202 when the British arrived. And 130 years later, when they left in 1947, India’s share was 3% (wiping off 2,000 years of growth in one century)! Yet, India was the largest economy in Asia in 1947.

On the other hand, today India’s share of global population is 18% and its share of global economy 7%3, or still 3% in absolute value out of about $100 trillion global GDP. India’s share in global exports was 1.71% in 2019. All of this doesn’t add up and we need to think: What should be India’s share of global economy and exports?

We have to ask: why do Indians not succeed in their own country? How come India is 20% of China when they were both the same in 1980 ($180 bn GDP)? China has more than five times the global trade as India ($800 bn vs. $4.5 tr). India was known for its fabrics for centuries; today Bangladesh has overtaken us in the garment sector and per capita GDP (remember, India had freed Bangladesh just 50 years back). India is the cultural source of nine-tenths of South-East Asian countries, but ASEAN countries have a larger GDP than that of India. Why have countries with bigger disadvantages overtaken India? What is the reason for such a large and long gap between potential and performance when Indians are perhaps as intelligent as anyone else?4

1 Economic Times, 29^th
January, 2021

2 Read Angus Maddison

3 PPP adjusted

4 Attributed to Kishore
Mehbubani’s talk

I think today India is at its historic best opportunity: absence of Nehruvian economics (from 1950 to 1980 we grew at 3.5% per year; global growth was 4.5%; our population grew at 2.5%; hatred for business reached its peak; per capita income grew at 1%; and by 1980 India was the poorest in Asia). Today, youth is power (34% population between 15 and 24 years of age) and hundred other reasons. Therefore, the next ten years are crucial for the speedy growth of India.

Recent data suggests encouraging trends: UPI (3.2 billion transactions, Rs. 5 tr in transactions in March, 2021 compared to Rs. 2 tr in March, 2019); FastTag (192 m transactions since inception, saving fuel and revenue leakage); 55,000 Startups and expected to reach 100,000 by 2025; 58 Unicorns (employ 1.2 m people); Population (fertility is 2% whereas replacement rate is 2.3%); GST (last nine out of ten months generated more than Rs. 1 lakh crores each month); Software exports ($160 bn); Outsourcing (60% of global outsourcing comes to India); the IT Industry is $210 bn. Just imagine, if a food delivery company can add Rs. 100,000 crores to the market cap what can the index do if 20 such IPOs hit the markets! And this at a time when only about 3.4% people invest in stocks (against 50% in the US and 7% in China).

This is perhaps our best window in time before our population starts ageing in about ten years. Why should we not let the Indian tiger out of the cage – not into the zoo or a circus, but into the wide, wild world of competition. India doesn’t deserve to be JUST a $5 tr economy but much more!

Raman Jokhakar
Editor

shailesh.kwebmaker

AS YOU SOW…

One fine morning during the lockdown days, we happened to be listening to a talk which referred to the ‘Karma Account’. As accountancy professionals, we registered the summary as follows:

The rule is Debit for sin and Credit for good deeds. There is also the concept of brought forward of balance in the form of ‘sanskars’ from the previous birth to this one and carry forward from this birth to the next.

Most of us would distinctly recall our elders referring to ‘pichale janam ke sanskar’ (impressions of an earlier life) / ‘pichale janam ka karz’ (debts of an earlier life), etc.

The talk also elucidated the brought forward ‘sanskars’ by referring to child prodigies who, though without training, were manifesting the ‘sanskars’ of their previous birth. In fact, we are always puzzled when we see a scoundrel or a lazy or stupid person rolling in wealth. ‘How can it be?’ is the question that we ask.

A beautiful analogy was provided as an answer to a seemingly difficult riddle. Have you ever been to a flour mill? Sometimes, you see pulses being poured into the hopper at the top but see wheat flour being turned out at the end of the process. And you wonder how this happens, without realising that the wheat that was poured in earlier is now coming out as the white wheat flour. The ground pulses shall appear later. It is only a matter of time.

If this is so, this account of ‘sanskars’ should be kept pure. What will happen if this account is carried forward with inappropriate entries and manipulated transactions resulting from an incorrect living? What will happen in the next birth? Everyone should take care to pass correct entries as a reflection of right knowledge, right faith and right conduct in their present lives so that the balance is either zero (state of bliss) or the balance carried forward is of the nature of credit strengthening our lives in the next birth.

A cursory appraisal of the Brihadaranyaka Upanishad (7th Century BC) at 4.4.5–6 gives us the following:

Now as a man is like this or like that,
according as he acts and according as he behaves, so will he be;
a man of good acts will become good, a man of bad acts, bad;
he becomes pure by pure deeds, bad by bad deeds;

And here they say that a person consists of desires,
and as is his desire, so is his will;
and as is his will, so is his deed;
and whatever deed he does, that he will reap.

The Jain philosophy elaborately provides for the nature and working of Karma as also the pathway to be free of the Karmic Account – released of worldly affairs and into the perfect blissful state, i.e., moksha.

To conclude, we cannot but help recall Kabir who said

Kabir so dhan sanchiye, jo aage ko hoye
sees charaye potli, le jaat na dekhya koye

Kabir, accumulate the wealth that is for the beyond
None has been seen to depart carrying a bag of material wealth.

shailesh.kwebmaker

WHO CONTROVERSY: LACK OF GLOBAL LEADERSHIP IN CORONA CRISIS

INTRODUCTION

When the metaphorical ship of a growing,
prosperous world hit the figurative iceberg of Covid-19, it sank and it sank
like no ship had ever sunk before. While all of this happened, the WHO behaved
very much like the band in the movie ‘Titanic’ that continued to play songs
while lives were lost and the ship sank.

The World Health Organization (WHO) was
established on 7^th April, 1948 and was entrusted with the responsibility
of creating a better, healthier future for people all over the world. It was
assigned the role of providing leadership on matters critical to health,
shaping the research agenda and stimulating the generation, translation and
dissemination of valuable knowledge. However, when D-Day beckoned, the WHO
failed and it failed gloriously. Just when the world was looking up to this
multinational body, it failed with repercussions that will perhaps only get
worse in the course of time.

Covid-19 has fallen like a clutch of bombs
on the world. As of today, the number of coronavirus cases stands at a
bewildering figure of 1,71,51,191 and has claimed 6,69,435 innocent lives. It
is truly astonishing that despite technical advancements, life-changing inventions
and incredible leaps in the field of medicine, we are still in such a situation
that things are worsening day after day, every day. There is perhaps nothing
better to showcase the gruesomeness of our reality. This is the question
uppermost in the minds of everyone, whether a daily wage labourer in a small
village in Uttar Pradesh, or a migrant worker desperately trying to go back
home from Mumbai to Bihar. The world today asks the same question and does so
in bewilderment when a prestigious and well-funded global watchdog for health,
the WHO, appears to have fallen flat on its face.

Let us look at the attitude that the
international health body has displayed. Look at the statements of some of its
members, such as Prof. Dieder Houssin, who is also a member of the Review
Committee, International Health Regulations. On 23^rd January he
said, ‘Now is not the time. That’s a bit too early to consider that this
event is a public health emergency of international concern’.

These comments were made on the exact day
when the lockdown commenced in the city of Wuhan where it all started. It is
perhaps because of the sluggishness and negligence of such massive proportions
that we face a time where there is little hope for those who have to choose
between food on the table and contracting the deadly virus. The world today is
paying the cost for the blunders committed by the WHO. Its leadership has
proved to be ineffective and is likely to adversely affect the lives of
billions who now confront a prolonged tragedy worsened by an economic slowdown
of gigantic proportions.

Through this paper I attempt to draw the
reader’s attention to the shortcomings of and the blunders committed by the WHO
which have led us to where we are today.

BACK IN TIME

The SARS epidemic of 2002-03 had let loose
fear, concern and death in a similar manner. Even then, China was slow to
acknowledge the epidemic domestically and failed to inform the global community
about its possible spread.

During the SARS epidemic, WHO was quick to
recommend travel restrictions and criticise China for delaying the submission
of vital information that would have limited its global spread. Even after
eradication of SARS, WHO warned that the world would not remain free from other
novel forms of the coronavirus. The then Director-General of WHO, Dr Gro Harlem
Brundtland, implored the international community to investigate possible animal
reservoirs that could be a source for future outbreaks and better study the
movement of the virus to humans.

China’s wet markets were specifically
identified as a likely environment for the virus to incubate and jump from
animals to humans. The mutable nature of the virus, coupled with China’s rapid
urbanisation, proximity to exotic animals and refusal to tackle illegal
wildlife trade and commerce, were together termed a ‘time bomb’ by a research
paper in 2007.

As late as December, 2015 the coronavirus
family of diseases was selected to be included in a list of priorities
requiring urgent research and development. It was earmarked as a primary
contender for emerging diseases likely to cause a major pandemic.

JUMP TO PRESENT

Here is a list of mistakes that the WHO
committed. Had these been avoided, it could have changed the history of the
world as we know it today.

Mistake 1: Sluggish reaction

China informed WHO on 31^st
December, 2019, while it was first public on news channels on 8^th
January, 2020. Surprisingly, when a pneumonia-like virus was detected in Wuhan
in late December, 2019, the WHO reacted sluggishly. Dr. Tedros Adhanom,
Director-General of WHO, applauded China’s ‘commitment to transparency’ in the
early days of the epidemic in January.

Mistake 2: Denied human-to-human
transmission

The WHO denied evidence of human-to-human
transmission on 14^th January, 2020 which has now become a famous
tweet by the WHO.

WHO refused to acknowledge the
human-to-human transmission of the virus despite several cases already showing
transmission. WHO also castigated countries like the USA and India who started
restricting flights to and from China or issued travel advisories.

Mistake
3: Ignored Taiwan which had critical information

One country that got their advice was
Taiwan, which also warned the WHO that it suspected the virus was spreading
through human-to-human transmission. Taiwan, which has one of the lowest rates
of known Covid-19 infections per capita among countries impacted by the virus,
was prevented from joining the WHO as a member country in 2015 by China which
refuses to acknowledge its independence. A newspaper headline of 3^rd
April, 2020, said famously, ‘The WHO Ignores Taiwan. The World Pays the
Price’.

In late March, WHO Epidemiologist Bruce
Aylward declined to answer a Hong Kong reporter’s question about Taiwan, or
even acknowledge its existence.

As Taiwan was distributing facemasks to its
citizens, the WHO was advising the rest of the world that they were doing so
unnecessarily while initially the CDC and the US Surgeon-General followed its
lead; but health experts pointed out as to how mounting evidence that masks can
help slow the spread of respiratory diseases by about 50%, especially among
asymptomatic carriers in a population, and what the WHO maintained was
virtually non-existent despite mounting evidence to the contrary in
mid-February.

A CNN Health news article said, ‘Infected
people without symptoms might be driving the spread of coronavirus more than we
realised”

While Beijing informed the WHO on 31^st
December, there are expert estimates that the virus had spread to humans as far
back as October.

Mistake 4: Delayed response

Even after being told, the WHO showed no
urgency to send an investigative team, careful not to displease the Chinese
government. A joint WHO-Chinese team went to Wuhan only in mid-February and
wrote a report with decidedly Chinese characteristics misleading the entire
world of the then situation.

A South China Morning Post article said, ‘Coronavirus: China’s first confirmed Covid-19
case traced back to November 17’.

Mistake 5: Misled the world

Covid-19 continued to exhibit
characteristics of a pandemic, spreading rapidly around the world. But not only
did Dr. Tedros Adhanom and his team fail to declare a public health emergency,
they also urged the international community to not spread fear and stigma by
imposing travel restrictions.

The global health body even criticised early
travel restrictions by the US as being excessive and unnecessary. It declared
Covid-19 as a pandemic only on 11^th March.

Mistake 6: Criticised preventive measures

Following the WHO’s advice, the European
Centre for Disease Prevention and Control (ECDC) suggested that the probability
of the virus infecting the EU was low, likely delaying more robust border
controls by European states.

As the virus continued spreading across
Europe and reached America, WHO recommended that the travel industry maintain
the status quo. Dr. Tedros said on 3^rd February: ‘There is
no reason for measures that unnecessarily interfere with international travel
and trade.’

Mistake 7: Didn’t learn from mistakes

Indeed, the WHO’s response to Ebola was
similarly criticised by the international community. This is not a first in
WHO’s history. In the 1950s and 60s, WHO found itself manoeuvring between the
Soviet-led Communist bloc and the US.

Mistake 8: Colluding with China

The first cases of the Wuhan virus were seen
as early as November but the Chinese government silenced the whistleblowers and
downplayed the threat. Dr. Lee Wenliang is one of those whistleblowers who died
as a hero trying to sound the alarm of coronavirus weeks before he contracted
the illness himself and died. The CNN news headline on 11^th February
was: ‘China’s hero doctor was punished for telling truth about coronavirus.’

During such testing times, the WHO only
continued to please the authoritarian government of China. It praised China for
releasing the virus’s genome while neglecting to mention that it took them at
least 17 days to do so.

China also did not report human-to-human
transmission until late January, even though Chinese doctors suspected the same
at least a month earlier. WHO scientists weren’t allowed into Wuhan until three
weeks after the outbreak first came to light. While all of this happened, Dr.
Tedros continued to glorify the all-powerful regime by saying, ‘We would have
seen many more cases outside China by now if it were not for the government’s
efforts to protect their own people and the people of the world. The Chinese
government is to be congratulated for the extraordinary measures it has taken
to contain the outbreak’.

There is nothing hidden about China’s
efforts at undermining international organisations. Its growing clout in
international organisations is creating new fault lines in global politics and
the WHO has been an early victim. Remember, the WHO, led by Margret Chan in
2013 was one of the first international institutions to have signed an MoU with
China to advance health priorities under the Belt and Road Initiative.

China has not only attempted to censor all
official accounts of its early failings but has also employed an overt global
disinformation campaign, trying to pinpoint the source of the outbreak as the
US or Europe.

It is an irony of our times that the world’s
most potent authoritarian state (China) heads over a quarter of all specialised
agencies in the UN, ostensibly the centrepiece of the international liberal
order.

Mistake 9: Personal interest

Dr. Tedros, an Ethiopian politician, was
also seen as a China-backed candidate in 2017 for the Director-General’s
election. The ex-Health Minister of Ethiopia has favoured China in innumerable
ways which may be due to China having made a lot of investments in Ethiopia
under the One Belt One Road initiative and because Ethiopia does not want to
anger the red dragon. Dr. Tedros could also be favouring China because of these
reasons. In late January, he visited China and on 28^th January he
met with President Xi Jinping in Beijing. Following the meeting, he commended
China for ‘setting a new standard for outbreak control’ and praised the
country’s top leadership for its ‘openness to sharing information’ with the WHO
and other countries.

Dr. Tedros said on 5^th February
that ‘China took action massively at the epicentre and that helped in
preventing cases from being exported’.

Mistake 10: Political background

Dr. Tedros’ inaction stands in stark
contrast to the WHO’s actions during the 2003 SARS outbreak in China.

The then WHO Director-General, Dr. Gro
Harlem Brundtland, who had been the Prime Minister of Norway twice, made
history by declaring the WHO’s first travel advisory in 55 years which
recommended against travel to and from the disease epicentre in southern China.
Dr. Brundtland also criticised China for endangering global health by
attempting to cover up the outbreak through its usual playbook of arresting
whistleblowers and censoring the media. It is said that Dr. Tedros is not from
a political background, hence he is unable to face China bluntly and blame it
for the coronavirus.

Mistake 11: Funding

WHO has
required voluntary budgetary contributions to meet its broad mandate. In recent
years, it has grown more reliant upon these funds to address its budget
deficits.

This dependence on voluntary contributions
leaves WHO highly susceptible to the influence of individual countries or
organisations. China’s WHO contributions have grown by 52% since 2014 to
approximately $86 million.

CONCLUSION

It is an open secret among international
diplomats and public health experts that WHO is ‘not fit for its mission’,
riddled as it is with politics and bureaucracy. Given its previous failures and
the warning that was SARS, its leadership has no excuse for reacting in such a
sluggish and indifferent manner.

A global
pandemic does not occur every time a novel infectious pathogen emerges. It does
when there is an absence of accurate information about the pathogen and a
failure of basic public services – in this case, the failure to regulate food
and marketplaces to prevent the transmission of pathogens and the failure to
shut down transportation and control movement once it spreads. When authorities
regulate public health, share information about a pathogen and co-operate to
control its movement, diseases are contained and pandemics are unlikely to
occur.

The collateral price that the world has paid
for this lesson is perhaps too exorbitant. Hopefully, we will take a leaf from
this book and have better, more accountable and robust structures in place for
such pathogens that threaten all life on our planet.

Bibliography

1.
https://beta.ctvnews.ca/national/health/2020/1/23/1_4779972.html

2.
https://www.bbc.com/news/world-asia-52088167

3.
https://www.youtube.com/watch?v=YA-x_XOe9T4

4.
https://www.ncbi.nlm.nih.gov/pmc/articles/PMC7112390/

5.
https://www.who.int/activities/prioritizing-diseases-for-research-and-development-in-emergency-contexts

6.
http://natoassociation.ca/belt-and-road-initiative-understanding-chinas-foreign-policy-strategy/

7.
https://downloads.studyiq.com/free-pdfs

8.
https://foreignpolicy.com/2020/06/16/china-health-propaganda-covid/

9.
https://www.theguardian.com/world/2014/oct/17/world-health-organisation-botched-ebola-outbreak

10.
https://www.usnews.com/news/world/articles/2020-02-03/who-chief-says-widespread-travel-bans-not-needed-to-beat-china-virus

11.
https://www.cnn.com/asia/live-news/coronavirus-outbreak-02-04-20/index.html

12.
https://www.bbc.com/news/world-asia-china-51409801

* The above article was chosen as the
best article from over 50 entries submitted at
‘Tarang 2020’, the 13^th Jal Erach CA Students’ Annual Day organised
by the BCAS. One of the features of this year’s event was ‘Writopedia’.

Indian Firm made the world’s first cruelty free soap;
got Rabindranath THakur to model for it

The first rule of every manufacturing company is to
keep its process a secret. But Godrej brothers did the opposite and distributed
pamphlets in Gujarati that explained the process of making soaps from vegetable
oils. Did it establish trust and appealed a larger audience? You bet.

Rabindranath Thakur sits in his quintessential calm
position in a photo, hands obediently placed on his laps as he stares into the
abyss. Next to his portrait is a quote that reads, “I know of no foreign soaps
better than Godrej’s and I will make a point of using it.”

Yes, as hard as it may seem to believe, the Nobel
Laureate had agreed to endorse a toilet soap in the early 1920s. Not just him,
other freedom fighters like Annie Besant and C. Rajagopalachari also followed
suit and marketed the ‘Godrej No. 1’ soap.

The aim was to promote the first made-in-India and
cruelty-free soap and further strengthen India’s freedom struggle movement, and
the leaders made their political statements by requesting people to cripple the
economy of colonisers by boycotting foreign goods and instead opting for
something that is ‘for Indians, and by Indians’.

Ardeshir Godrej, a businessman by profession and patriot
at heart, is the man behind starting this humble swadeshi brand in 1897. His
younger brother Pirojsha also joined the business and together they came to be
known as the Godrej Brothers.

Fast forward to 2020, a 122-year-old consumer-goods
giant, the Godrej Group controls $4.7 billion revenue. It comprises five major
companies with interests in real estate, FMCG, agriculture, chemicals and
gourmet retail.

Godrej has not only been an undying witness to India’s
rapid development but has also paved way for many ‘firsts’ in India including
springless lock, Prima typewriter, ballot box and refrigerators.

(Better India, August 7, 2020)

shailesh.kwebmaker

SOME USEFUL APPS

In this month’s edition we
look at some apps which are useful to us professionally.

McKINSEY INSIGHTS

The McKinsey Insights
app offers business insights and analysis on the biggest issues facing senior
executives today – from leadership and corporate strategy to the future of work
and AI’s impact on business and society. In addition, explore new articles on
digitisation, marketing and analytics across industries such as consumer goods,
financial services and tech. In fresh content updated daily, McKinsey
consultants and contributing experts look at the latest in climate change,
diversity and inclusion in the workplace, organisational restructuring,
bringing data to bear on business strategy and more. Content includes articles
from McKinsey Quarterly, reports from the McKinsey Global Institute, podcasts
and videos.

This app allows you to
view recent and most popular content, save articles for offline reading and
register to personalise your app experience.

The best part is that all
content is free. Go ahead, get insights into your business and professional
world today!

Android: https://bit.ly/2Q1Un4TiOS:
https://apple.co/3l2fylN

LINKEDIN – SLIDESHARE

LinkedIn SlideShare is the world’s largest community for sharing
presentations and professional content, with 60 million unique visitors a month
and more than 15 million uploads. It is much more than just slides. Find
infographics, videos, how-to guides, data and analytics reports, industry
research, thought-leadership articles, Q&As, DIY instructions, visual
guides and more. You can follow companies and organisations like Dell, Ogilvy,
the White House, Netflix, NASA and more, who share their expertise on
SlideShare.

Students can use
SlideShare for academic research, professionals can deepen their industry
knowledge and everyone can explore interesting topics to learn something new.

You can save your
favourites to read later (even offline) on your phone or Android tablet. And
now you can even clip the best content on SlideShare and organise your research
into Clipboards, all in one place.

Android: http://bit.ly/2GpTq1PiOS:
https://apple.co/2Z3fjet

LAYOUT FROM INSTAGRAM: COLLAGE

This is a simple app which
allows you to stitch up to nine images together and load them onto Instagram.
Instagram allows you to add only one image at a time. However, sometimes you
may wish to combine multiple similar selfies or landscape shots to fit into one
collage picture. This app lets you do just that.

It also helps you tweak many
parameters for each photo, including the size, border width or zoom. You are
the editor, so feel free to experiment and get creative – tell a story, show
off an outfit, or just splice, dice and change the look of your regular photos
to convey a mood or theme.

The app also has three
handy buttons at the bottom to replace an image, mirror it or flip it upside
down. The final product can be quite neat and impressive. It can be further
enhanced by using Instagram’s native filters.

Android:
http://bit.ly/2L5glDI iOS: https://apple.co/2L5ljAl

TICKTICK

TickTick is a simple and effective to-do list and task manager
app which helps you make schedules, manage time, remind about deadlines and
organise life at work, home and everywhere else. It is very easy to get started
with its intuitive design and personalised features. Add tasks and reminders in
mere seconds and then focus on important work. The app syncs across devices, so
you are always up to date.

You can add your tasks by
voice input or by typing. With Smart Date Parsing, the date info you enter into the new field will be automatically set as due date for task reminder with an
alarm. You can set multiple notifications for important tasks and notes to
never miss any deadline.

You can even get easy
access to your tasks and notes by adding a checklist widget to your home
screen. That is pretty neat.

Android: http://bit.ly/2KF9uAG iOS:
https://apple.co/2N9Tp7R

INSTAPAPER

Instapaper is the simplest way to save and store articles for
reading: offline, on-the-go, anytime, anywhere, perfectly formatted. It
provides a mobile and tablet-optimised text view that makes reading Internet
content a clean and uncluttered experience. Read offline, even on airplanes,
subways, on elevators, or on Wi-Fi-only devices away from Internet connections.
It saves most web pages as text-only, stripping away the full-sized layout to
optimise for tablet and phone screens with adjustable fonts, text sizes, line
spacing and margins.

You
have the option to sort and search downloadable files for easy access. You can
download up to 500 articles on your phone or tablet and store unlimited
articles on the Instapaper website. Dictionary and Wikipedia lookups, tilt
scrolling, page-flipping, preview links in the built-in browser without leaving
the app are all available, just like in Kindle.

A great app to consume
content at your own time and space.

Android:
http://bit.ly/2FxujtG iOS: https://apple.co/2FAjrv5

I hope you will be able to use these apps
effectively to become more productive in your professional life.

shailesh.kwebmaker

TAXABILITY OF A PROJECT OFFICE OR BRANCH OFFICE OF A FOREIGN ENTERPRISE IN INDIA

In our last article
published in the August, 2020 issue of the BCAJ, we discussed various
aspects relating to taxability of a Liaison Office (LO) in India, including the
recent decision of the Supreme Court in the case of the U.A.E. Exchange Centre.

In addition to a Liaison
Office (LO), Project Offices (PO) and Branch Offices (BO) of foreign
enterprises have also been important modes of doing business in India for many
foreign entities.

Issues have arisen for
quite some time as to under what circumstances a PO / BO has to be considered
as a Permanent Establishment (PE) of a foreign enterprise in India and then be
subjected to tax here.

In this article, we
discuss various aspects relating to taxability of a PO / BO in India, including
the recent decision of the Supreme Court in the case of Samsung Heavy
Industries Ltd.

BACKGROUND

The determination of tax
liability of a foreign enterprise has been a contentious subject in the Indian
tax regime for a very long time. And whether a foreign enterprise has a PE in
India has been a highly debatable issue, though it is very fact-intensive. The
ITAT and the courts have been taking different views based on the facts of each
case.

A Project Office means a
place of business in India to represent the interests of the foreign company
executing a project in India but excludes a Liaison Office. A Site Office means a
sub-office of the Project Office established at the site of a project but does
not include a Liaison Office.

A foreign company may open
project office(s) in India provided it has secured from an Indian company a
contract to execute a project in India, and (i) the project is funded directly
by inward remittance from abroad; or (ii) the project is funded by a bilateral
or multilateral international financing agency; or (iii) the project has been
cleared by an appropriate authority; or (iv) a company or entity in India
awarding the contract has been granted term loan by a public financial
institution or a bank in India for the project.

A Branch Office in
relation to a company means any establishment described as such by the company.

As per Schedule I read
with Regulation 4(b) of the FEM (Establishment in India of a Branch Office or a
Liaison Office or a Project Office or any Other Place of Business) Regulations,
2016 [(FEMA 22(R)], a BO in India of a person resident outside India is
permitted to carry out the following activities:

(i) Export / import of goods.

(ii) Rendering
professional or consultancy services.

(iii) Carrying out
research work in which the parent company is engaged.

(iv) Promoting technical
or financial collaborations between Indian companies and parent or overseas
group company.

(v) Representing the
parent company in India and acting as buying / selling agent in India.

(vi) Rendering services in
Information Technology and development of software in India.

(vii) Rendering technical
support to the products supplied by parent / group companies.

(viii) Representing a
foreign airline / shipping company.

Normally, a branch office
should be engaged in the same activity as the parent company. There is a
difference between the PO / BO and LO, both in terms of their models and, more
importantly, their permitted activities. As per the FEMA 22(R), an LO is
permitted to carry out very limited activities and can only act as a
communication channel between the source state and the Head Office; whereas a
PO / BO is permitted to carry out commercial activities, but only those
specified activities as per the RBI Regulations.

Thus, under FEMA 22(R) a PO
is allowed to play a larger role as compared to an LO in India. Further, the
scope of permitted activities of a BO provided in Schedule I of FEMA 22(R) is
much larger than the scope of permitted activities of an LO provided in
Schedule II of FEMA 22(R).

In National
Petroleum Construction Company vs. DIT (IT) [2016] 66 taxmann.com 16 (Delhi),
the Delhi High Court, after referring to the definitions of LO and PO in the
Foreign Exchange Management (Establishment in India of Branch or Office or
Other Place of Business) Regulations, 2000, held that ‘It is apparent from
the plain reading of the aforesaid definitions that whereas a liaison office
can act as a channel of communication between the principal place of business
and the entities in India and cannot undertake any commercial trading or
industrial activity, a project office can play a much wider role. Regulation (6)(ii)
of the aforesaid regulations mandates that a “project office” shall not
undertake or carry on any other activity other than the “activity relating
and incidental to execution of the project”. Thus, a project office can
undertake all activities that relate to the execution of the project and its
function is not limited only to act as a channel of communication.’

WHETHER A PO / BO CONSTITUTES A PE IN INDIA?

As mentioned above, as per
the prevailing FEMA regulations a PO / BO can carry out activities which may
not be limited to acting as a communication channel between the parent company
and Indian companies.

An issue that arises for
consideration is whether just because the scope of the permitted activities of
a PO / BO is much wider as compared to an LO under FEMA 22(R), would that be an
important consideration in determining the existence of a PE of a foreign
enterprise in India?

Due to the difference in
scope of activities to be carried out by an LO and a PO / BO, the assessing
officers many a times take a stand that the PO / BO is a PE of a foreign
enterprise as they are permitted to carry out commercial activities as compared
to an LO. This perception leads to the conclusion of a PO / BO being a PE in
India.

In order to decide whether
a PO / BO constitutes a PE in the source state, the actual activities carried
out by them in India need to be minutely analysed irrespective of the fact
whether such activities were carried out in violation of FEMA regulations and
RBI approval.

RELEVANT
PROVISIONS OF THE INCOME-TAX ACT, 1961 (the ITA) and the (DTAAs) relating to
PEs

Definition
under the ITA

Section 92F(iiia) defines
a PE as follows: ‘permanent establishment’, referred to in clause (iii),
includes a fixed place of business through which the business of the
enterprise is wholly or partly carried on.’

Section 94B defines a PE
as a ‘permanent establishment’ and includes a fixed place of business
through which the business of the enterprise is wholly or partly carried on.

Similarly, Explanation (b)
to section 9(1)(v), Explanation (c) to sections 44DA, 94A(6)(ii) and 286(9)(i)
defines a PE by referring to the definition given in section 92F(iiia).

It is important to note
that under the ITA a PE is defined in an inclusive manner. It has two limbs,
i.e. (a) it has to be a fixed place of business, and (b) through such fixed
place the business of the enterprise is wholly or partly carried on.

Definition of
Fixed Place PE and exceptions under the OECD Model Conventions

Since the publication of
the first ambulatory version of the OECD Model Convention in 1992, the Model
Convention was updated ten times. The last such update which was adopted in
2017 included a large number of changes resulting from the OECD / G20 Base
Erosion and Profit Shifting (BEPS) Project and, in particular, from the final
reports on Actions 2 (Neutralising the Effects of Hybrid Mismatch
Arrangements), 6 (Preventing the Granting of Treaty Benefits in
Inappropriate Circumstances), 7 (Preventing the Artificial Avoidance
of Permanent Establishment Status), and 14 (Making Dispute
Resolution Mechanisms More Effective), produced as part of that project.

Article 5(1) of the OECD
Model Convention 2017 update defines the term ‘permanent establishment’ as
follows:

‘1. For the purposes of
this Convention, the term ‘‘permanent establishment’’ means a fixed
place of business through which the business of an enterprise is wholly
or partly carried on.

Article 5(2) of the OECD
Model Convention 2017 provides that the term ‘permanent establishment’
includes, especially, (a) a place of management; (b) a branch; (c) an
office; (d) a factory; (e) a workshop; and (f) a mine, an oil or gas well,
a quarry or any other place of extraction of natural resources.

Thus, on a plain reading
of Articles 5(1) and 5(2), a branch or an office is normally considered as a PE
under a DTAA.

The updated Article 5(4)
provides that the term PE shall be deemed not to include:

(a) the use of facilities
solely for the purpose of storage, display or delivery of goods or
merchandise belonging to the enterprise;

(b) the maintenance of a
stock of goods or merchandise belonging to the enterprise solely for the
purpose of storage, display or delivery;

(c) the maintenance of a
stock of goods or merchandise belonging to the enterprise solely for the
purpose of processing by another enterprise;

(d) the maintenance of a
fixed place of business solely for the purpose of purchasing goods or
merchandise or of collecting information for the enterprise;

(e) the maintenance of a
fixed place of business solely for the purpose of carrying on, for the
enterprise, any other activity;

(f) the maintenance of a
fixed place of business solely for any combination of activities mentioned
in sub-paragraphs (a) to (e), provided that such activity or, in the
case of sub-paragraph (f), the overall activity of the fixed place of
business is of a preparatory or auxiliary character.

Paragraph 4.1 of Article 5
provides for exception to paragraph 4 as under:

‘4.1 Paragraph 4 shall not
apply to a fixed place of business that is used or maintained by an
enterprise if the same enterprise or a closely related enterprise
carries on business activities at the same place or at another place in
the same Contracting State, and

(A) that place or other
place constitutes a permanent establishment for the enterprise or the
closely related enterprise under the provisions of this Article, or

(B) the overall
activity resulting from the combination of the activities carried on by the
two enterprises at the same place, or by the same enterprise or closely related
enterprises at the two places, is not of a preparatory or auxiliary
character, provided that the business activities carried on by the two
enterprises at the same place, or by the same enterprise or closely related
enterprises at the two places, constitute complementary functions that are
part of a cohesive business operation.’

It is important to note
that the UN Model Convention 2017 contains a modified version of Article 5 to
prevent the avoidance of PE status which is on the same lines as Articles 5(4)
and 5(4.1) of the OECD MC mentioned above, except that in Articles 5(4)(a) and
5(4)(b) of the UN MC 2017, the word ‘delivery’ is missing. This is due to the
fact that the UN MC does not consider activity of ‘delivery’ of goods as of
preparatory or auxiliary character.

Determination
of existence of PE in cases of non-carrying on of ‘business’ or ‘core business’
of the assessee

On a proper reading and
analysis of Article 5(1), it would be observed that it contains two limbs and
to fall within the definition of a fixed place PE both the limbs have to be
satisfied. Therefore, in case of a PO / BO, normally the first limb is
satisfied, i.e., there is a ‘fixed place of business’ in India but if the second
limb ‘through which the business of an enterprise is wholly or partly
carried on’ is not satisfied, then a fixed place PE cannot be said to be in
existence.

The Tribunal and courts
have, based on the facts of each case, often held that if the actual activities
of a PO / BO did not tantamount to carrying on the business of an enterprise
wholly or partly, then a fixed place PE cannot be said to have come into
existence.

Recently, the Supreme
Court in the case of DIT vs. Samsung Heavy Industries Limited (SHIL)
[2020] 117 taxmann.com 870 (SC) after in-depth analysis of the facts
held that the Mumbai Project Office of SHIL cannot be said to be a fixed place
of business through which the ‘core business’ of the assessee was wholly or
partly carried on. Relying on a number of judicial precedents of the Supreme
Court in the cases of CIT vs. Hyundai Heavy Industries Co. Ltd., [2007] 7
SCC 422; DIT (IT) vs. Morgan Stanley & Co. Inc., [2007] 7 SCC 1;
Ishikawajima-Harima Heavy Industries Ltd. vs. DIT, [2007] 3 SCC 481;
and ADIT vs. E-Funds IT Solution Inc. [2018] 13 SCC 294, the
Court in paragraphs 23 and 28 held as follows:

‘23. A reading of the aforesaid judgments makes it clear that
when it comes to “fixed place” permanent establishments under double
taxation avoidance treaties, the condition precedent for applicability of
Article 5(1) of the double taxation treaty and the ascertainment of a
“permanent establishment” is that it should be an establishment
“through which the business of an enterprise” is wholly or partly
carried on. Further, the profits of the foreign enterprise are taxable only where the said enterprise carries on its core
business through a permanent establishment. What is equally clear is
that the maintenance of a fixed place of business which is of a preparatory or
auxiliary character in the trade or business of the enterprise would not be
considered to be a permanent establishment under Article 5. Also, it is
only so much of the profits of the enterprise that may be taxed in the other
State as is attributable to that permanent establishment.

28. Though it was pointed out to the ITAT that there were
only two persons working in the Mumbai office, neither of whom was qualified to
perform any core activity of the assessee, the ITAT chose to ignore the
same. This being the case, it is clear, therefore, that no permanent
establishment has been set up within the meaning of Article 5(1) of the DTAA, as
the Mumbai Project Office cannot be said to be a fixed place of business
through which the core business of the assessee was wholly or partly carried
on. Also, as correctly argued by Shri Ganesh, the Mumbai Project Office,
on the facts of the present case, would fall within Article 5(4)(e) of the
DTAA, inasmuch as the office is solely an auxiliary office, meant to act as a
liaison office between the assessee and ONGC. This being the case, it is
not necessary to go into any of the other questions that have been argued
before us.’

In the context of a fixed
place PE, in the SHIL case the Supreme Court mentioned and summarised the
aforesaid aspect in the decision in the case of Morgan Stanley & Co.
Inc. (Supra) as under:

‘17. Some of the judgments of this Court have dealt with
similar double taxation avoidance treaty provisions and therefore need to be
mentioned at this juncture. In Morgan Stanley & Co. Inc. (Supra),
the Double Taxation Avoidance Agreement (1990) between India and the United
States of America was construed. …..Tackling the question as to whether a
“fixed place” permanent establishment existed on the facts of that
case under Article 5 of the India-US treaty – which is similar to Article 5 of
the present DTAA – this Court held:

“10. In our view, the second requirement of Article 5(1) of DTAA is not
satisfied as regards back office functions. We have examined the
terms of the Agreement along with the advance ruling application made by MSCo
inviting AAR to give its ruling. It is clear from reading of the above
Agreement / application that MSAS in India would be engaged in supporting the
front office functions of MSCo in fixed income and equity research and in
providing IT-enabled services such as data processing support centre and
technical services, as also reconciliation of accounts. In order to
decide whether a PE stood constituted one has to undertake what is called as a
functional and factual analysis of each of the activities to be undertaken by
an establishment. It is from that point of view we are in agreement with the
ruling of AAR that in the present case Article 5(1) is not applicable as the
said MSAS would be performing in India only back office operations. Therefore
to the extent of the above back office functions the second part of Article
5(1) is not attracted.”

14. There is one more
aspect which needs to be discussed, namely, exclusion of PE under Article 5(3).
Under Article 5(3)(e) activities which are preparatory or auxiliary in
character which are carried out at a fixed place of business will not
constitute a PE. Article 5(3) commences with a non obstante clause. It states that notwithstanding what is stated in
Article 5(1) or
under Article 5(2) the term PE shall not include maintenance of a fixed place
of business solely for advertisement, scientific research or for activities
which are preparatory or auxiliary in character. In the present case we are
of the view that the abovementioned back office functions proposed to be
performed by MSAS in India falls under Article 5(3)(e) of the DTAA. Therefore,
in our view in the present case MSAS would not constitute a fixed place PE
under Article 5(1) of the DTAA as regards its back office operations.’

The Supreme Court further
mentioned about the decision in the case of E-Funds IT Solution Inc. (Supra)
as follows:

‘22. Dealing with “support services” rendered by an Indian
Company to American Companies, it was held that the outsourcing of such
services to India would not amount to a fixed place permanent establishment
under Article 5 of the aforesaid treaty, as follows:

“22. This report
would show that no part of the main business
and revenue-earning activity of the two American companies is carried on
through a fixed business place in India which has been put at their
disposal. It is clear from the above that the Indian company only renders
support services which enable the assessees in turn to render services to their
clients abroad. This outsourcing of work to India would not give rise to a
fixed place PE and the High Court judgment is, therefore, correct on this
score.”’

In view of above
discussion, to constitute a fixed place PE it is particularly important to
determine what constitutes the ‘Business’, ‘Core Business’ or the ‘Main
business’, as referred to by the Supreme Court, of the assessee foreign
enterprise. This determination is going to be purely based on the facts and
hence an in-depth functional and factual analysis of the activities being
actually performed by the PO / BO would be required to be carried out in each
case.

The term ‘business’ is
defined in an inclusive manner in section 2(13) of the ITA as follows:
‘Business’ includes any trade, commerce, manufacture or any adventure or
concern in the nature of trade, commerce or manufacture.

Article 3(1)(h) of the
OECD MC provides that the term ‘business’ includes the performance of
professional services and of other activities of an independent character.

From
an overall analysis of the decisions, it appears that if the activities of the
PO / BO are purely in the nature of back office activities or support services
which enables the assessee foreign enterprise in turn to render services to
their clients abroad or performing mere coordination and executing delivery of
documents, etc., then the same would not be considered as the core or main
business of the assessee, and accordingly a PO / BO performing such activities
would not constitute a fixed place PE in India.

It is not quite clear as
to whether to constitute Core or Main business of the assessee foreign
enterprise there has to be revenue-earning activity in India, i.e., having
customers or clients in India to whom goods are sold or for whom services are
rendered, invoiced and revenue generated in India, is necessary for the same to
be constituting a fixed place PE in India and consequently be taxable in India.

RELIANCE OF RELEVANT DOCUMENTS

Since the determination of
a fixed place PE is predominantly an in-depth fact-based exercise, the ITAT and
the courts have to rely on various relevant documents.

It has been observed that
in the application to the Reserve Bank of India (RBI) for obtaining approval of
PO / BO, the relevant Board resolution of the foreign enterprise to open a PO /
BO, the approval given by the RBI, the accounts maintained by the PO / BO in
India, etc., are very relevant for arriving at the determination of the
existence of a PE in India.

The ITAT in SHIL vs.
ADIT IT [2011] 13 taxmann.com 14 (Delhi), largely relied upon (a)
SHIL’s application to RBI for opening the PO; (b) SHIL’s Board Resolution for
opening the PO; and (c) RBI’s approval for opening the PO. In respect of the
Board Resolution, the ITAT focused on its first paragraph alone and in
paragraph 71 of the order observed as follows:

‘71. There is a force in the contention of Learned DR that
the words “That the Company hereby open one project office in Mumbai,
India for co-ordination and execution of Vasai East Development Project for Oil
and Natural Gas Corporation Limited (ONGC), India” used by the assessee company
in its resolution of Board of Directors meeting dated 3-4-2006 makes it
amply clear that the project office was opened for coordination and execution
of the impugned project. In the absence of any restriction put by the assessee
in the application moved by it to the RBI, in the resolutions passed by the
assessee company for the opening of the project office at Mumbai and the
permission given by RBI, it cannot be said that Mumbai project office was not a
fixed place of business of the assessee in India to carry out wholly or partly
the impugned contract in India within the meaning of Article 5.1 of DTAA.
These documents make it clear that all the activities to be carried out in
respect of impugned contract will be routed through the project office only.’

All these gave a prima
facie impression that the PO was opened for coordination and execution of
the entire project and was thus involved in the core business activity of SHIL
in India.

However, the Supreme Court
delved deeper and looked at various other factors which the ITAT had ignored or
dismissed. In paragraphs 27 and 28, the Court, relying on the second paragraph
of the Board Resolution which clarified that the PO was established for
coordinating and executing delivery of certain documents, and not for the
entire project, the fact that the accounts of the PO showed no expenditure
incurred in relation to execution of the contract and that the only two people
employed in the PO were not qualified to carry out any core activity of SHIL,
concluded that no fixed place PE has been set up within the meaning of Article
5(1) read with Article 5(4)(e) of the India-Korea DTAA.

The
above indicates that the determination of the existence of a fixed place PE of
a foreign enterprise in India requires a deep factual and functional analysis
and the same cannot be determined on mere prima facie satisfaction.

Even in the case of Union
of India vs. U.A.E. Exchange Centre [2020] 116 taxmann.com 379 (SC)
dealing with the question relating to a Liaison Office being considered as a
fixed place PE in India, the Court relied on the approval letter given by the
RBI. In paragraph 9 of the judgment. the Supreme Court mentioned that ‘keeping
in mind the limited permission and the onerous stipulations specified by the
RBI, it could be safely concluded, as opined by the High Court, that the
activities in question of the liaison office(s) of the respondent in India are
circumscribed by the permission given by the RBI and are in the nature of
preparatory or auxiliary character. That finding reached by the High Court is
unexceptionable.’

In Hitachi High
Technologies Singapore Pte Ltd. vs. DCIT [2020] 113 taxmann.com 327
(Delhi-Trib.) the ITAT held that whether the assessee violated the
conditions of RBI or FEMA is not relevant in determining the LO as a PE under
the I.T. Act.

It appears
that there is an increasing reliance by the ITAT and courts, inter alia, on the application and related documents
and the approval of the RBI in considering whether an LO / PO / BO can
constitute a fixed place PE in India.

INITIAL ONUS REGARDING EXISTENCE OF A FIXED PLACE PE IN
INDIA

An important question
arises as to whether the onus is on the assessee or the tax authorities to
first show that a PO / BO is a fixed place PE in India.

The ITAT in the SHIL
case (Supra) held that the initial onus was on the assessee and not the
Revenue. However, the Supreme Court in the SHIL case reiterated the fact
that the initial onus lies on the Indian Revenue, and not the assessee, to
prove that there is a PE of the foreign enterprise in India before moving
further to determine the Indian tax liability of that enterprise. While
reversing the finding of the ITAT, the Supreme Court stated that ‘Equally
the finding that the onus is on the Assessee and not on the Tax Authorities to
first show that the project office at Mumbai is a permanent establishment is
again in the teeth of our judgment in E-Funds IT Solution Inc. (Supra).’

The Supreme Court in E-Funds
IT Solution Inc. (Supra) stated that the burden of proving the fact
that a foreign assessee has a PE in India and must, therefore, suffer tax from
the business generated from such PE, is initially on the Revenue. The
Court observed as follows:

‘16. The Income-tax Act,
in particular Section 90 thereof, does not speak of the concept of a PE. This
is a creation only of the DTAA. By virtue of Article 7(1) of the DTAA, the
business income of companies which are incorporated in the US will be taxable
only in the US, unless it is found that they were PEs in India, in which event
their business income, to the extent to which it is attributable to such PEs,
would be taxable in India. Article 5 of the DTAA set out hereinabove provides
for three distinct types of PEs with which we are concerned in the present
case: fixed place of business PE under Articles 5(1) and 5(2)(a) to 5(2)(k);
service PE under Article 5(2)(l) and agency PE under Article 5(4). Specific and
detailed criteria are set out in the aforesaid provisions in order to fulfil
the conditions of these PEs existing in India. The burden of proving the
fact that a foreign assessee has a PE in India and must, therefore, suffer tax
from the business generated from such PE is initially on the Revenue. With
these prefatory remarks, let us analyse whether the respondents can be brought
within any of the sub-clauses of Article 5.’

In view of above referred
two Supreme Court decisions, it can be said that the initial onus is on the
Revenue and not on the assessee.

PREPARATORY OR AUXILIARY ACTIVITIES TEST

As mentioned above,
Article 5(4) of the OECD MC provides exclusionary clauses in respect of a fixed
place PE provided the activities of a PE, or in case of a combination of
activities the overall activities, are of a preparatory or auxiliary
character. In this connection, the readers may refer to extracts of the
OECD Commentary in this regard discussed in paragraph 4 of the article
published in the BCAJ of August, 2020 in respect of Taxability of the
Liaison Office of a Foreign Enterprise in India.

Further, in the context of
activities of an ‘auxiliary’ character, in National Petroleum
Construction Company vs. DIT (IT) (Supra) the Delhi High Court in paragraph
28 explained as follows:

‘28. The Black’s Law Dictionary defines the word “auxiliary”
to mean as “aiding or supporting, subsidiary”. The word “auxiliary”
owes its origin to the Latin word “auxiliarius” (from auxilium meaning help).
The Oxford Dictionary defines the word auxiliary to mean “providing
supplementary or additional help and support”. In the context of Article
5(3)(e) of the DTAA, the expression would necessarily mean carrying on
activities, other than the main business functions, that aid and support the
Assessee. In the context of the contracts in question, where the main
business is fabrication and installation of platforms, acting as a
communication channel would clearly qualify as an activity of auxiliary
character – an activity which aids and supports the Assessee in carrying on its
main business.’

BEPS Report on Action 7 – Preventing
the Artificial Avoidance of Permanent Establishment Status

When the exceptions to the
definition of PE that are found in Article 5(4) of the OECD Model Tax
Convention were first introduced, the activities covered by these exceptions
were generally considered to be of a preparatory or auxiliary nature.

Since the introduction of
these exceptions, however, there have been dramatic changes in the way that
business is conducted. Many such challenges of a digitalised economy are
outlined in detail in the Report on Action 1, Addressing the Tax Challenges
of the Digital Economy. Depending on the circumstances, activities
previously considered to be merely preparatory or auxiliary in nature may nowadays
correspond to core business activities. In order to ensure that profits derived
from core activities performed in a country can be taxed in that country,
Article 5(4) is modified to ensure that each of the exceptions included therein
is restricted to activities that are otherwise of a ‘preparatory or auxiliary’
character.

BEPS concerns related to
Article 5(4) also arose from what is typically referred to as the
‘fragmentation of activities’. Given the ease with which multinational
enterprises may alter their structures to obtain tax advantages, it was
important to clarify that it is not possible to avoid PE status by fragmenting
a cohesive operating business into several small operations in order to argue
that each part is merely engaged in preparatory or auxiliary activities that
benefit from the exceptions of Article 5(4).

Article 13 of
Multilateral Instrument (MLI) – Artificial avoidance of Permanent Establishment
status through the Specific Activity Exemptions

MLI has become effective
in India from 1^st April, 2020 and it will affect many Indian DTAAs
post MLI because, wherever applicable, MLI will impact the covered tax
agreements. Article 13 of MLI deals with the artificial avoidance of PE through
specific activity exemptions, i.e., activities which are preparatory or
auxiliary in nature, and provides two options, i.e. ‘Option A’ and ‘Option B’.

India
has opted for ‘Option A’, which continues with the existing list of exempted
activities from (a) to (e) in Article 5(4), but has added one more sub-clause
(f) which states that the maintenance of a fixed place of business solely for
any combination of activities mentioned in sub-paragraphs (a) to (e) is covered
in the exempt activities, provided all the activities mentioned in sub-clauses
(a) to (e) or a combination of these activities must be preparatory or
auxiliary in nature. Therefore, as per modified Article 5(4), in order to be
exempt from fixed place PE, each activity on a standalone basis as well as a
combination of activities should qualify as preparatory or auxiliary activity
test.

INDIAN JUDICIAL PRECEDENTS

On the issue of whether a
PO / BO constitutes a fixed place PE in India, there are mixed judicial
precedents, primarily based on the facts of each case. In addition to various Supreme
Court cases mentioned and discussed above, there are many other judicial
precedents in this regard.

BO Cases

In a few cases, based on
the peculiar facts of each case, the Tribunals and courts have held that a BO
does not constitute a fixed place PE in India. In this regard, useful reference
can be made to the following case: Whirlpool India Holdings Ltd. vs. DDIT
IT [2011] 10 taxmann.com 31 (Delhi).

However, in the following
case it has been held that a BO constitutes a fixed place PE in India: Hitachi
High Technologies Singapore Pte Ltd. vs. DCIT [2020] 113 taxmann.com 327
(Delhi-Trib.).

In the case of Wellinx
Inc. vs. ADIT IT [2013] 35 taxmann.com 420 (Hyderabad-Trib.), where it
was contended by the assessee that the income of the BO is not taxable in
India, the ITAT held that services performed by a branch office are on account
of outsourcing of commercial activities by its head office, and income arising
out of such services rendered would be taxable under article 7(3) of the
India-USA DTAA.

PO Cases

Similarly, in the case of
POs, based on the factual matrix the following cases have been decided in
favour of assessees as well as the Revenue:

In favour of the
assessees:

Sumitomo
Corporation vs. DCIT [2014] 43 taxmann.com 2 (Delhi-Trib.);

National
Petroleum Construction Company vs. DIT (IT) [2016] 66 taxmann.com 16 (Delhi);

HITT Holland
Institute of Traffic Technology B.V. vs. DDIT (IT) [2017] 78 taxmann.com 101
(Kolkata-Trib.).

In favour of the Revenue:

Voith Paper
GmbH vs. DDIT [2020] 116 taxmann.com 127 (Delhi-Trib.);

Orpak Systems
Ltd. vs. ADIT (IT) [2017] 85 taxmann.com 235 (Mumbai-Trib.).

KEY POINTS OF JUDGMENT OF THE SUPREME COURT IN SHIL

The Supreme Court in this
case has clearly established that facts are important in deciding about the
existence of a fixed place PE in India, while principles of interpretations
more or less remain constant. It is imperative that one must minutely look into
the facts and actual activities to decide existence of a fixed place PE in case
of a PO / BO.

The key points of this
judgment can be summarised as under:

In deciding whether a
project office constitutes a fixed place PE, the entire set of documentation
including the relevant Board resolutions, application to RBI and approval of
the RBI, should be read minutely and understood in their entirety.

The detailed factual and
functional analysis of the actual activities and role of PO / BO in India is
crucial in determining a PE. It would be necessary to determine whether the PO
/ BO carries on business / core business or the main business of the foreign
enterprise in India.

The nature of expenses
debited in the accounts of the PO / BO throws light and cannot be brushed aside
on the ground that the accounts are entirely in the hands of the assessee. They
do have relevance in determining the issue in totality.

It reiterates that the
initial onus is on the Revenue to prove the existence of a fixed placed PE in
India.

Even post-MLI, the Supreme
Court ruling in SHIL’s case should help in interpretation on a fixed place PE
issue.

CONCLUSION

The issue of existence of
a fixed place PE in case of a PO / BO has been a subject matter of debate
before the ITAT and courts for long. The ruling of the Supreme Court in SHIL’s case
endorses the settled principles on fixed place PE in the context of a PO of a
turnkey project. The Supreme Court reiterated that a fixed place PE emerges
only when ‘core business’ activities are carried on in India. The Court brings
forth more clarity on the existence of a fixed place PE or otherwise in case of
a PO / BO and should instil confidence in multinationals to do business in
India and bring much needed certainty in this regard.

shailesh.kwebmaker

COPARCENARY RIGHT OF A DAUGHTER IN FATHER’S HUF: FINAL TWIST IN THE TALE?

INTRODUCTION

The Hindu Succession
(Amendment) Act, 2005 (‘2005 Amendment Act’) which was made operative from 9^th
September, 2005, was a path-breaking Act which placed Hindu daughters on an
equal footing with Hindu sons in their father’s Hindu Undivided Family by
amending the age-old Hindu Succession Act, 1956 (‘the Act’). However, while it
ushered in great reforms it also left several unanswered questions and
ambiguities. Key amongst them was to which class of daughters did the 2005
Amendment Act apply? The Supreme Court by two important decisions had answered
some of these questions and helped clear a great deal of confusion. However,
just when one thought that things had been settled, a larger bench of the Apex
Court has turned the decision on its head and come out with a more liberal
interpretation of the law. Let us analyse the Amendment and the old and the new
decisions to understand the situation in greater detail.

THE 2005 AMENDMENT ACT

First, let us understand
the Amendment to put the issue in perspective. The Hindu Succession (Amendment)
Act, 2005 amended the Hindu Succession Act, 1956 which is one of the few
codified statutes under Hindu Law. It applies to all cases of intestate succession
by Hindus. The Act applies to Hindus, Jains, Sikhs, Buddhists and to any person
who is not a Muslim, a Christian, a Parsi or a Jew. Any person who becomes a
Hindu by conversion is also covered by the Act. The Act overrides all Hindu
customs, traditions and usages and specifies the heirs entitled to such
property and the order or preference among them. The Act also deals with some
important aspects pertaining to an HUF.

By the 2005 Amendment Act,
Parliament amended section 6 of the Hindu Succession Act, 1956 and the amended
section was made operative from 9^th September, 2005. Section 6 of
the Hindu Succession Act, 1956 was totally revamped. The relevant portion of
the amended section 6 is as follows:

‘6. Devolution of interest
in coparcenary property.?(1) On and from the commencement of the Hindu
Succession (Amendment) Act, 2005 (39 of 2005), in a Joint Hindu family governed
by the Mitakshara law, the daughter of a coparcener shall,?

(a) by birth become a
coparcener in her own right in the same manner as the son;

(b) have the same rights
in the coparcenary property as she would have had if she had been a son;

(c) be subject to the same
liabilities in respect of the said coparcenary property as that of a son, and
any reference to a Hindu Mitakshara coparcener shall be deemed to include a
reference to a daughter of a coparcener:

Provided that nothing
contained in this sub-section shall affect or invalidate any disposition or
alienation including any partition or testamentary disposition of property
which had taken place before the 20^th day of December, 2004.’

Thus, the amended section
provides that a daughter of a coparcener shall become by birth a coparcener in
her own right in the same manner as the son and, further, she shall have the
same rights in the coparcenary property as she would have had if she had been a
son. It also provides that she shall be subject to the same liabilities in
respect of the coparcenary property as a son. Accordingly, the amendment
equated all daughters with sons and they would now become coparceners in their
father’s HUF by virtue of being born in that family. She has all rights and
obligations in respect of the coparcenary property, including testamentary
disposition. Not only would she become a coparcener in her father’s HUF, but
she could also make a will for the same.

One issue which remained
unresolved was whether the application of the amended section 6 was prospective
or retrospective?

Section 1(2) of the Hindu
Succession (Amendment) Act, 2005, stated that it came into force from the date
it was notified by the Government in the Gazette, i.e., 9^th
September, 2005. Thus, the amended section 6 was operative from that date.
However, did this mean that the amended section applied to:

(a) daughters born after
that date,

(b) daughters married
after that date, or

There was no clarity under
the Act on this point.

PROSPECTIVE APPLICATION UPHELD

The Supreme Court, albeit
in a different context, clarified that the 2005 Amendment Act did not seek to
reopen vesting of a right where succession has already taken place. According
to the Supreme Court, ‘the operation of the Statute is no doubt prospective
in nature… the 2005 Act is not retrospective, its application is prospective” –
G. Sekar vs. Geetha (2009) 6 SCC 99.

The Supreme Court has held
in Sheela Devi vs. Lal Chand, (2007) 1 MLJ 797 (SC) that if the
succession was opened prior to the Hindu Succession (Amendment) Act, 2005, the
provisions of the 2005 Amendment Act would have no application.

FATHER-DAUGHTER COMBINATION IS A MUST

Finally, the matter was
settled by a two-Judge Bench of the Apex Court in its decision in the case of Prakash
vs. Phulavati, (2016) 2 SCC 36. The Supreme Court examined the issue in
detail and held that the amendment was prospective and not retrospective. It
further held that the rights under the Hindu Succession Act Amendment were
applicable to living daughters of living coparceners (fathers) as on 9^th
September, 2005 irrespective of when such daughters were born. It further held
that any disposition or alienation including a partition of the HUF which may
have taken place before 20^th December, 2004 (the cut-off date
provided under the 2005 Amendment Act) as per law applicable prior to the said
date, would remain unaffected. Thus, as per the above Supreme Court decision,
in order to claim benefit what was required was that the daughter should be
alive and her father should also be alive on the date of the amendment, i.e., 9^th
September, 2005. Once this condition was met, it was immaterial whether the
daughter was married or unmarried. The Court had also clarified that it was
immaterial when the daughter was born.

DAUGHTER BORN BEFORE THE ACT

In Danamma @ Suman
Surpur & Anr. vs. Amar & Ors., (2018) 3 SCC 343, another
two-Judge Bench of the Supreme Court took off from the Prakash case
(Supra) and agreed with it. It held that the Amendment used the words ‘in
the same manner as the son’. It was therefore apparent that both the sons
and the daughters of a coparcener had been conferred the right of becoming
coparceners by birth. It was the very factum of birth in a coparcenary that
created the coparcenary, therefore the sons and daughters of a coparcener
became coparceners by virtue of birth. The net effect of the amendment
according to the Court was that it applied to living daughters of living
coparceners as on 9^th September, 2005. It did not matter whether the
daughters were married or unmarried. It did not matter when the daughters were
born. They might be born even prior to the enactment of the 1956 Act, i.e., 17^th
June, 1956.

THREE-JUDGE VERDICT LAYS DOWN A NEW LAW

A three-Judge Bench of the
Supreme Court in the case of Vineeta Sharma vs. Rakesh Sharma, CA 32601
/2018, Order dated 11^th August, 2020 considered a bunch of
SLPs before it on the issue of the 2005 Amendment Act. The Court by a very
detailed verdict considered the entire genesis of the HUF Law. It held that in
the Mitakshara School of Hindu law (applicable to most parts of India), in a coparcenary
there is unobstructed heritage, i.e., right is created by birth. When right is
created by birth it is called unobstructed heritage. At the same time, the
birthright is acquired in the property of the father, grandfather, or great
grandfather. In case a coparcener dies without leaving a son, right is acquired
not by birth, but by virtue of there being no male issue and is called
obstructed heritage. It is called obstructed because the accrual of right to it
is obstructed by the owner’s existence. It is only on his death that obstructed
heritage takes place. It held that property inherited by a Hindu from his
father, father’s father, or father’s grandfather (but not from his maternal
grandfather) is unobstructed heritage as regards his own male issues, i.e., his
son, grandson, and great-grandson. His male issues acquire an interest in it
from the moment of their birth. Their right to it arises from the mere fact of
their birth in the family, and they become coparceners with their paternal
ancestor in such property immediately on their birth, and in such cases
ancestral property is unobstructed heritage.

Further, any property, the
right to which accrues not by birth but on the death of the last owner without
leaving a male issue, is called obstructed heritage. It is called obstructed
because the accrual of right to it is obstructed by the existence of the owner.
Consequently, property which devolves on parents, brothers, nephews, uncles,
etc. upon the death of the last owner is obstructed heritage. These relations
do not have a vested interest in the property by birth. Their right to it
arises for the first time on the death of the owner. Until then, they have a
mere spes successionis, or a bare chance of succession to the property,
contingent upon their surviving the owner. Accordingly, the Apex Court held
that unobstructed heritage took place by birth and obstructed heritage took
place after the death of the owner.

The Apex Court laid down a
very vital principle that coparcenary right, under section 6 (including
after Amendment), is given by birth which is called unobstructed heritage.
It is not a case of obstructed heritage depending upon the owner’s death. Thus,
the Supreme Court concluded that a coparcener’s father need not be alive
on 9^th September, 2005, i.e., the date of the Amendment.

The Court observed that
the Amendment was a gender bender inasmuch as it sought to achieve removing ‘gender
discrimination to a daughter who always remains a loving daughter’. It
further held that though the rights could be claimed, w.e.f. 9^th
September, 2005, the provisions were of a retroactive application, i.e., they
conferred benefits based on the antecedent event and the Mitakshara coparcenary
law should be deemed to include a reference to a daughter as a coparcener.
Under the amended section 6, since the right was given by birth, i.e., an
antecedent event, the provisions concerning claiming rights operated on and
from the date of the Amendment Act. Thus, it is not at all necessary that the
father of the daughter should be living as on the date of the Amendment, as she
has not been conferred the rights of a coparcener by obstructed heritage. The
effect of the amendment is that a daughter is made coparcener with effect from
the date of the amendment and she can claim partition also, which is a
necessary concomitant of the coparcenary. Section 6(1) recognises a joint Hindu
family governed by Mitakshara Law. The coparcenary must exist on 9^th
September, 2005 to enable the daughter of a coparcener to enjoy rights
conferred on her. As the right is by birth and not by dint of inheritance, it
is irrelevant whether a coparcener whose daughter is conferred with the rights
is alive or not. Conferral is not based on the death of a father or other
coparcener.

The Court also held that
the daughter should be living on 9^th September, 2005. In the
substituted section 6, the expression ‘daughter of a living coparcener’ has not
been used. One corollary to this explanation would mean that if the daughter
has died before this date, then her children cannot become coparceners in their
maternal grandfather’s HUF. However, if she dies on or after this date, then
her children can become coparceners in their maternal grandfather’s HUF.

The Court explained one of
the implications of becoming a coparcener was that a daughter has now become
entitled to claim partition of coparcenary w.e.f. 9^th September,
2005, which was a vital change brought about by the statute. Accordingly, the
Supreme Court in Vineeta Sharma vs. Rakesh Sharma, CA 32601/2018, Order
dated 11^th August, 2020 expressly overturned its earlier
verdict in Prakash vs. Phulavati, (2016) 2 SCC 36 and those
portions of Danamma @ Suman Surpur & Anr. vs. Amar & Ors., (2018)
3 SCC 343 which approved of the decision in Prakash vs. Phulavati.

EXCEPTION TO THE RULE

Section 6(5) of the Act
provides that the Amendment will not apply to an HUF whose partition has been
effected before 20^th December, 2004. For this purpose, the partition
should be by way of a registered partition deed / a partition brought out by a
Court Decree. In the Amendment Bill even oral partitions, supported by
documentary evidence, were allowed. However, this was dropped at the final
stage since the intention was to avoid any sham or bogus transactions in order
to defeat the rights of coparcener conferred upon daughters by the 2005
Amendment Act.

It was argued before the
Court that the requirement of a registered deed was only directory and not
mandatory. But the Court negated this argument. It held that the intent of the
provisions was not to jeopardise the interest of the daughter but to take care
of sham or frivolous transactions set up in defence unjustly to deprive the
daughter of her right as coparcener. In view of the clear provisions of section
6(5), the intent of the Legislature was clear and a plea of oral partition was
not to be readily accepted. However, in exceptional cases where the plea of
oral partition was supported by public documents and partition was finally
evinced in the same manner as if it had been effected by a decree of a court,
it may be accepted. A plea of partition based on oral evidence alone could not
be accepted and had to be rejected outright.

CONCLUSION

The conclusion arrived at
by the Supreme Court in Vineeta Sharma’s case (Supra) undoubtedly
appears to be correct as compared to the earlier decisions on the point. A
beneficial Amendment was sought to be made restrictive and the same has now
been set right. However, consider the turmoil and the legal complications which
this decision would now create. Several disputes in HUFs were created by the
2005 Amendment and those raging fires were settled by the decision in Prakash
vs. Phulavati (Supra). It has been almost five years since this
decision was rendered. Now comes a decision which overrules the settled law.
One can expect a great deal of litigation on this issue now that the
restrictive parameters set down have been removed. In respect of cases pending
before different High Courts and subordinate courts, the Supreme Court in Vineeta
Sharma’s case (Supra) has held that daughters cannot be deprived of
their equal right and hence it requested that all the pending matters be
decided, as far as possible, within six months. However, what happens to cases
where matters are settled? Would they be reignited again?

One wonders
how Parliament can enact such a path-breaking enactment and not pay heed to a
simple matter of its date of applicability. Could this issue not have been
envisaged at the drafting stage? This is a classic case of a very advantageous
and laudable Amendment suffering from inadequate drafting! Is it not strange
that while the language of some of our pre-Independence Acts (such as the
Contract Act 1872, Transfer of Property Act 1882, Indian Succession Act 1925,
etc.) have stood strong for over a century, some of our recent statutes have
suffered on the drafting front. Ultimately, matters have to travel to the
Supreme Court leading to a lot of wastage of time and money. One can only hope
that this issue of the coparcenary right of a daughter in her father’s
HUF is settled once and for all. Or are there going to be some more
twists in this tale?

If you disrupt yourself, you
will be able to manage and even thrive through disruption.

—
Whitney Johnson, Executive Coach and Author

shailesh.kwebmaker

DISGORGEMENT OF ILL-GOTTEN GAINS – A US SUPREME COURT JUDGMENT AND A SEBI COMMITTEE REPORT

BACKGROUND

One of the
important enforcement tools that SEBI has against wrong-doers in capital
markets is disgorging their ill-gotten gains. This means taking away by SEBI
those gains that such persons have made from their wrong-doings. For example,
an insider may trade based on unpublished price-sensitive information and make
profits. SEBI would take away, i.e., disgorge, such profits and deposit them in
the Investors’ Protection and Education Fund. There can be numerous other
similar cases of ill-gotten gains such as through price manipulation, excessive
remuneration, fraudulent schemes of issue of securities, etc.

Disgorgement is
not a punitive action and thus is limited to the gains made. Penalty and other
actions may be over and above such disgorgement. The idea of disgorgement is
that a wrong-doer should not retain the profits from his wrong-doing.

While this power
is expressly available to SEBI under law (thanks to a curiously worded
‘Explanation’ to section 11B), there are many areas on which there is ambiguity
and lack of clarity. Recently, however, there have been two developments that
finally have highlighted these areas of concern in relation to disgorgement.
The first is a judgment of the Supreme Court of the USA (in Charles C.
Liu et al vs. SEC, Supreme Court dated 22^nd June 2020, No. 18-501
– referred to here as Liu), and the second is the report of the
high-level committee under the Chairmanship of Justice A.R. Dave (Retired
Judge, Supreme Court of India) dated 16^th June, 2020 (‘the Report’).

The US judgment
in Liu has highlighted three qualifications to the absolute power
of disgorgement of the Securities and Exchange Commission (SEC) in the context
of the prevailing law. The Report, on the other hand, makes recommendations for
amendments in these areas, although to some extent different from what the US
judgment in Liu has held. These developments need discussion
because disgorgement happening at present in India (and even in the US) is
often ad hoc, arbitrary and even unfair.

For example, the
Securities Appellate Tribunal in Karvy Stock Broking Ltd. vs. SEBI
[(2008) 84 SCL 208] pointed out the arbitrary manner in which
disgorgement was ordered by the Securities and Exchange Board of India. Persons
who rendered services, and thus were part of the alleged scam, were required to
disgorge the entire illegal gains. Similar orders of disgorgement were,
however, not made against others in the same matter who had made the major
gains.

There are no
legal or judicial guidelines regarding the manner of disgorgement except some
generic remarks in SEBI orders or SAT decisions. Some of the issues raised in Liu
and the Report can be strongly raised before SEBI and appellate authorities in
the hope that they would be ruled on, thus creating clarity and precedents. In
some or all areas, the law itself could be amended, thus creating a strong, transparent
and comprehensive base that SEBI and parties can rely on.

PRESENT PROVISIONS RELATING TO
DISGORGEMENT IN INDIA UNDER THE SEBI ACT, 1992

SEBI has ordered
disgorgement of ill-gotten gains in numerous cases over the years. While
disgorgement is accepted as an inherent power based on equity, the basis in
terms of specific legal provisions in the Act is almost a belated
after-thought. It is in the form of an ‘Explanation’ to section 11B of the SEBI
Act inserted in 2013. The Explanation declares that SEBI has the power to
disgorge any profit made / loss avoided by any transaction or activity in
contravention of the Act or Regulations made thereunder. Such ‘wrongful gain
made or loss averted’ can be disgorged. No further guidance or details are
given in the provision or in any Rules / Regulations / Circulars.

Thus, while
power has been granted in the law, many aspects remain unclear and thus result
in arbitrary actions in many cases that have now been highlighted, particularly
through the US judgment and the Report.

Who should be
made to disgorge the profits? Should every person who has contravened the law
be made to disgorge the full profits, or should each person be made to disgorge
the profits that he has made? In particular, can a wrong-doer be made to pay
even the profits earned by another wrong-doer in the same wrong but who cannot
or does not pay the amount? In short, should the liability be joint and
several? If yes, are all wrong-doers to be subject to such joint and several
liability, or only certain specific categories of such wrong-doers should be so
subject?

Should the gross
gains earned by a wrong-doer be fully disgorged or only his net gains
that have gone into his pocket? In other words, should any deductions be
allowed for expenses, taxes, etc. incurred while earning such profits?

Should any
account be taken of losses incurred by the victims or should the disgorgement
be only of the gains made?

Who should keep
such disgorged profits? Should they be paid to those who incurred the losses,
or can SEBI / Government keep them? Can an employer disgorge profits earned by
an employee through violations of Securities Laws?

THE DECISION OF THE US SUPREME COURT IN
LIU

Summarised and simplified, these were the
facts: A married couple formulated a scheme to defraud foreign nationals,
inviting them to invest in certain commercial enterprises. This, it was
promised, would enable them to obtain permanent residence in the USA. It turned
out that this was allegedly a scam and only a small part of such amounts raised
(about $27 million) were invested for such purposes. A substantial portion of
the rest was diverted to personal accounts. Such acts were found to be in
violation of the relevant laws and SEC ordered disgorgement.

SEC, for the
purpose of disgorgement, applied a provision that enabled grant of ‘equitable
relief that may be appropriate or necessary for the benefit of investors’. The
core question before the Court was whether such disgorgement satisfied this
condition of ensuring equitable relief.

The Court
upheld the right of SEC to disgorge the ill-gotten gains. However, three
conditions were placed: First, joint and several liability cannot be placed on
all the guilty persons, except in cases where the parties are partners in the
wrong-doing. Second, the condition that it is for the benefit of investors
should be satisfied. In the ordinary course, if the disgorged proceeds are used
to compensate the loss caused to investors, the condition would be satisfied.
In other cases, compliance of this condition would have to be demonstrated.
Third, it was held that it would not be correct to disgorge all the profits
without giving appropriate deductions. While monies that go into the pocket of
the wrong-doer cannot be allowed as deductions, fair deductions on legitimate
expenses related to the activity that was in violation of law could be allowed.

Indian
Securities Laws do have parallels with those in the USA and thus judicial
developments there are considered by SEBI and Courts here. The judgment is not
only on certain general legal principles but also lays down issues that have
relevance even in the Indian context. However, the language of the law in India
is specifically different in some respects and hence it cannot be directly
applied to India in all aspects. For example, there is no condition in the
Explanation to section 11B that the disgorged amount should be for the benefit
of investors. It is also specifically stated in section 11(5) that the amount
disgorged should be credited to the IPEF fund, the uses of which have been
prescribed in the regulations. Thus, the decision in Liu, while
raising interesting questions, would have to be applied after considering the
niceties of specific and different provisions in India.

REPORT OF JUSTICE A.R. DAVE COMMITTEE

The Report is
fairly detailed and covers suggestions for reforms in certain major areas. In
one of the sections, where suggestions have been given relating to
quantification of penalties and the like, the subject of disgorgement has been
discussed in some detail. Notably, the Report was released before the decision
in Liu was rendered. Nevertheless, the issues that came up in Liu
have also been discussed to an extent.

The Report notes
the language of the Explanation and its possible interpretations. A literal
view could be that a wrong-doer could be held liable to disgorge only the gains
that have gone into his pocket and he would not be made to pay what other
wrong-doers gained. However, the Report opines that the better view is that the
gains made by all wrong-doers can be recovered from each person. The Committee,
however, suggests that the language should be made more clear and specific to provide
for joint and several liability of all persons who indulged in such
wrong-doing.

It also opines that disgorgement should be
of net gains and not of gross gains. It suggests detailed guidance on what
deductions should be allowed from the gains, so that only the net gains are
disgorged. Interestingly, income-tax is allowed as a deduction where it has
been incurred on gains from certain insider trading but not, say, where there
are identifiable investors who have lost money.

The Report also
notes that SEBI has no powers of compensating investors by helping them recover
their losses from the wrong-doers. For recovering their losses, the victims
have to approach civil courts. It also notes that it is the gains made that can
be disgorged and not the losses caused to others. Such losses can, however, be
taken into account for levy of penalty.

The Report makes
detailed and specific amendments to the law. It has been released for public
comments after which SEBI may implement it by amending the law.

CONCLUSION

Wrong-doings in
securities laws usually have a motive of financial gain. If the gains are
disgorged consistently, the motive is frustrated and wrong-doers lose their
incentive. That, coupled with penalty and other enforcement and even prosecution,
should help curb the ills in our securities markets.

The law relating
to disgorgement, however, continues to remain vague and opaque, leading to
arbitrary actions. The absence of guidelines also leads to inconsistent
actions. Appellate authorities also face the same problem of absence of a base
in law in terms of clear provisions.

Even the
decision in Liu is general in nature though broad guidelines are
given. Fortunately, we have the detailed and scholarly report of Justice Dave
and one hopes that it is quickly implemented after due consideration.

shailesh.kwebmaker

Part A Service Tax

I. HIGH COURT

25. [2020-TIOL-1285-HC-AHM-ST] M/s. Linde Engineering India Pvt. Ltd. vs.
Union of India Date of order: 16^th January, 2020

Services rendered by a
company located in India to its holding company outside India not being
establishments of distinct persons, are considered as export of service

FACTS

The petitioner is engaged
in providing services in India and outside India. Service is provided to their
holding company located outside India. A show cause notice was issued alleging
that the services provided to the holding company being merely an establishment
of a distinct person, cannot be considered as export of service and would fall
within the definition of exempted service, and therefore Rule 6(3) of the
CENVAT Credit Rules, 2004 is applicable and hence a demand is raised for
reversal of credit.

HELD

The Court noted that the
demand is raised on mere misinterpretation of the provisions of the law. The
petitioner and its parent company can by no stretch of the imagination be
considered as the same entity. The petitioner is an establishment in India
which is a taxable territory and its 100% holding company, which is the other
company in the non-taxable territory, cannot be considered as establishment so
as to treat them as distinct persons for the purpose of rendering services.
Thus, services provided to its holding company are considered as export of
service as per Rule 6A of the Service Tax Rules, 1994.

II. TRIBUNAL

26. [2020-TIOL-1178-CESTAT-ALL] M/s Encardio-Rite Electronics Pvt. Ltd. vs.
Commissioner of Appeals, Central Excise and Service Tax Date of order: 25^th November, 2019

Even though the
sub-contractor and the main contractor are located in the taxable territory,
since the service is consumed in the state of Jammu and Kashmir the service is
not taxable

FACTS

The appellants are sub-contractors
engaged in laying of tracks for the Indian Railways and work associated with the construction of dams. The entire activity is performed in the state of
Jammu and Kashmir. The Revenue argues that since both the sub-contractor and
the main contractor are located in the taxable territory in view of Rule 6 of
the Taxation of Services (Provided from Outside and Received in India) Rules
2006 as well as Rule 8 of the Place of Provision of Service Rules, 2012, the service is taxable and therefore tax is leviable.

HELD

The Tribunal primarily
noted that the services were provided and consumed in the state of Jammu and
Kashmir. It was held that the provisions of the rule cannot override provisions
of the sections provided in the Act. Section 64 clearly lays down that provisions
of Chapter V of the Finance Act, 1994 which deals with service tax are not
applicable in the state of Jammu and Kashmir. Accordingly, since the service is
consumed in a non-taxable territory, the demand of service tax is not
sustainable.

27. [2020-TIOL-1167-CESTAT-CHD] State Bank of India vs. Commissioner
(Appeals) of CGST, Ludhiana Date of order: 27^th February, 2019

Refund cannot be rejected
on technical grounds that the payment of tax sought to be refunded was made in
a wrong service code

FACTS

The appellant is a banking
company providing banking and financial services. They received services from a
contractor and discharged service tax under reverse charge on works contract
service. However, while making the payment the same was made under the category
of banking and financial services. Since they were not required to pay service
tax under reverse charge, they filed a refund claim. The claim was rejected on
the ground that they have failed to show that the payment was made under works contract
service.

HELD

The Tribunal noted that
whatever service tax was payable by the appellant has been paid under banking
and financial services. They have also produced a certificate issued by the
chartered accountant showing that the service tax of which the refund claim is
filed is none other than the works contract service. The Tribunal accordingly
held that the refund claim cannot be rejected on technical grounds and the
appeal was allowed.

28. [2020-TIOL-1166-CESTAT-CHD] M/s Hitachi Metals India Pvt. Ltd. vs.
Commissioner of Central Excise and Service Tax Date of order: 3^rd April, 2019

The provisions of section
11B are not applicable when tax is not required to be paid

FACTS

The appellant entered into
an agreement with a foreign company for promotion of products in India by way
of customer identification and contact, communication to or from, inquiries
relating to business, co-operate with and represent companies in its
promotional efforts, etc. Due to confusion and lack of clarity, the appellant
paid service tax during the period from April, 2006 to February, 2008 for the
services provided to their foreign-based service recipient for the payment
received against the services in convertible foreign exchange. A refund claim
was filed which was rejected on the ground that the same is filed beyond the
time limit prescribed u/s 11B of the Central Excise Act, 1944. Accordingly, the
present appeal is filed.

HELD

The
Tribunal relying on the decision in the case of National Institute of
Public Finance and Policy vs. Commissioner of Service Tax
[2018-TIOL-1746-HC-DEL-ST] held that since the appellant was not liable
to pay service tax, the time limit prescribed u/s 11B of the Central Excise
Act, 1944 for filing of refund claim is not applicable.

shailesh.kwebmaker

TAXATION OF RECEIPT BY RETIRING PARTNER

ISSUE FOR CONSIDERATION

On retirement of a
partner from a partnership firm, at times the outgoing partner may be paid an amount
which is in excess of his capital, current account and loan balances with the
firm. Such amount paid to the outgoing partner is often determined on the basis
of an informal valuation of the net assets of the firm, or of the business of
the firm.

Taxation of such
receipts by a partner on retirement from a partnership firm has been an issue
which has been the subject matter of disputes for several decades. As far back
as in September, 1979, the Supreme Court in the case of Malabar Fisheries
Co. vs. CIT 120 ITR 49, held that dissolution of a firm did not amount
to extinguishment of rights in partnership assets and was thus not a ‘transfer’
within the meaning of section 2(47). In 1987, the Supreme Court, in a short
decision in Addl. CIT vs. Mohanbhai Pamabhai 165 ITR 166,
affirmed the view taken by the Gujarat High Court in 1973 in the case of CIT
vs. Mohanbhai Pamabhai 91 ITR 393. In that case, the Gujarat High Court
had held that when a partner retires from a partnership and the amount of his
share in the net partnership assets after deduction of liabilities and prior
charges is determined on taking accounts on footing of notional sale of
partnership assets and given to him, what he receives is his share in the
partnership and not any consideration for transfer of his interest in
partnership to the continuing partners. Therefore, charge of capital gains tax
would not apply on such retirement.

The law is amended
by the Finance Act, 1987 with effect from Assessment Year 1988-89 by insertion
of section 45(4) and simultaneous deletion of section 47(ii). Section 47(ii)
earlier provided that distribution of assets on dissolution of a firm would not
be regarded as a transfer. Section 45(4) now provides as under:

‘The profits or
gains arising from the transfer of a capital asset by way of distribution of
capital assets on the dissolution of a firm or other association of persons or
body of individuals (not being a company or a co-operative society) or
otherwise, shall be chargeable to tax as the income of the firm, association or
body, of the previous year in which the said transfer takes place and, for the
purposes of section 48, the fair market value of the asset on the date of such
transfer shall be deemed to be the full value of the consideration received or
accruing as a result of the transfer.’

Section 45(4), with
its introduction, so far as the firm is concerned, provides for taxing the firm
on distribution of its assets on dissolution or otherwise. However, even
subsequent to these amendments, the taxability of the excess amounts received
by the partner on retirement from the firm, in his hands, has continued to be a
matter of dispute before the Tribunals and the High Courts. While the Pune,
Hyderabad, Mumbai and Bangalore benches have taken the view that such excess
amounts are chargeable to tax as capital gains in the hands of the partner, the
Mumbai, Chennai, Bangalore and Hyderabad benches have taken the view that such
amounts are not taxable in the hands of the retiring partner. Further, while
the Bombay, Andhra Pradesh and Madras High Courts have taken the view that such
amount is not taxable in the hands of the partner, the Delhi High Court has
taken the view that it is taxable in the hands of the partner as capital gains.

THE HEMLATA S. SHETTY CASE

The issue came up
before the Mumbai bench of the Tribunal in the case of Hemlata S. Shetty
vs. ACIT [ITA Nos. 1514/Mum/2010 and 6513/Mum/2011 dated 1st December, 2015].

In this case,
relating to A.Y. 2006-07, the assessee was a partner in a partnership firm of
D.S. Corporation where she had a 20% profit share. The partnership firm had
acquired a plot of land in September, 2005 for Rs. 6.50 crores. At that time,
the original capital contributions of the partners was Rs. 3.20 crores, the
partners being the assessee’s husband (Sudhakar M. Shetty) and another person.
The assessee became a partner in the partnership firm on 16^th
September, 2005, contributing a capital of Rs. 52.50 lakhs. On 26^th
September, 2005 three more partners were admitted to the partnership firm. Most
of the tenants occupying the land were vacated by paying them compensation, and
the Ministry of Tourism’s approval was received for setting up a five-star
hotel on the plot of land.

On 27^th
March, 2006 the assessee and her husband retired from the partnership firm, at
which point of time the land was revalued at Rs. 193.91 crores and the surplus
on revaluation was credited to the partners’ capital accounts. The assessee and
her husband each received an amount of Rs. 30.88 crores on their retirement
from the partnership firm, over and above their capital account balances.

The A.O. noted that
the revaluation of land resulted in a notional profit of Rs. 154.40 crores for
the firm and 20% share therein of the assessee and her husband at Rs. 30.88
crores each was credited to their accounts. No tax was paid on such revalued
profits on the plea that those amounts were exempt u/s 10(2A). The A.O. held
that the excess amount received on retirement from the partnership firm was
liable to tax as short-term capital gains as there was a transfer within the
meaning of section 2(47) on retirement of the partner.

The Commissioner
(Appeals), on appeal, confirmed the order of the A.O.

Before the
Tribunal, on behalf of the assessee, reliance was placed on a decision of the
Bombay High Court in the case of Prashant S. Joshi vs. ITO 324 ITR 154,
where the Bombay High Court had quashed the reassessment proceedings initiated
to tax such excess amount received on retirement of a partner from the
partnership firm, on the ground that the amount was a capital receipt not
chargeable to tax and the reopening of the case was not maintainable.

It was argued on
behalf of the Department that the Tribunal had decided the issue against the
assessee in the case of the assessee’s husband, Sudhakar M. Shetty vs.
ACIT 130 ITD 197, on 9^th September, 2010. In that case, the
Tribunal had referred to the observations of the Bombay High Court in the case
of CIT vs. Tribhuvandas G. Patel 115 ITR 95, where the Court had
held that there were two modes of retirement of a partner from a partnership
firm; in one case, a retiring partner, while going out, might assign his
interest by a deed; and in the other case, he might, instead of assigning his
interest, take the amount due to him from the firm and give a receipt for the
money and acknowledge that he had no more claim on his co-partners. In that
case, the Bombay High Court held that where, instead of quantifying his share
by taking accounts on the footing of a notional sale, the parties agreed to pay
a lump sum in consideration of the retiring partner assigning or relinquishing
his share or right in the partnership and its assets in favour of the
continuing partners, the transaction would amount to transfer within the
meaning of section 2(47). This view was followed by the Bombay High Court in
subsequent decisions in the cases of CIT vs. H.R. Aslot 115 ITR 255
and N.A.Mody vs. CIT 162 ITR 420, and the Delhi High Court in the
case of Bishan Lal Kanodia vs. CIT 257 ITR 449.

In the case of Sudhakar
Shetty (Supra), the Tribunal observed that in deciding the case of Prashant
S. Joshi (Supra), the Bombay High Court had not considered its earlier
decisions in the cases of N.A. Mody (Supra) and H.R. Aslot
(Supra) and the said decision was rendered by the Court in the context
of the validity of the notice u/s 148, and therefore the ratio of the
decision in that case did not apply to the facts of the case before it in the Sudhakar
Shetty case.

On behalf of the
assessee, Hemlata Shetty, it was pointed out to the Tribunal that, after the
Tribunal’s decision in Sudhakar Shetty’s case, the Department had
reopened the assessment of the firm where the assessee and her husband were
partners and assessed the notional profits as income in the hands of the firm
u/s 45(4). It was argued that the Department had realised the mistake that it
could not have assessed the partners on account of receipt on retirement u/s
45(4). It was therefore pointed out that due to subsequent developments, the
facts and circumstances had changed from those prevalent when the Tribunal had
decided the case of Sudhakar Shetty.

It was further
argued on behalf of the assessee that after the judgment in the Sudhakar
Shetty case on 9^thSeptember, 2010, a similar matter had
been decided by the Mumbai bench of the Tribunal in the case of R.F.
Nangrani HUF vs. DCIT [ITA No. 6124/Mum/2012] on 10^th
December, 2014, where the decision in Sudhakar Shetty’s case was
also referred to. The issue in that case was similar to the issue in the case
of Hemlata Shetty. In R.F. Nangrani HUF’s case, the
Tribunal had followed the decision of the Supreme Court in the case of CIT
vs. R. Lingamallu Rajkumar 247 ITR 801, where it had held that the
amount received on retirement by a partner was not liable to capital gains tax,
and the Tribunal in that case had also considered the decision of the Hyderabad
bench in ACIT vs. N. Prasad 153 ITD 257, which had taken a
similar view. It was argued on behalf of the assessee that when there were
conflicting decisions delivered by a bench of equal strength, the later
judgment should be followed, especially when the earlier judgment was referred
to while deciding the matter in the later judgment.

The Tribunal noted
that in the case of CIT vs. Riyaz A. Shaikh 221 Taxman 118, the
Bombay High Court referred to the fact that the Tribunal in that case had
followed the Bombay High Court decision in Prashant S. Joshi’s
case, while noting that Tribuvandas G. Patel’s case, which had
been followed in N.A. Mody’s case, had been reversed by the
Supreme Court. The Bombay High Court further noted in Riyaz Shaikh’s
case that Prashant Joshi’s case had also noted this fact of
reversal, and that it had followed the decision of the Supreme Court in R.
Lingamallu Rajkumar’s case 247 ITR 801.

The Tribunal
therefore followed the decision of the jurisdictional High Court in Riyaz
Shaikh’s case and held that the amount received by the assessee on
retirement from the partnership firm was not taxable under the head ‘Capital
Gains’.

This decision of
the Tribunal in Hemlata Shetty’s case has been approved by the
Bombay High Court in Principal CIT vs. Hemlata S. Shetty 262 Taxman 324.
R.F. Nangrani HUF’s Tribunal decision has also been approved by the
Bombay High Court in Principal CIT vs. R.F. Nangrani HUF 93 taxmann.com
302. A similar view has also been taken by the Andhra Pradesh High
Court in the case of CIT vs. P.H. Patel 171 ITR 128, though this
related to A.Y. 1973-74, a period prior to the deletion of clause (ii) of
section 47. Further, in the case of CIT vs. Legal Representative of N.
Paliniappa Goundar (Decd.) 143 ITR 343, the Madras High Court also
accepted the Gujarat High Court’s view in the case of Mohanbhai Pamabhai
(Supra) and disagreed with the view of the Bombay High Court in the
case of Tribhuvandas G. Patel (Supra), holding that excess amount
received by a partner on retirement was not taxable.

A similar view has
also been taken by the Mumbai bench of the Tribunal in the case of James
P. D’Silva vs. DCIT 175 ITD 533, following the Bombay High Court
decisions in Prashant S. Joshi and Riyaz A. Shaikh’s
cases and by the Bangalore bench in the case of Prabhuraj B. Appa, 6 SOT
419 and by the Chennai bench in the case of P. Sivakumar (HUF),
63 SOT 91.

SAVITRI KADUR’S CASE

The issue again
came up before the Bangalore bench of the Tribunal recently in the case of Savitri
Kadur vs. DCIT 177 ITD 259.

In this case, the
assessee and another person had formed a partnership with effect from 1^st
April, 2004. Yet another person was admitted as a partner with effect from 1^st
April, 2007, and simultaneously the assessee retired from the firm with effect
from that date. The assessee had a capital balance of Rs. 1.64 crores as on 1^st
April, 2006 and her share in the profit for the year of Rs. 46 lakhs was
credited to her account. The land and building held by the firm was revalued
and her share of Rs. 62.51 lakhs in the surplus on revaluation was credited to
her account. Interest on capital of Rs. 18.12 lakhs was also credited to her
account which, after deducting drawings, showed a balance of Rs. 2.78 crores as
on the date of her retirement. The assessee was paid a sum of Rs. 3.40 crores
on her retirement. The assessee had invested an amount of Rs. 50 lakhs in
capital gains bonds.

The difference of
Rs. 62 lakhs between Rs. 3.40 crores and Rs. 2.78 crores was taxed as capital
gains by the A.O. in her hands. According to the A.O., such amount was nothing
but a payment for her giving up her right in the existing goodwill of the firm,
that there was a transfer u/s 2(47) on her retirement, which was therefore
liable to capital gains tax.

The Commissioner
(Appeals) upheld the order of the A.O., placing reliance on the decision of the
Bombay High Court in the case of CIT vs. A.N. Naik Associates 265 ITR 346,
where the High Court had held that there was a charge to capital gains tax u/s
45(4) when the assets of the partnership were distributed even on retirement of
a partner, and the scope of section 45(4) was not restricted to the case of
dissolution of the firm alone.

On appeal, the
Tribunal observed that it was necessary to appreciate how the act of the
formation, introduction, retirement and dissolution of partnership was used by
assessees as a device to evade tax on capital gains; first by converting an
asset held individually into an asset of the firm and later on retiring from
the firm; and likewise by conversion of capital assets of the firm into assets
of the partners by effecting dissolution or retirement. In that direction, the
Tribunal analysed the background and tax implications behind conversion of
individual assets into assets of partnership, distribution of assets on
dissolution, reconstitution of the firm with the firm continuing whereby a
partner retired and the retiring partner was allotted a capital asset of the
firm for relinquishing all his rights and interests in the partnership firm as
partner, and continuation of the firm after reconstitution whereby a partner
retired and the retiring partner was paid a consideration for relinquishing all
his rights and interests in the partnership firm as partner in any of the
following manner:

(a) on the basis of
amount lying in his / her capital account, or

(b) on the basis of
amount lying in his / her capital account plus amount over and above the sum
lying in his / her capital account, or

The Tribunal
thereafter held that the case of the appellant, on the basis of the facts
before it, was a situation falling under (b) above, meaning that the assessee
on her retirement from the firm was paid on the basis of the amount lying in
her capital account plus an amount over and above the sum lying in her capital
account.

The Tribunal
observed that:

(i) there was no
dispute that there could not be any incidence of tax in situation (a) above on
account of the Supreme Court decision in the case of Additional CIT vs.
Mohanbhai Pamabhai (Supra);

(ii) so far as
situations (b) and (c) were concerned, they had been the subject matter of
consideration in several cases, and there had been conflict of opinion between
courts on whether there would be incidence of tax or not;

(iii) the fact that
there was revaluation of assets of the firm with a resultant enhancement of the
capital accounts of the partners was not relevant.

The Tribunal
further observed that:

(1) the share or
interest of a partner in the partnership and its assets would be property and,
therefore, a capital asset within the meaning of the aforesaid definition. To
this extent, there could be no doubt;

(2) the question
was whether it could be said that there was a transfer of capital asset by the
retiring partner in favour of the firm and its continuing partners so as to
attract a charge u/s 45;

(3) the share or
interest of a partner in the partnership and its assets would be property and,
therefore, a capital asset within the meaning of the aforesaid definition. The
next question was whether it could be said that there was a transfer of capital
asset by the retiring partner in favour of the firm and its continuing partners
so as to attract a charge u/s 45;

(4) the question
whether there would be incidence of tax on capital gains on retirement of a
partner from the partnership firm would depend upon the mode in which
retirement was effected. Therefore, taxability in such a situation would depend
on several factors like the intention, as was evidenced by the various clauses
of the instrument evincing retirement or dissolution, the manner in which the
accounts had been settled and whether the same included any amount in excess of
the share of the partner on the revaluation of assets and other relevant
factors which would throw light on the entire scheme of retirement /
reconstitution;

(5) for the
purposes of computation, what was to be seen was the credit in the capital
account of the partner alone.

The Tribunal,
referring to the observations of the Bombay High Court in the case of Tribhuvandas
G. Patel (Supra), held that the terms of the deed of retirement had to
be seen as to whether they constituted a release of any assets of the firm in
favour of the continuing partners; where on retirement an account was taken and
the partner was paid the amount standing to the credit of his capital account,
there would be no transfer and no tax was exigible; however, where the partner
was paid a lump sum consideration for transferring or releasing his interest in
the partnership’s assets to the continuing partners, there would be a transfer,
liable to tax. The Tribunal noted that the Supreme Court, in appeal in that
case, had held that there was no incidence of tax on capital gains on the
transaction only because of the provisions of section 47(ii), which exempted
the distribution of capital assets on dissolution, even though the facts in the
case in appeal before the Supreme Court were concerning the case of a retiring
partner giving up his rights over the properties of the firm.

The Tribunal
referred to the cases of the Pune bench in the case of Shevantibhai C.
Mehta 4 SOT 94 and the Mumbai bench of the Tribunal in the case of Sudhakar
M. Shetty (Supra) and held that the facts in the case before it were
almost identical to the facts in the case of Sudhakar M. Shetty.

It distinguished
the other cases cited before it on behalf of the assessee on the grounds that
some of those cases related to a period prior to the amendment of the law made
effective from A.Y. 1988-89, or were cases where the issue involved was whether
the reassessment proceedings were valid, or were cases involving the
partnership firm and not the partner, or were cases where the retiring partner
was paid a share in the goodwill of the firm. In short, the Tribunal held that
those cases were not applicable to the facts of the assessee’s case.

The Tribunal
finally upheld the action of the A.O. in taxing the excess paid to the retiring
partner over and above the sum standing to the credit of her capital account as
capital gains. However, it modified the computation of the capital gains by
treating the amount lying to the credit of the partner’s account, including the
amount credited towards goodwill in the partner’s capital account, as a cost
and allowing the deduction thereof. It also held the gains to be long-term
capital gains and allowed exemption u/s 54EC to the extent of investment in
capital gains bonds.

A similar view has
been taken by the other benches of the Tribunal in the cases of Shevantibhai
C. Mehta (Supra), Sudhakar M. Shetty (Supra) and Smt. Girija
Reddy vs. ITO 52 SOT 113 (Hyd)(URO). The Delhi High Court also, in a
case relating to A.Y. 1975-76 (before the amendment), Bishan Lal Kanodia
vs. CIT 257 ITR 449, followed the decision of the Bombay High Court in Tribhuvandas
G. Patel (Supra) to hold that the receipt on retirement was liable to
capital gains tax.

OBSERVATIONS

To understand the
root of the controversy, one would have to go back to the decision of the
Gujarat High Court in the case of CIT vs. Mohanbhai Pamabhai 91 ITR 393,
which was affirmed by the Supreme Court, 165 ITR 166, holding
that there was no transfer of capital assets by a partner on his retirement. In
that case, on retirement, the assessee received a certain amount in respect of
his share in the partnership which was worked out by taking the proportionate
value of a share in the partnership assets, after deduction of liabilities and
prior charges, including an amount representing his proportionate share in the
value of the goodwill. It was this proportionate share in the goodwill which
was sought to be taxed as capital gains by the authorities.

In that case, the
Gujarat High Court held that:

(i) what the
retiring partner was entitled to get was not merely a share in the partnership
assets, he has also to bear his share of the debts and liabilities, and it was
only his share in the net partnership assets, after satisfying the debts and
liabilities, that he was entitled to get on retirement;

(ii) Since it was only in the surplus that the
retiring partner was entitled to claim a share, it was not possible to predicate
that a particular amount was received by the retiring partner in respect of his
share in a particular partnership asset, or that a particular amount
represented a consideration received by the retiring partner for extinguishment
of his interest in a particular partnership asset;

(iii) when the
assessee retired from the firm, there was no transfer of interest of the
assessee in the goodwill or any other asset of the firm;

(iv) no
consideration received or accrued as a result of such transfer of such interest
even if there was a transfer; and

(v) no part of the amount received by the assessee
was assessable to capital gains tax u/s 45.

The Gujarat High
Court relied on its earlier decision in the case of CIT vs. R.M. Amin 82
ITR 194, for the proposition that where transfer consisted in
extinguishment of a right in a capital asset, unless there was an element of
consideration for such extinguishment, the transfer would not be liable to
capital gains tax.

It may be noted
that in Mohanbhai Pamabhai, the document pursuant to which
retirement was effected stated that the amount had been decided as payable to
the retiring partners in lieu of all their rights, interest and share in
the partnership firm, and each of them voluntarily gave up their right, title
and interest in the partnership firm. The goodwill had not been recorded or
credited to the capital accounts of the partners, and therefore it was a (b)
type of situation classified by the Bangalore Tribunal. The Bangalore bench of
the Tribunal therefore does not seem to have been justified in stating that
only cases where only balance standing to credit of the capital account is paid
to the retiring partner [situation (a) cases] are not transfers as was held by
the Supreme Court in Mohanbhai Pamabhai. In other words, the
facts of the Mohanbhai Pamabhai case classified with situation
(b) and the Tribunal overlooked this fact; had it done so by appreciating that
the facts in the case before the Supreme Court were akin to situation (b), the
decision could have been different.

The Supreme Court
approved the Gujarat High Court decision on the footing that there was no
transfer within the meaning of section 2(47) on retirement of a partner from a
partnership firm. By implication, the Supreme Court held that such cases of
retirement, where a partner was paid a sum over and above the balance due as
per the books of accounts, was not chargeable to capital gains tax.
Interestingly, in deciding the case the Supreme Court, while holding that the
receipts in question were not taxable, did not distinguish between different
modes of retirement, as some of the Tribunals and High Courts have sought to
do, for taxing some and exempting others.

The Tribhuvandas
G. Patel case (Supra) was one where the retiring partner was paid his
share in the goodwill of the firm and was also paid his share of appreciation
in the assets of the firm. Here, relying on the Commentary of Lindley on
Partnership, the Bombay High Court observed as under:

‘Further, under
section 32, which occurs in Chapter V, retirement of a partner may take any
form as may be agreed upon between the partners and can occur in three
situations contemplated by clauses (a), (b) and (c) of sub-section (1) of
section 32. It may be that upon retirement of a partner his share in the net
partnership assets after deduction of liabilities and prior charges may be
determined on taking accounts on the footing of notional sale of partnership
assets and be paid to him, but the determination and payment of his share may
not invariably be done in that manner and it is quite conceivable that, without
taking accounts on the footing of notional sale, by mutual agreement, a
retiring partner may receive an agreed lump sum for going out as and by way of
consideration for transferring or releasing or assigning or relinquishing his
interest in the partnership assets to the continuing partners and if the
retirement takes this form and the deed in that behalf is executed, it will be
difficult to say that there would be no element of “transfer”
involved in the transaction. In our view, it will depend upon the manner in
which the retirement takes place. What usually happens when a partner retires
from a firm has been clearly stated in the following statement of law, which
occurs in Lindley on Partnership, 13^thedition, at page 474:

“24.
Assignment of share, etc., by retiring partner.—When a partner retires or dies,
and he or his executors are paid what is due in respect of his share, it is
customary for him or them formally to assign and release his interest in the
partnership, and for the continuing or surviving partners to take upon
themselves the payment of the outstanding debts of the firm, and to indemnify
their late partner or his estate from all such debts, and it is useful for the
partnership agreement specifically so to provide.”

At page 475,
under the sub-heading “stamp on assignment by outgoing partner”, the
following statement of law occurs:

“An
assignment by a partner of his share and interest in the firm to his
co-partners, in consideration of the payment by them of what is due to him from
the firm, is regarded as a sale of property within the meaning of the Stamp
Acts; and consequently the deed of assignment, or the agreement for the
assignment, requires an ad valorem stamp. But if
the retiring partner, instead of assigning his interest, takes the amount due
to him from the firm, gives a receipt for the money, and acknowledges that he
has no more claims on his co-partners, they will practically obtain all they
want; but such a transaction, even if carried out by deed, could hardly be held
to amount to a sale; and no ad valorem stamp, it is apprehended, would
be payable.”

A couple of
things emerge clearly from the aforesaid passages. In the first place, a
retiring partner while going out and while receiving what is due to him in
respect of his share, may assign his interest by a deed or he may, instead of
assigning his interest, take the amount due to him from the firm and give a
receipt for the money and acknowledge that he has no more claim on his
co-partners. The former type of transactions will be regarded as sale or
release or assignment of his interest by a deed attracting stamp duty, while
the latter type of transaction would not. In other words, it is clear, the
retirement of a partner can take either of two forms, and apart from the
question of stamp duty, with which we are not concerned, the question whether
the transaction would amount to an assignment or release of his interest in
favour of the continuing partners or not would depend upon what particular mode
of retirement is employed and as indicated earlier, if instead of quantifying
his share by taking accounts on the footing of notional sale, parties agree to
pay a lump sum in consideration of the retiring partner assigning or
relinquishing his share or right in the partnership and its assets in favour of
the continuing partners, the transaction would amount to a transfer within the
meaning of section 2(47) of the Income-tax Act.’

Based on the
language of the Deed of Retirement, the Bombay High Court took the view that
since there was an assignment by the outgoing partner of his share in the
assets of the firm in favour of the continuing partners, there was a transfer
and the gains made on such transfer were exigible to tax.

In the context of
taxation, the Bombay High Court observed:

‘It may be
stated that the Gujarat decision in Mohanbhai
Pamabhai’s case [1973] 91 ITR 393 is the only
decision directly on the point at issue before us but the question is whether
the position of a retiring partner could be equated with that of a partner upon
the general dissolution for capital gains tax purposes? The equating of the two
done by the Supreme Court in Addanki
Narayanappa’s case, AIR 1966 SC 1300, was not
for capital gains tax purposes but for considering the question whether the
instrument executed on such occasion between the partners inter se required registration and could be admitted in evidence
for want of registration. For capital gains tax purposes the question assumes
significance in view of the fact that under section 47(ii) any distribution of
assets upon dissolution of a firm has been expressly excepted from the purview
of section 45 while the case of a retirement of a partner from a firm is not so
excepted and hence the question arises whether the retirement of a partner
stands on the same footing as that upon a dissolution of the firm. In our view,
a clear distinction exists between the two concepts, inasmuch as the
consequences flowing from each are entirely different. In the case of
retirement of a partner from the firm it is only that partner who goes out of
the firm and the remaining partners continue to carry on the business of the
partnership as a firm, while in the latter case the firm as such no more exists
and the dissolution is between all the partners of the firm. In the Indian
Partnership Act the two concepts are separately dealt with.’

This distinction between the dissolution and the retirement, made by
the High Court for taxing the receipt was overruled by the Supreme Court by
holding that the two are the same for the purposes of section 47(ii) of the
Act.

It was therefore
that the Bombay High Court first held that there was a transfer and later that
the receipt of consideration on transfer was not exempt from tax u/s 47(ii) of
the Act. The Supreme Court, however, overruled the Bombay High Court decision,
holding that retirement was also covered by dissolution referred to in section
47(ii), and that such retirement would therefore not be chargeable to capital
gains. It may also be noted that the Bombay High Court’s decision was rendered
prior to the Supreme Court decision in the case of Mohanbhai Pamabhai
(Supra).

Surprisingly, the
Delhi High Court, while deciding the case of Bishanlal Kanodia (Supra),
relied upon the decision of the Bombay High Court in Tribuhuvandas G.
Patel (Supra), overlooking the implications of the decisions of the
Supreme Court in the cases of Mohanbhai Pamabhai and Tribhuvandas
G. Patel wherein the ratio of the decision of the Bombay High
Court was rendered inapplicable. The Delhi High Court sought to distinguish
between dissolution and retirement, even though the Supreme Court had held that
the term ‘dissolution’ for the purpose of section 47(ii) included retirement up
to A.Y. 1987-88; the case before the Delhi High Court concerned itself with
A.Y. 1975-76.

Further, though the
decision of the Madras High Court in the case of the Legal Representatives of
N. Paliniappa Goundar (Supra) was relied upon by the assessee in the
case of Savitri Kadur (Supra), it was not considered by the
Bangalore bench of the Tribunal. The Madras High Court in that case, for A.Y.
1962-63, considering the provisions of section 12B of the 1922 Act, had dealt
with the decisions of the Gujarat High Court in the case of Mohanbhai
Pamabhai and of the Bombay High Court in the case of Tribhuvandas
G. Patel, which had not yet been decided by the Supreme Court. While
disagreeing with the view of the Bombay High Court, the Madras High Court
observed as under:

With respect, we
cannot see why a retirement of a partner from a firm should be treated as
having different kinds of attributes according to the mode of settlement of the
retiring partner’s accounts in the partnership. In our view, whether the
retiring partner receives a lump sum consideration or whether the amount is
paid to him after a general taking of accounts and after ascertainment of his
share in the net assets of the partnership as on the date of retirement, the
result, in terms of the legal character of the payment as well as the
consequences thereof, is precisely the same. For, as observed by the Gujarat
High Court in Mohanbhai‘s case when a partner retires from the firm and receives an amount
in respect of his share in the partnership, what he receives is his own share
in the partnership, and it is that which is worked out and realised. Whatever
he receives cannot be regarded as representing some kind of consideration
received by him as a result of transfer of assignment or extinguishment or
relinquishment of his share in favour of the other partners.

We hold that
even in a case where some kind of a lump sum is received by the retiring
partner, it must be regarded as referable only to the share of the retiring
partner. This being so, no relinquishment at all is involved. What he receives
is what he has already put in by way of his share capital or by way of his
exertions as a partner. In a true sense, therefore, whether it is a dissolution
or a retirement, and whether in the latter case the retirement is on the basis
of a general taking of accounts or on the basis of an ad hoc payment to the retiring partner, what the partner obtains
is nothing more and nothing less than his own share in the partnership. A
transaction of this kind is more fittingly described as a mutual release or a
mutual relinquishment. In the very case dealt by the Bombay High Court, the
particular amount paid by the remaining partners in favour of the retiring
partner was only a payment in consideration of which there was a mutual
release, a release by the retiring partner in favour of the remaining partners
and a release by the remaining partners in favour of the retiring partner. The
idea of mutual release is appropriate to a partnership, because a retired
partner will have no hold over the future profits of the firm and the partners
who remain in the partnership release the retired partner from all future
obligations towards the liabilities of the firm.

We, therefore,
unqualifiedly accept the decision of the Gujarat High Court as based on a
correct view of the law and the legal relations which result on the retirement
of a partner from the partnership. With respect, we do not subscribe to the distinction
sought to be drawn by the learned Judges of the Bombay High Court between an ad hoc payment to a retiring partner and a payment to him after
ascertaining his net share in the partnership.

The Andhra Pradesh High Court in the case of CIT vs. L. Raghu
Kumar 141 ITR 674, also had an occasion to consider this issue for the
A.Y. 1971-72. In this case, the retiring partner received an amount in excess
of the balance lying to the credit of his capital account and his share of
profits. The Andhra Pradesh High Court considered the decisions of the Bombay
High Court in the case of Tribhuvandas G. Patel (Supra) and CIT
vs. H.R. Aslot 115 ITR 255, where the Bombay High Court had held that
whether there was a transfer or not would depend upon the terms of the retirement
deed – whether there is an assignment by the outgoing partner in favour of the
continuing partners, or whether the retiring partner merely receives an amount
for which he acknowledges receipt.

The Andhra Pradesh
High Court observed as under:

‘It is no doubt
true as submitted by the learned counsel for the revenue that the Bombay High
Court did not accept the principle in the Mohanbhai case, that there is no distinction between a case of a retirement
of the partner and dissolution of the partnership firm and that there can never
be a transfer of a capital asset in the case of a retirement of a partner as
there is no relinquishment of a capital asset or extinguishment of rights
therein. With great respect, we are unable to agree with the view of the Bombay
High Court. The rights of a partner are governed by the provisions of the
Partnership Act. Otherwise by a mere description, the nature of the transaction
can be altered. Further, the Gujarat High Court in Mohanbhai’s case (Supra) followed the
decision of the Supreme Court in Narayanappa
(Supra) which laid down the proposition of law
unequivocally.’

This decision of
the Andhra Pradesh High Court has been affirmed by the Supreme Court in CIT
vs. R. Lingmallu Raghukumar 247 ITR 801. Therefore, effectively, the
Supreme Court has approved of the approach taken by the Andhra Pradesh High
Court, to the effect that there can never be a transfer of a capital asset in
the case of retirement of a partner as there is no relinquishment of a capital
asset or extinguishment of rights therein, and that the nature of the
transaction cannot be altered by a mere description, but is governed by the
provisions of the Partnership Act. It is only logical that a transfer cannot
arise merely because a retiring partner is paid an amount in excess of his
capital, or because the retirement deed wording is different.

This fact of law
laid down by the Supreme Court and the overruling of the law laid down by the
Bombay High Court, has been recognised by the Bombay High Court in its later
decision in the case of Prashant S. Joshi (Supra), clearly and
succinctly, where the Bombay High Court observed:

‘The Gujarat
High Court held that there is, in such a situation, no transfer of interest in
the assets of the partnership within the meaning of section 2(47). When a
partner retires from a partnership, what the partner receives is his share in
the partnership which is worked out by taking accounts and this does not amount
to a consideration for the transfer of his interest to the continuing partners.
The rationale for this is explained as follows in the judgment of the Gujarat
High Court (in the Mohanbhai Pamabhai case):

“…What
the retiring partner is entitled to get is not merely a share in the
partnership assets; he has also to bear his share of the debts and liabilities
and it is only his share in the net partnership assets after satisfying the
debts and liabilities that he is entitled to get on retirement. The debts and
liabilities have to be deducted from the value of the partnership assets and it
is only in the surplus that the retiring partner is entitled to claim a share.
It is, therefore, not possible to predicate that a particular amount is
received by the retiring partner in respect of his share in a particular
partnership asset or that a particular amount represents consideration received
by the retiring partner for extinguishment of his interest in a particular
asset.”

14. The appeal
against the judgment of the Gujarat High Court was dismissed by a Bench of
three learned Judges of the Supreme Court in Addl.
CIT vs. Mohanbhai Pamabhai [1987] 165 ITR 166.
The Supreme Court relied upon its judgment in Sunil
Siddharthbhai vs. CIT [1985] 156 ITR 509. The
Supreme Court reiterated the same principle by relying upon the judgment in Addanki Narayanappa vs. Bhaskara Krishnappa AIR 1966 SC 1300. The Supreme Court held that what is envisaged on the retirement of
a partner is merely his right to realise his interest and to receive its value.
What is realised is the interest which the partner enjoys in the assets during
the subsistence of the partnership by virtue of his status as a partner and in
terms of the partnership agreement. Consequently, what the partner gets upon
dissolution or upon retirement is the realisation of a pre-existing right or
interest.

The Supreme
Court held that there was nothing strange in the law that a right or interest
should exist in praesenti but its realisation or
exercise should be postponed. The Supreme Court inter alia cited with
approval the judgment of the Gujarat High Court in Mohanbhai Pamabhai’s
case (Supra) and held that there is no transfer upon the retirement of a
partner upon the distribution of his share in the net assets of the firm. In CIT
vs. R. Lingmallu Raghukumar [2001] 247 ITR 801, the Supreme Court held,
while affirming the principle laid down in Mohanbhai Pamabhai
that when a partner retires from a partnership and the amount of his share in
the net partnership assets after deduction of liabilities and prior charges is
determined on taking accounts, there is no element of transfer of interest in
the partnership assets by the retired partner to the continuing partners.

15. At this
stage, it may be noted that in CIT vs.
Tribhuvandas G. Patel [1978] 115 ITR 95 (Bom.),
which was decided by a Division Bench of this Court, under a deed of
partnership, the assessee retired from the partnership firm and was inter alia paid an amount of Rs. 4,77,941 as his share in the
remaining assets of the firm. The Division Bench of this Court had held that
the transaction would have to be regarded as amounting to a transfer within the
meaning of section 2(47) inasmuch as the assessee had assigned, released and
relinquished his share in the partnership and its assets in favour of the
continuing partners. This part of the judgment was reversed in appeal by the
Supreme Court in Tribhuvandas G. Patel vs. CIT [1999] 236 ITR 515.

Following the
judgment of the Supreme Court in Sunil
Siddharthbhai’s case (Supra), the Supreme Court
held that even when a partner retires and some amount is paid to him towards
his share in the assets, it should be treated as falling under clause (ii) of
section 47. Therefore, the question was answered in favour of the assessee and
against the revenue. Section 47(ii) which held the field at the material time
provided that nothing contained in section 45 was applicable to certain
transactions specified therein and one of the transactions specified in clause
(ii) was distribution of the capital assets on a dissolution of a firm. Section
47(ii) was subsequently omitted by the Finance Act of 1987 with effect from 1^st
April, 1988. Simultaneously, sub-section (4) of section 45 came to be inserted
by the same Finance Act. Sub-section (4) of section 45 provides that profits or
gains arising from the transfer of a capital asset by way of distribution of
capital assets on the dissolution of a firm or other association of persons or
body of individuals (not being a company or a co-operative society) or
otherwise, shall be chargeable to tax as the income of the firm, association or
body, of the previous year in which the said transfer takes place.

The fair market
value of the assets on the date of such transfer shall be deemed to be the full
value of the consideration received or accruing as a result of the transfer for
the purpose of section 48. Ex facie sub-section
(4) of section 45 deals with a situation where there is a transfer of a capital
asset by way of a distribution of capital assets on the dissolution of a firm
or otherwise. Evidently, on the admitted position before the Court, there is no
transfer of a capital asset by way of a distribution of the capital assets on a
dissolution of the firm or otherwise in the facts of this case. What is to be
noted is that even in a situation where sub-section (4) of section 45 applies,
profits or gains arising from the transfer are chargeable to tax as income of
the firm.’

The Bombay High
Court in Prashant Joshi’s case (Supra) also considered the fact
that section 45(4) was brought in simultaneously with the deletion of section
47(ii), providing for taxation in the hands of the firm, in a situation of
transfer of a capital asset on distribution of capital assets on the
dissolution of a firm or otherwise. Clearly, therefore, the intention was to
tax only the firm and that too only in a situation where there was a
distribution of capital assets of a firm on dissolution or otherwise, which
situation would include retirement of a partner as held by the Bombay High
Court in the case of CIT vs. A.N. Naik Associates 265 ITR 346.
This understanding of the law has clearly been brought out by the Bombay High
Court in Hemlata Shetty’s case (Supra), where the Bombay High
Court has observed that amount received by a partner on his retirement from the
partnership firm is not subject to tax in the retiring partners’ hands in view
of section 45(4), and the liability, if any, for tax is on the partnership
firm.

Had the intention
been to also tax a partner on his retirement on the excess amount received over
and above his capital balance in the books of the firm, an amendment would have
been made to cover such a situation involving the receipt of capital asset by a
partner on distribution by the firm simultaneously with the deletion of section
47(ii).

The Bombay High
Court’s decision in the case of Riyaz A. Shaikh (Supra) is a
decision rendered in the context of A.Y. 2002-03, i.e., post-amendment. It was
not a case of a writ petition filed against any reassessment but was an appeal
from the decision of the Tribunal. The Court in that case has considered all
the relevant decisions – the Bombay High Court’s decisions in the cases of Prashant
S. Joshi, N.A. Mody and Tribhuvandas G. Patel, besides
the Supreme Court decisions in the cases of Tribhuvandas G. Patel
and R. Lingamallu Rajkumar – while arriving at the view that the
amounts received on retirement by a partner are not liable to capital gains
tax.

Similarly, Hemlata
Shetty’s case pertained to the post-amendment period and the Court
therein has considered the earlier decisions of the Bombay High Court in the Prashant
S. Joshi and Riyaz A. Sheikh cases and has also
considered the impact of section 45(4). It is indeed baffling that the Bombay
High Court decision delivered on 5^th March, 2019 and the earlier
decision of the Tribunal in the same case have not been considered by the
Bangalore bench of the Tribunal in Savitri Kadur’s case, decided
on 3^rd May, 2019, which chose to follow the decision of Sudhakar
M. Shetty (Supra), where the matter was still pending before the Bombay
High Court, rather than a decision of the Bombay High Court in his wife’s case
on identical facts (retirement from the same partnership firm) for the
immediately preceding assessment year, where the matter had already been
decided on 5^th March, 2019. We are sure that the decision of the
Tribunal could have been different if the development had been in its
knowledge.

One may note that
the Legislature, realising that the receipt in question was not taxable under
the present regime of the Income-tax Act, 1961, had introduced a specific
provision for taxing such receipt in the hands of the partner under the
proposed Direct Tax Code which has yet to see the light of the day.

The better view of
the matter therefore is that retirement of a partner from a partnership firm is
not subject to capital gains tax, irrespective of the mode of retirement of the
partner, as rightly held by the Bombay High Court in various decisions, and the
Mumbai bench of the Tribunal in the cases of Hemlata Shetty and James
P. D’Silva (Supra). It is rather unfortunate that this issue has been
continuing to torture assessees for the last so many decades, even after
several Supreme Court judgments. One hopes that this matter will finally be
laid to rest either through a clarification by the CBDT or by a decision of the
Supreme Court.

The beauty of doing nothing is that you can do it
perfectly. Only when you do something is it almost impossible to do it without
mistakes. Therefore people who are contributing nothing to society, except
their constant criticisms, can feel both intellectually and morally superior.

—
Thomas Sowell

shailesh.kwebmaker

Article 11(3)(c) of the India-Mauritius DTAA – Interest income earned from India by a Mauritian company engaged in the banking business is exempt under Article 11(3)(c) of the India-Mauritius DTAA; in terms of Circular No 789, TRC issued by Mauritius tax authority is valid proof of residence as well as beneficial ownership

18. [2020] 117 taxmann.com 750 (Mumbai-Trib.) DCIT vs. HSBC Bank
(Mauritius) Ltd. ITA No: 1320/ Mum/2019 A.Y.: 2015-16 Date of order: 8^th
July, 2020

Article 11(3)(c) of the India-Mauritius DTAA
– Interest income earned from India by a Mauritian company engaged in the
banking business is exempt under Article 11(3)(c) of the India-Mauritius DTAA;
in terms of Circular No 789, TRC issued by Mauritius tax authority is valid
proof of residence as well as beneficial ownership

FACTS

The assessee, a resident of Mauritius, carried on banking business as a
licensed bank in Mauritius. The assessee was also registered as an FII with
SEBI. Article 11(3)(c) of the India-Mauritius DTAA exempts interest income from
tax in India if: (i) the interest is derived and beneficially owned by the
assessee; and (ii) the assessee is a bank carrying on bona fide banking
business in Mauritius. The assessee had received interest income from
securities and loans to Indian tax residents. According to the assessee, being
a tax resident of Mauritius, it qualified for exemption under Article 11(3)(c)
of the DTAA and hence, interest earned by it was not chargeable to tax in
India. To support its beneficial ownership and residential status, the assessee
placed reliance on the Certificate of Residency (TRC) issued by Mauritius tax
authorities and also Circular No 789⁶.

The A.O., however, did not grant exemption on the ground that the banking
activities carried out by the assessee in Mauritius were minuscule and were
only for namesake purpose. Further, Circular No. 789 dealt with taxation of
dividends and capital gains under the India-Mauritius DTAA and did not apply in
case of interest. Accordingly, the A.O. charged tax on interest @ 5% u/s 115AD
of the Act, read with section 194LD.

On appeal, relying upon the orders of the Tribunal in favour of the
assessee in earlier years⁷, the CIT(A) concluded in favour of the
assessee.

Being aggrieved, the Tax Department filed an appeal before the Tribunal
where it contended that the earlier years’ orders did not deal with the Tax
Department’s objection that the assessee was not a beneficial owner of the
interest and was a conduit company.

HELD

The following observations from the orders of earlier years⁸
in the case of the assessee are relevant:

As per Circular 789, wherever a Certificate of Residency is issued by
the Mauritius tax authority, such Certificate will constitute sufficient
evidence for accepting residential status as well as beneficial ownership for
application of the India-Mauritius DTAA.

Circular 789 equally applies to taxability of interest in terms of
Article 11(3)(c) of the DTAA.

Thus, having regard to the Tax Residency Certificate issued by the
Mauritius tax authority, the assessee is ‘beneficial owner’ of interest income.

Accordingly, interest earned by the assessee is exempt in terms of
Article 11(3)(c) of the India-Mauritius treaty.

Note: The decision is in the context of the India-Mauritius DTAA prior
to its amendment with effect from 1^st April, 2017. Post-amendment,
Article 11(3A) reads as follows:

‘Interest arising in a Contracting State shall be exempt from tax in
that State provided it is derived and beneficially owned by any bank resident
of the other Contracting State carrying on bona fide
banking business. However, this exemption shall apply only if such interest
arises from debt-claims existing on or before 31^st March, 2017.’

_________________________________________________________________________________________________

6 Circular No 789 provides that TRC will
constitute sufficient evidence in respect of tax residence as well as
beneficial ownership for application of DTAA

7 A.Y. 2009-10 (ITA No. 1086/Mum/2018), A.Y.
2010-11 (ITA No. 1087/Mum/2018) and A.Y. 2011-12 (ITA No. 1708/Mum/2016)

8 A.Y. 2014-15 (ITA No. 1319/Mum/2019)

shailesh.kwebmaker

Article12 of the India-Ireland DTAA – Consideration received by the assessee for supply / distribution of its copyrighted software products was not chargeable to tax in India as royalty under Article 12 of India-Ireland DTAA

17. [2020] 117 taxmann.com 983 (Delhi – Trib.) Mentor Graphics Ireland
Ltd. vs. ACIT ITA No. 3966/Del/2017 A.Y.: 2014-15 Date of order: 9^th
July, 2020

Article12 of the India-Ireland DTAA – Consideration received by the
assessee for supply / distribution of its copyrighted software products was not
chargeable to tax in India as royalty under Article 12 of India-Ireland DTAA

FACTS

The assessee, an Ireland resident company, received consideration for
sale of software and provision of support services. According to the assessee,
it had received consideration for sale of copyrighted product and not for sale
of copyright and hence, in terms of Article 12 of the India-Ireland DTAA, such
consideration was not chargeable to tax in India. However, it offered income
from support services to tax.

Relying upon the Karnataka High Court decisions in the case of Samsung
Electronics Company Ltd² and Synopsis International
Old Ltd.³, the A.O. and the DRP held that the consideration
received by the assessee for supply / distribution of copyrighted software
products was for grant of ‘right to use’ of the copyright in the software and
hence it qualified as ‘royalty’.

Being aggrieved, the assessee appealed before the Tribunal.

HELD

In
earlier years, on an identical issue in the assessee’s case⁴,
the Tribunal had ruled in favour of the assessee.

Further,
in DIT vs. Infrasoft Ltd.⁵ , the jurisdictional
High Court had held that receipt from sale of software by the assessee in
that case was not royalty under Article 12 of the India-Ireland DTAA.

Accordingly,
income from sale of software was not in the nature of ‘royalty’ under
Article 12 of the India-Ireland DTAA and was not taxable in India.

———————————————————————-

2
345 ITR 494 (Kar)

3 212 Taxman 454 (Kar)

4 ITA No. 6693/Del/2016 relating to Assessment
Year 2013-14

5 [2013] 220 Taxman 273 (Del.)

shailesh.kwebmaker

Article 12 of India-Singapore DTAA; Section 9 of the Act – Provision for IT infrastructure management and mailbox / website hosting services were not in nature of royalty, whether under the Act or Article 12 of DTAA; fees for management services (such as sales support, financial advisory and human resources assistance) and fees for referral services did not satisfy the requirement of ‘make available’ under Article 12 of DTAA

16. [2020] 118
taxmann.com 2 (Mumbai-Trib.) Edenred (P) Ltd.
vs. DDIT ITA Nos.
1718/Mum/2014; 254/Mum/2015 A.Ys.: 2010-11 to
2012-13 Date of order: 20^th
July, 2020

Article 12 of
India-Singapore DTAA; Section 9 of the Act – Provision for IT infrastructure
management and mailbox / website hosting services were not in nature of
royalty, whether under the Act or Article 12 of DTAA; fees for management
services (such as sales support, financial advisory and human resources
assistance) and fees for referral services did not satisfy the requirement of
‘make available’ under Article 12 of DTAA

FACTS

The assessee was a
Singapore tax resident company. It entered into certain agreements with its
group companies in India for rendering the following services:

Infrastructure Data Centre (IDC) services

Management services

Referral services

Administration and supervision of central infrastructure

Mailbox hosting services

Website hosting services

Sales support activities

Legal services

Financial advisory services

Human resource assistance

Support services¹ to serve clients in India that
were referred by assessee

Relying upon
Article 12 of the India-Singapore DTAA, the assessee contended that income
received from the aforesaid agreements was not taxable in India. The A.O. as
well as the DRP rejected this contention of the assessee. The following is a
summary of the conclusions of the A.O. and of the DRP:

Services

Draft A.O. order

Draft DRP direction

Final assessment order

IDC charges

Taxable as royalty under Act and DTAA

Management services

Taxable as FTS under Act and DTAA

Referral fees

Taxable as royalty under Act and DTAA

Taxable as royalty and FTS under Act and DTAA

Being aggrieved,
the assessee appealed to the Tribunal.

HELD

IDC Charges

Facts pertaining
to IDC agreement are as follows:

The assessee
had an infrastructure data centre and not an information centre in Singapore.

The Indian
group companies did not access or use the CPU of the assessee; the IDC
agreement did not permit such use / access to group companies of the assessee
nor had the assessee provided any system which enabled group companies such use
/ access.

The assessee
did not maintain any centralised data; IDC did not have any capability in
respect of information analytics, data management.

The assessee
provided IDC service using its own hardware / security devices / personnel;
Indian group companies received standard IDC services without use of any
software; the assessee had used bandwidth and networking infrastructure for
rendering IDC services; Indian companies only received output generated by the
assessee using bandwidth and network but not the use of underlying
infrastructure.

Consideration
paid by group companies was for IDC services and not for any specific
programme. Besides, the assessee had not developed any embedded / secret
software which was used by group companies.

Having regard to
the case law relied upon by the assessee and the Tax Department, since the
assessee had merely provided IDC services, such as administration and
supervision of central infrastructure, mailbox hosting services and website
hosting services, income from IDC services was not in the nature of ‘royalty’,
whether under the Act or under the DTAA.

Management
Services

The assessee had
provided management services to support Indian group companies in carrying on
their business efficiently and running the business in line with the business
model, policies and best practices uniformly followed by companies of the
assessee group.

Services did not
‘make available’ any technical knowledge, skill, know-how or processes to
Indian group companies.

Hence,
consideration received by the assessee for management services was not in the
nature of ‘fees for technical services’ under the DTAA.

Referral Fees

The fees
received by the assessee in consideration for referral services did not ‘make
available’ any technical knowledge, skill, know-how or processes to Indian
group companies because there was no transmission of the technical knowledge,
experience, skill, etc. by the assessee to the group company or its clients.

Hence, the
consideration received by the assessee for referral services was not in the
nature of ‘fees for technical services’, whether under the Act or under the
DTAA.

__________________________________

1
Decision does not describe nature of services in detail

shailesh.kwebmaker

Section 28: Share of profits paid to co-developer based on oral understanding not disallowable as the recipient had offered it to tax and there was no revenue loss and the transaction was tax-neutral

14. HP Associates vs. ITO (Mumbai) Vikas Awasthy (J.M.) and G. Manjunatha (A.M.) ITA No. 5929/Mum/2018 A.Y.: 2011-12 Date of order: 12^th June, 2020 Counsel for Assessee / Revenue: Haridas Bhatt / R. Kavitha

Section 28:
Share of profits paid to co-developer based on oral understanding not
disallowable as the recipient had offered it to tax and there was no revenue
loss and the transaction was tax-neutral

FACTS

The A.O.
disallowed a sum of Rs. 61,800 being share of profit transferred by the
assessee to Lakshmi Construction Co. The disallowance was made on the ground
that there was no formal written agreement to share profit in an equal ratio.

Aggrieved,
the assessee preferred an appeal to the CIT(A) who confirmed the action of the
A.O.

Aggrieved, the assessee preferred an appeal to the
Tribunal where it was contended that the assessee had jointly developed a
project with Lakshmi Construction Co. for which there was a joint development
agreement. Though there was no formal written agreement between the co-developers
for sharing profits in equal ratio, there was, however, an oral understanding
between the parties that the profits will be shared in equal ratio. The
transfer of share of profits by the assessee has not resulted in any loss of
revenue as the recipient has offered the same to tax and paid taxes thereon.

HELD

The Tribunal observed that the contention on
behalf of the assessee that there was no revenue loss has been substantiated by
placing on record the income-tax return of M/s Lakshmi Construction Co. It also
noted that both the firms are assessed at the same marginal rate of tax.
Therefore, the transaction is tax-neutral and no loss is caused to the
Government exchequer. The Tribunal deleted the addition of Rs. 61,800 made by
the A.O. and confirmed by the CIT(A).

shailesh.kwebmaker

Section 35(1)(ii): Deduction claimed by an assessee in respect of donation given by acting upon a valid registration / approval granted to an institution cannot be disallowed if at a later point of time such registration is cancelled with retrospective effect

13. Span Realtors vs. ITO (Mumbai) G. Manjunatha (A.M.) and Ravish Sood (J.M.) ITA No. 6399/Mum/2019 A.Y.: 2014-15 Date of order: 9^th June, 2020 Counsel for Assessee / Revenue: Rashmikant Modi and Ketki Rajeshirke
/ V. Vinod Kumar

Section
35(1)(ii): Deduction claimed by an assessee in respect of donation given by
acting upon a valid registration / approval granted to an institution cannot be
disallowed if at a later point of time such registration is cancelled with
retrospective effect

FACTS

The assessee
firm, engaged in the business of real estate, had made a donation of Rs. 1
crore to a Kolkata-based institution, viz. ‘School of Human Genetics and
Population Health’ (SHG&PH) and claimed deduction of Rs. 1.75 crores u/s
35(1)(ii) @ 175% on Rs. 1 crore. The A.O. called upon the assessee to
substantiate the claim of such deduction. The assessee submitted all the
evidences which were required to substantiate the claim of deduction.

However, the A.O. was not persuaded to subscribe
to the genuineness of the aforesaid claim of deduction by the assessee. He
observed that a survey operation conducted u/s 133A of the Act on 27^th
January, 2015 in the case of SHG&PH had revealed that the said research
institution had indulged in providing accommodation entries of bogus donations
to the donors through a network of brokers. The A.O. gathered that the
secretary had admitted in her statement that was recorded in the course of
survey proceedings u/s 131(1) of the Act that the said institution, in lieu of commission, was
providing accommodation entries of bogus donations through a network of market
brokers. Besides, the accountant of SHG&PH, in the course of survey
proceedings, was found to be in possession of a number of messages from brokers
regarding bogus donations and bogus billings. He also observed that as per the
information shared by DDIT (Inv.), Kolkata, the said institution had filed a
petition before the Settlement Commission, Kolkata Bench, wherein it had
admitted that in consideration of service charge they had indulged in providing
accommodation entries of bogus donations.

Moreover, the
Ministry of Finance vide a Notification dated 15^th September,
2016, had withdrawn its earlier Notification dated 28^th January,
2010. Hence, the A.O. disallowed the claim of deduction of Rs. 1.75 crores.

Aggrieved,
the assessee preferred an appeal to the CIT(A) who confirmed the action of the
A.O.

Still
aggrieved, the assessee preferred an appeal to the Tribunal.

HELD

The Tribunal observed that as on the date of
giving of donation, SHG&PH was having a valid approval granted under the
Act. Having regard to the language of the Explanation to section 35(1)(ii), the
Tribunal was of the view that it can safely be gathered that a subsequent
withdrawal of such approval cannot form a reason to deny the deduction claimed
by the donor. By way of analogy, the Tribunal observed that the Supreme Court in
the case of CIT vs. Chotatingrai Tea [(2003) 126 Taxman 399 (SC)]
while dealing with section 35CCA of the Act, had concluded that a retrospective
withdrawal of an approval granted by a prescribed authority would not
invalidate the assessee’s claim of deduction. The Tribunal also observed that
on a similar footing the Bombay High Court has in the case of National
Leather Cloth Mfg. Co. vs. Indian Council of Agricultural Research [(2000) 100
Taxman 511 (Bom.)] observed that such retrospective cancellation of
registration will have no effect upon the deduction claimed by the donor since
such donation was given acting upon the registration when it was valid and
operative.

The Tribunal
held that if the assessee acting upon a valid registration / approval granted
to an institution had donated the amount for which deduction is claimed, such
deduction cannot be disallowed if at a later point of time such registration is
cancelled with retrospective effect. It also observed that the co-ordinate
Mumbai bench of the Tribunal in Pooja Hardware Pvt. Ltd. vs. ACIT [ITA
No. 3712/Mum/2016 dated 28^th October, 2019] has, after
relying on the earlier orders of the co-ordinate benches of the Tribunal on the
issue pertaining to the allowability of deduction u/s 35(1)(ii) of the Act in
respect of a donation given to SHG&PH by the assessee, vacated the
disallowance of the assessee’s claim for deduction u/s 35(1)(ii) of the Act.
The Tribunal observed that the issue is squarely covered by the orders of the
co-ordinate benches of the Tribunal, and therefore it has no justifiable reason
to take a different view. Following the same, the Tribunal set aside the order
of the CIT(A) and vacated the disallowance of the assessee’s claim for
deduction u/s 35(1)(ii) of Rs. 1.75 crores.

shailesh.kwebmaker

Section 254: Non-consideration of decision of jurisdictional High Court, though not cited before the Tribunal at the time of hearing of appeal, constitutes a mistake apparent on record

12. Tata Power Company vs. ACIT (Mumbai) Shamim Yahya (A.M.) and Saktijit Dey (J.M.) M.A. No. 596/Mum/2019 arising out of ITA No. 3036/Mum/2009 A.Y.: 2003-04 Date of order: 22^nd May, 2020 Counsel for Assessee / Revenue: Nitesh Joshi / Micheal Jerald

Section 254:
Non-consideration of decision of jurisdictional High Court, though not cited
before the Tribunal at the time of hearing of appeal, constitutes a mistake
apparent on record

FACTS

In ground No.
3 of ITA No. 3036/Mum/2009, the Revenue challenged the decision of the CIT(A)
in deleting the surplus on buyback on Euro Notes issued by the assessee
earlier. It was the claim of the assessee that since Euro Notes were issued by
the assessee for capital expenditure, the income derived as a surplus on
buyback of Euro Notes would be capital receipt and hence not taxable. Although,
the A.O. treated it as the income of the assessee, the CIT(A), relying upon the
decision of the Tribunal in the assessee’s own case for the assessment year
2000-01, allowed the assessee’s claim and deleted the addition.

Before the
Tribunal, the assessee, apart from relying upon the decision of the Tribunal in
its own case, also relied upon the decision of the Hon’ble Supreme Court in CIT
vs. Mahindra & Mahindra Ltd. [(2018) 302 CTR 201 (SC)] to contend
that foreign exchange fluctuation gain on buyback of Euro Notes cannot be
treated as income chargeable to tax as Euro Notes were raised for incurring
capital expenditure. The Tribunal restored the issue to the A.O. for fresh
adjudication after applying the ratio laid down in Mahindra &
Mahindra Ltd. (Supra).

In the course
of hearing of the Miscellaneous Application, it was submitted that after taking
note of the decisions of the Supreme Court in Mahindra & Mahindra
Ltd. (Supra) and in CIT vs. T.V. Sundaram Iyengar & Sons
[(1996) 222 ITR 344 (SC)], the Jurisdictional High Court has reiterated
the view expressed by the Supreme Court in Mahindra & Mahindra Ltd.
(Supra) and consequently the issue stands settled in favour of the
assessee. Therefore, there is no need for restoring the issue to the A.O.

HELD

The Tribunal
observed that the Jurisdictional High Court in Reliance Industries Ltd.
(ITA No. 993 of 2016, dated 15^th January, 2019), after
taking note of the decisions of the Supreme Court in Mahindra &
Mahindra Ltd. (Supra) and T.V. Sundaram Iyengar & Sons
(Supra) has upheld the decision of the Tribunal in holding that the
gain derived from buyback of foreign currency bonds issued by the assessee
cannot be treated as revenue receipt.

The Tribunal
held that though it may be a fact that the aforesaid decision was not cited
before the Tribunal at the time of hearing of appeal, however, as held by the
Supreme Court in Saurashtra Kutch Stock Exchange Ltd. [(2008) 305 ITR 227
(SC)], non-consideration of a decision of the Supreme Court or the
Jurisdictional High Court, even rendered post disposal of appeal, would
constitute a mistake apparent on the face of record. It held that since the
aforesaid decision of the Hon’ble Jurisdictional High Court will have a crucial
bearing on the disputed issue, non-consideration of the said decision certainly
constitutes a mistake apparent on the face of record as envisaged u/s 254(2) of
the Act.

The Tribunal
recalled the order dated 21^st May, 2019 passed in ITA No.
3036/Mum/2009 and restored the appeal to its original position.

shailesh.kwebmaker

Sections 2(47), 28(i), 45 – Gains arising on transfer of development rights held as a business asset are chargeable to tax as ‘business income’ – Only that part of the consideration which accrued, as per terms of the agreement, would be taxable in the year of receipt

22. [117 taxmann.com 637 (Del.)(Trib.)] ITO vs. Abdul Kayum Ahmed Mohd. Tamboli ITA No. 1408/Del/2011 A.Y.: 2006-07 Date of order: 6^th July, 2020

Sections 2(47), 28(i), 45 – Gains arising
on transfer of development rights held as a business asset are chargeable to
tax as ‘business income’ – Only that part of the consideration which accrued,
as per terms of the agreement, would be taxable in the year of receipt

FACTS

The assessment of the assessee was re-opened because the consideration
received for transfer of development rights was not offered for taxation. Since
the assessee had handed over possession of the land and also transferred the
development rights, the A.O. in the course of reassessment proceedings taxed
the amount received by the assessee on transfer of development rights as
business income. The assessee submitted that under the contract with the
developer, he was to perform work on the basis of receipt of funds from the
developer. Accordingly, the assessee had offered only a part of the receipts as
income to the extent that receipts had accrued. The balance, according to him,
were conditional receipts. The developer, in response to a notice sent u/s
133(6), confirmed the position as stated by the assessee.

But the A.O. opined that the said accounting treatment was not in
consonance with the mercantile system of accounting followed by the assessee. Besides, since the transfer had been
completed, the consideration would be taxable in the year of receipt as
business income.

Aggrieved, the assessee preferred an appeal to the CIT(A) and contended
that the balance amount be considered as capital receipts. The CIT(A)
adjudicated in the assessee’s favour and held that only the part of the amount
accrued as per the agreement would be taxable in the year of receipt. He
estimated an amount of 10% of the gross receipts to be taxable in the year of
receipt. The provisions pertaining to capital gains were also held to be
inapplicable as the development rights were business assets.

Aggrieved, the Revenue filed an appeal to the Tribunal.

HELD

It was evident from
the terms of the joint venture agreement that only part income accrued to the assessee on execution of the project agreement. The balance consideration was a
conditional receipt and was to accrue only in the event of the assessee
performing certain obligations under the agreement. Since the development
rights constituted the business assets of the assessee, the provisions of
capital gains would not be applicable. The order of the CIT(A) taxing 10% of
the gross receipts was justified. The Tribunal upheld the decision of the
CIT(A) and held that only part of the receipts as estimated accrued to the
assessee were taxable.

shailesh.kwebmaker

Sections 28, 36(1)(iii) – In a case where since the date of incorporation the assessee has carried on substantial business activities such as raising loans, purchase of land, which was reflected as stock-in-trade in the books of accounts, and entering into development agreement, the assessee can be said to have not only set up but also commenced the business. Consequently, interest on loan taken from bank for purchase of land which was held as stock-in-trade is allowable as a deduction

21. [117 taxmann.com 419 (Del.)(Trib.)] Jindal Realty (P) Ltd. vs. ACIT ITA No. 1408/Del/2011 A.Y.: 2006-07 Date of order: 22^nd June, 2020

Sections 28, 36(1)(iii) – In a case where
since the date of incorporation the assessee has carried on substantial
business activities such as raising loans, purchase of land, which was
reflected as stock-in-trade in the books of accounts, and entering into
development agreement, the assessee can be said to have not only set up but
also commenced the business. Consequently, interest on loan taken from bank for
purchase of land which was held as stock-in-trade is allowable as a deduction

FACTS

During the previous
year relevant to the assessment year under consideration, the assessee, engaged
in real estate business, borrowed monies from banks and utilised the same to
purchase land for township projects and also for giving as advance to other
associate parties for purchase of land by them. The interest on such monies
borrowed was claimed by the assessee as deduction u/s 36(1)(iii), and the
return of income was filed for the previous year declaring a loss.

The A.O. disallowed
the claim of deduction of interest on the ground that the assessee had not
commenced any business activity and held the same to be pre-operative in
nature.

Aggrieved, the
assessee preferred an appeal to the CIT(A) who confirmed the action of the A.O.

Still aggrieved,
the assessee preferred an appeal to the Tribunal.

HELD

The Tribunal held
that since the date of incorporation, the assessee carried on substantial
business activities such as raising loans, purchase of land which was reflected
as stock-in-trade in the books of accounts and entering into development
agreements. The Tribunal relied on the decision of the Delhi High Court in the
case of CIT vs. Arcane Developers (P) Ltd. 368 ITR 627 (Del.)
wherein it is held that in case of real estate business, the setting up of
business was complete when the first steps were taken by the
respondent-assessee to look around and negotiate with parties.

Thus, the assessee
had not only set up the business but also commenced the business in the
previous year and therefore was eligible to claim deduction of interest
expenditure u/s 36(1)(iii).

The appeal filed by
the assessee was allowed.

shailesh.kwebmaker

Section 50B read with sections 2(19), 2(42C) and 50 – Windmills of an assessee, engaged in the business of aqua culture, export of frozen shrimp, sale of hatchery seed and wind-power generation, along with all the assets and liabilities, constitute an ‘undertaking’ for the purpose of slump sale

20. [117
taxmann.com 440 (Vish.)(Trib.)] ACIT vs. Devi Sea
Foods Ltd. ITA No.
497/Vish./2019 A.Y.: 2013-2014 Date of order: 19^th
June, 2020

Section 50B read
with sections 2(19), 2(42C) and 50 – Windmills of an assessee, engaged in the
business of aqua culture, export of frozen shrimp, sale of hatchery seed and
wind-power generation, along with all the assets and liabilities, constitute an
‘undertaking’ for the purpose of slump sale

FACTS

The assessee sold
three windmills, declared the gains arising on such sale as a slump sale and
computed the long-term capital gains as per section 50B. The assessee had not
furnished separate financial statements for the windmill business activity;
however, it was claiming deduction u/s 80-IA on the income from the windmill as
a separate business which was allowed by the A.O. from A.Y. 2009-10 onwards.
But at the time of the sale, the A.O. denied the applicability of the
provisions related to slump sale by stating that the windmills did not
constitute an ‘undertaking’ and charged the income as short-term capital gains.

Aggrieved, the
assessee preferred an appeal to the CIT(A) who held that each windmill is a
unit of the undertaking and is covered by the definition of slump sale. He also
noted that though the assessee had shown windmills as part of the block of
assets, depreciation claim could not be a factor to deny benefit of slump sale.
He directed the A.O. to compute long-term capital gains u/s 50B.

Aggrieved, the
Revenue filed an appeal to the Tribunal.

HELD

The Tribunal observed that the windmills were part of the assessee’s
business, for which the assessee was claiming deduction since A.Y. 2009-10. The
A.O. had not made any adverse remarks in respect of deduction claimed u/s
80-IA. Though separate books of accounts had not been maintained, the assessee
had demonstrated separate ledger account belonging to the windmill operation,
and income from such activity was independently ascertainable. Further, there
is no requirement in the Act that all assets sold under slump sale should be
together. The Tribunal held that the real test for considering any sale of an asset
as non-slump sale would be any independent asset or liability not forming part
of the business operations. It held that the windmills satisfied all conditions
for being considered as an ‘undertaking’ and the provisions of slump sale would
be applicable.

shailesh.kwebmaker

Reopening – Capital gains arising on conversion of the land into stock-in-trade – Closing stock has to be valued at cost or market price whichever is lower – No reason to believe income had escaped assessment – Reopening bad in law: Sections 45(2) and 147 of the Act

9. M/s. J.S. & M.F. Builders vs. A.K. Chauhan and others [Writ Petition
No. 788 of 2001 A.Ys.: 1992-93, 1993-94, 1994-95 and 1995-96 Date of order: 12^th
June, 2020 (Bombay High Court)

Reopening – Capital gains arising on conversion of the land into
stock-in-trade – Closing stock has to be valued at cost or market price
whichever is lower – No reason to believe income had escaped assessment –
Reopening bad in law: Sections 45(2) and 147 of the Act

The petitioner had challenged the legality and validity of the four
impugned notices, all dated 25^th February, 2000 issued u/s 148 of
the Act, proposing to re-assess the income of the petitioner for the A.Ys.
1992-93, 1993-94, 1994-95 and 1995-96 on the ground that income chargeable to
tax for the said assessment years had escaped assessment.

The case of the petitioner is that it is a partnership firm constituted by
a deed of partnership dated 21^st October, 1977. The object of the
firm is to carry out business as builders and developers.

An agreement was entered into on 8^th November, 1977 between one
Mr. Krishnadas Kalyanji Dasani and the petitioner whereby and whereunder Mr.
Dasani agreed to sell, and the petitioner agreed to purchase, a property
situated at Borivali admeasuring approximately 6,173.20 square metres. The
property consisted of seven structures and two garages. The property was
mortgaged and all the tenements were let out. The aggregate consideration for
the purchase was Rs. 3,00,000 and a further expenditure of Rs. 44,087 was
incurred by way of stamp duty and registration charges. The said property was
purchased subject to all encumbrances. The purchased property was reflected in
the balance sheets of the petitioner drawn up thereafter as a fixed asset. For
almost a decade after purchase, the petitioner entered into various agreements
with the tenants to get the property vacated. In the process, they incurred a
further cost of Rs. 9,92,427.

In the balance sheet as on 30^th September, 1987 the Borivali
property was shown as a fixed asset the value of which was disclosed at Rs.
13,36,514; a detailed break-up of it was furnished. With effect from 1^st
October, 1987, the petitioner converted a portion of the property into
stock-in-trade and continued to retain that part of the property which still
remained tenanted as a fixed asset. The market value of the entire Borivali
property as on 1^st October, 1987 was arrived at Rs. 69,38,000 out of
which the value of the property that was converted into stock-in-trade was
determined at Rs. 66,29,365.

The petitioner thereafter demolished the vacant structures and commenced
construction of a multi-storied building. In the balance sheet as on 31^st
March, 1989, the petitioner reflected the tenanted property as a fixed asset at
a cost of Rs. 2,86,740 and the stock-in-trade at a value of Rs. 66,29,365.. A
revaluation reserve of Rs. 55,58,759 was also credited. In the Note
accompanying the computation of income it was clearly mentioned that the
conversion of a part of the Borivali property was made into stock-in-trade and
the liability to tax u/s 45(2) of the Act would arise as and when the flats
were sold. During the previous year relevant to the A.Y. 1992-93, the
petitioner had entered into 14 agreements for sale of 14 flats, the total area
of which admeasured 10,960 square feet (sq. ft.).

For the A.Y. 1992-93 the petitioner declared income chargeable under the
head ‘profits and gains of business or profession’ at Rs. 9,37,385 and the
income chargeable under the head ‘capital gains’ at Rs. 8,10,993. The ‘capital
gains’ was arrived at by determining the difference between the market value of
the land converted into stock-in-trade as on 1^st October, 1987 and
the cost incurred by the petitioner which came to a figure of Rs. 55,87,591.
Having regard to the total built-up area of 37,411 sq. ft., the ‘capital gains’
per sq. ft. was computed at Rs. 149.36 on a pro-rata basis. Accordingly,
having regard to the area of 10,960 sq. ft. sold, the ‘capital gains’ was
determined at Rs. 16,36,986. Along with the return of income, a computation of
income as well as an audit report in terms of section 44AB of the Act were also
filed. The A.O. completed the assessment u/s 143(3) of the Act assessing the
petitioner at the income of Rs. 17,85,560.

For the A.Y. 1993-94, as in the previous A.Y., income was computed both
under the head ‘profits and gains of business or profession’ as well as under
the head ‘capital gains’ for 12 flats sold during the relevant previous year.
The return was accompanied by the tax audit report as well as the profit and
loss account and balance sheet. The A.O. completed the assessment u/s 143(3)
assessing the petitioner at an income of Rs. 17,30,230. It is stated that in
the assessment order the A.O. specifically noted that income from ‘long-term
capital gains’ was declared in terms of section 45(2) of the Act.

The petitioner’s return of income for the A.Y. 1994-95 was processed u/s
143(1)(a) of the Act and an intimation was issued on 30^th March,
1995.

For the A.Y. 1995-96, the petitioner filed its return declaring income
under both heads, i.e., ‘income from business’ and ‘capital gains’. The income
of the petitioner was computed in a similar manner as in the earlier years with
similar disclosures in the tax audit report, profit and loss account and
balance sheet furnished along with the return. In the course of the assessment
proceedings, the petitioner furnished details of flats sold as well as the
manner of computing profit in terms of section 45(2). The assessment for the
A.Y. 1995-96 was completed u/s 143(3) of the Act determining the taxable income
at Rs. 1,32,930.

According to the petitioner, it received on 8^th March, 2000 four notices, all dated 25^th
February, 2000, issued u/s 148 of the Act for the four assessment years, i.e.,
1992-93 to 1995-96.

The reasons recorded for each of the assessment
years were identical save and except the assessment details and figures. The
A.O. broadly gave four reasons to justify initiation of re-assessment
proceedings. Firstly, the petitioner was not justified in assuming that the
market value of the stock adopted as on 1^st October, 1987 would
continue to remain static in the subsequent years. In other words, the closing
stock of the land should have been valued at the market price as on the date of
closing of accounts for the year concerned. This resulted in undervaluation of
closing stock and consequent reduction of profit.

Secondly, even though the petitioner might have entered into agreements and
sold certain flats, the ownership of the land continued to remain with the
petitioner. The whole of the land under the ownership of the petitioner
constituted its stock-in-trade and it should have been valued at the market
price as on the date of closing of accounts for the year concerned. Thus, the
assessee had suppressed the market price of the closing stock, thereby reducing
the profit.

Thirdly, for the purpose of computing the ‘capital gains’ in terms of
section 45(2) of the Act, the petitioner was not justified in taking the cost
of the entire land; rather, the petitioner ought to have taken only a fraction
of the original cost of Rs. 3,00,000. Thus, there was inflation of cost.
Lastly, in terms of section 45(2), the ‘capital gains’ arising on conversion of
the land into stock-in trade ought to have been assessed only in the year in
which the land was sold or otherwise transferred. As the land was not conveyed
to the co-operative society, the petitioner was not justified in offering to
tax the ‘capital gains’ in terms of section 45(2) of the Act on the basis of
the flats sold during each of the previous years relevant to the four A.Y.s
under consideration.

The Court admitted the writ petition for final hearing.

The petitioner submitted that it had fully complied with the requirement of
section 45(2) of the Act and the capital gains arising on the conversion of the
land into stock-in-trade was offered and rightly assessed to tax in the years
in which the flats were sold on the footing that on the sale of the flat there
was also a proportionate sale of the land. This methodology adopted by the
petitioner is in accordance with law. It was also submitted that it is not
correct to think that any profit arises out of the valuation of the closing
stock. In this connection, reliance was placed on a decision of the Supreme
Court in Chainrup Sampatram vs. CIT, 24 ITR 481.

The Petitioner also referred to a decision of this Court in CIT vs.
Piroja C. Patel, 242 ITR 582 to contend that the expenditure incurred
for having the land vacated would certainly amount to cost of improvement which
is an allowable expenditure.

The case of the Revenue was that the A.O. after recording the sequence of
events from acquiring the property vide the deed of conveyance dated 23^rdApril, 1980 noted that the assessee had converted part of the property
into stock-in-trade on 1^st October, 1987 with a view to construct
flats. On the date of conversion into stock-in-trade, the value thereof was
determined at Rs. 66,29,365. Up to A.Y.1991-92 there was no construction. After
the building was constructed, the constructed flats were sold to various
customers. On the sale of flats, the assessee reduced the proportionate market
value of the land as on 31^st March, 1989, in the same ratio as the
area of the flat sold bore to the total constructed area. However, the assessee
valued the closing stock at market price prevailing as on 1^st
October, 1987. According to the A.O., the closing stock should have been valued
at the market price on the close of each accounting year. This resulted in
undervaluation of closing stock and consequent reduction of profit.

Secondly, land as an asset is separate and distinct from the building. The
building was shown as a work in progress in the profit and loss account
prepared by the assessee and filed with the return. Even after construction of
the building and sale of flats, the stock, i.e., the land was still under the
ownership of the assessee. Ownership of land was not transferred. As the land
continued under the ownership of the assessee, its value could not be reduced
on the plea that a flat was sold. The whole of the land under ownership of the
assessee constituted its stock-in-trade and it should have been valued at the
market price as on the date of closing of the accounts for the year under
consideration. Therefore, the A.O. alleged that the assessee had suppressed the
market price of the closing stock, thus reducing the profit.

The third ground given was regarding computation of ‘capital gains’
furnished with the return of income. The A.O. noted that the total capital
gains as on 1^st October, 1987 was arrived at by deducting the cost
of the land as on 1^st October, 1987, i.e., Rs. 10,41,774, from the
fair market value of the land, i.e., Rs. 66,29,365, which came to Rs.
55,87,591. According to the A.O., the assessee made deduction of the cost
incurred for the entire land whereas only a fraction of the said land was
converted into stock-in-trade where construction was done.

The A.O. worked out that the cost of the converted piece of land was only
Rs. 13,260. He arrived at this figure by deducting Rs. 2,86,740, which was the
value of the tenanted property from the cost of the property, i.e., Rs.
3,00,000. Thus, he alleged that there was inflation of cost by Rs. 10,28,514
(Rs. 10,41,774 – Rs.13,260).

The last ground given by the A.O. was regarding offering of long-term
capital gain by the assessee. He noted that for the purpose of computation of
long-term capital gain, the assessee estimated the fair market value of the
land converted to stock as on 1^stOctober, 1987 at Rs. 66,29,365
which was reduced by the cost incurred as on 1^st October, 1987,
i.e., Rs. 10,74,774. However, the A.O. also noted that the method of
computation of cost was not clear in view of the fact that the whole of the
land with tenanted structures was purchased for Rs. 3,00,000. The A.O. further
noted the methodology adopted by the assessee for computation of long-term
capital gain. According to him, the assessee had worked out the difference
between the fair market value of the land converted to stock and the cost and
thereafter divided it by the total permissible built-up area. The quotient was
identified by the assessee as capital gains per sq. ft. The assessee thereafter
multiplied the built-up area of individual flats sold with such quotient and
claimed it to be the ‘capital gains’ for the year under consideration. By
adopting such a computation, the assessee was claiming sale of land in
different years in the same ratio as the area of flat sold bore to the total
permissible FSI area. But this calculation was not accepted by the A.O.
primarily on the ground that land as a stock was different from the flats.
Selling of flats did not amount to selling of proportionate quantity of land.

The Court held that u/s 45(2) of the Act, ‘capital gains’ for land should
be considered in the year when land was sold or otherwise transferred by the
assessee. Though flats were sold, ownership of the land continued to remain
with the assessee. ‘Capital gains’ would be chargeable to tax only in the year
when the land was sold or transferred to the co-operative society formed by the
flat purchasers and not in the year when individual flats were sold.

The Court accepted the contention of the petitioner that the A.O. proceeded
on the erroneous presumption that stock-in-trade had to be valued at the
present market value. In Chainrup Sampatram (Supra), the Supreme
Court had held that it would be wrong to assume that the valuation of the
closing stock at market rate has for its object the bringing into charge any
appreciation in the value of such stock. The true purpose of crediting the
value of unsold stock is to balance the cost of those goods entered on the
other side of the account so that the cancelling out of the entries relating to
the same stock from both sides of the account would leave only the transactions
on which there had been actual sales in the course of the year showing the
profit or loss actually realised on the year’s trading. While anticipated loss
is taken into account, anticipated profit in the shape of appreciated value of
the closing stock is not brought into the account as no prudent trader would
care to show increased profit before its actual realisation. This is the theory
underlying the rule that the closing stock has to be valued at cost or market
price whichever is lower and it is now generally accepted as an established
rule of commercial practice and accountancy. In such circumstances, taking the
view that profits for income tax purposes are to be computed in conformity with
the ordinary principles of commercial accounting unless such principles have
been superseded or modified by legislative enactments, the Supreme Court held
that it would be a misconception to think that any profit arises out of
valuation of the closing stock.

With regard to the third ground, i.e., computation of ‘capital gains’, the
Court held that the cost incurred included not only the sale price of the land,
i.e., Rs. 3,00,000, but also the expenditure incurred by way of stamp duty and
registration charges amounting to Rs. 44,087. That apart, the assessee had
incurred a further sum of Rs. 9,92,427 in getting the entire property vacated.
The contention of the A.O. that there was inflation of cost is not correct.
Thus, for computing the income under the head ‘capital gains’, the full value
of consideration received as a result of transfer of the capital asset shall be
deducted by the expenditure incurred in connection with such transfer, cost of
acquisition of the asset and the cost incurred in improvement of the asset. The
expression ‘the full value of the consideration’ would mean the fair market
value of the asset on the date of such conversion. The meaning of the
expressions ‘cost of improvement’ and ‘cost of acquisition’ are explained in
sections 55(1) and 55(2) of the Act, respectively.

The expression ‘capital asset’ occurring in sub-section (1) of section 45
is defined in sub-section (14) of section 2. ‘Capital asset’ means property of
any kind held by an assessee whether or not connected with his business or
profession as well as any securities held by a foreign institutional investor,
but does not include any stock-in-trade, consumable stores or raw materials,
personal effects, etc.

Again, the word ‘transfer’ occurring in sub-section (1) of section 45 has
been defined in section 2(47) of the Act. As per this definition, ‘transfer’ in
relation to a capital asset includes sale, exchange or relinquishment of the
asset or the extinguishment of any rights therein, or compulsory acquisition of
the asset, or in case of conversion of the asset by the owner into
stock-in-trade of the business carried on by him, such conversion or any
transaction involving the allowing of possession of any immovable property to
be taken or retained in part performance of a contract, or any transaction
whether by way of becoming a member of or acquiring shares in a co-operative
society, etc. which has the effect of transferring or enabling the enjoyment of
any immovable property.

In the case of Miss Piroja C. Patel (Supra), the court held
that on eviction of the hutment dwellers from the land in question, the value
of the land increases and therefore the expenditure incurred for having the
land vacated would certainly amount to cost of improvement.

Thus, the cost incurred on stamp duty, etc., together with the cost
incurred in carrying out eviction of the hutment dwellers would certainly add
to the value of the asset and thus amount to cost of improvement which is an
allowable deduction from the full value of consideration received as a result of
the transfer of the capital asset for computing the income under the head
‘capital gains’.

Insofar as the fourth ground is concerned, the A.O. has taken the view that
long-term capital gains arising out of sale or transfer of land would be
assessed to tax only in the year in which the land is sold or otherwise
transferred by the assessee. Opining that land as a stock is a different item
of asset than a flat, the A.O. held that ownership of land continued to remain
with the assessee notwithstanding the sale of flats. Therefore, he was of the view
that ‘capital gains’ would be chargeable to tax only in the year when the land
is sold or otherwise transferred to the co-operative society formed by owners
of the flats and not in the year when individual flats are sold.

According to the A.O., the assessee had erred in
offering to tax ‘capital gains’ in the year when the individual flats were
sold, whereas such ‘capital gains’ could be assessed to tax only when the land
was transferred to the co-operative society formed by the flat purchasers. If
the assessee had offered to tax as ‘capital gains’ in the assessment years
under consideration that which should have been offered to tax in the
subsequent years, it is beyond comprehension as to how a belief can be formed
that income chargeable to tax for the assessment year under consideration had
escaped assessment. That apart, the flat purchasers by purchasing the flats had
certainly acquired a right or interest in the proportionate share of the land
but its realisation is deferred till the formation of the
co-operative society by the owners of the flats and eventual transfer of the
entire property to the co-operative society.

The Court also referred to various other decisions, namely, Prashant
S. Joshi [324 ITR 154 (Bom)], Additional CIT vs. Mohanbhai Pamabhai, 165 ITR
166 (SC), Sunil Siddharthbhai vs. CIT, 156 ITR 509 (SC) and
Addanki Narayanappa vs. Bhaskara Krishnappa, AIR 1966 SC 1300, wherein
the Court held that what is envisaged on the retirement of a partner is merely
his right to realise his interest and to receive its value. What is realised is
the interest which the partner enjoys in the assets during the subsistence of
the partnership by virtue of his status as a partner and in terms of the
partnership agreement. Therefore, what the partner gets upon dissolution of the
partnership or upon retirement from the partnership is the realisation of a
pre-existing right or interest. The Court held that there was nothing strange
in the law that a right or interest should exist in praesenti but
its realisation or exercise should be postponed. Applying the above principle,
the Court held that upon purchase of the flat, the purchaser certainly acquires
a right or interest in the proportionate share of the land but its realisation
is deferred till formation of the co-operative society by the flat owners and
transfer of the entire property to the co-operative society.

Thus, on an overall consideration of the entire matter, the Court held
that there was no basis or justification for the A.O. to form a belief that any
income of the assessee chargeable to tax for the A.Y.s under consideration had
escaped assessment within the meaning of section 147 of the Act. The reasons
rendered could not have led to formation of any belief that income had escaped
assessment within the meaning of the aforesaid provision.

Therefore, in the facts and circumstances of the case, the impugned
notices issued u/s 148 of the Act dated 25^th February, 2000 were set
aside and quashed.

shailesh.kwebmaker

Settlement of cases – Chapter XIX-A of ITA, 1961 – Powers of Settlement Commission – Application for settlement of case – Settlement Commission cannot consider merits of case at that stage; A.Ys. 2015-16 to 2018-19

51. Hitachi Power Europe GMBH vs. IT Settlement Commission [2020] 423 ITR
472 (Mad.) Date of order: 17^th February, 2020 A.Ys.: 2015-16 to
2018-19

Settlement of cases – Chapter XIX-A of ITA, 1961 – Powers of Settlement
Commission – Application for settlement of case – Settlement Commission cannot
consider merits of case at that stage; A.Ys. 2015-16 to 2018-19

In June, 2010, the National Thermal Power Corporation had invited bids
under international competitive bidding for the supply and installation of
eleven 660-megawatt steam generators at five locations in India. A bid was
successfully submitted by B, a company incorporated in India and engaged in
providing turnkey solutions for coal-based thermal power plants. B
sub-contracted a portion of the scope of work under three contracts to its
joint venture company, which in turn sub-contracted a portion thereof to the
assessee. One of the contentions raised by the assessee on the merits was that
the scope of work under each of the contracts was separate and distinct in all
respects including the delineation of the work itself, the modes of execution
of the contract and the payments therefor.

For this reason, the assessee took the stand that the income from offshore
supplies would not be liable to tax in India. For the A.Ys. 2015-16 to 2018-19
the assessee filed returns of income offering to tax the income from onshore
supply and services only. While assessment proceedings were pending, the
assessee applied for settlement of the case. The Settlement Commission held
that the contract was composite and indivisible and hence the applicant, i. e.,
the assessee, had failed to make a full and true disclosure of income.

On a writ petition against the order, the Madras High Court held as under:

‘i) The scheme of Chapter XIX-A of the Income-tax Act, 1961 is to provide a
holistic resolution of issues that arise from an assessment in the case of an assessee that has approached the
Commission. The question of full and true disclosure and the discharge of tax
liability at all stages prior to final hearing should be seen only in the
context of the issues offered for settlement and the remittances of additional
tax thereupon. Issues decided by the Commission and the liability arising
therefrom will be payable only at the stage of such determination, which is the
stage of final hearing u/s 245D(4) of the Act.

ii) The assessee had just applied for settlement of the case. The Commission,
however, in considering the “validity” or otherwise of the application,
proceeded to delve into the merits of the matter even at that stage. The order
of the Settlement Commission was beyond the scope of section 245D(2C) having
been passed on the merits of the issue raised and set aside the same. This writ
petition is allowed.’

shailesh.kwebmaker

DEFINITION OF A BUSINESS (AMENDMENTS TO Ind AS 103)

The definition of business
has been amended (vide MCA notification dated 24^thJuly,
2020) and continues to be intended to assist entities to determine whether a
transaction should be accounted for as ‘a business combination’ or as ‘an asset
acquisition’.

The accounting for the
acquisition of an asset and for the acquisition of a business are very different,
hence the classification is very critical. The amendments are applicable to
business combinations for which the acquisition date is on or after the
beginning of the first annual reporting period beginning on or after 1^st
April, 2020 and to asset acquisitions that occur on or after the beginning of
that period. In a nutshell, the amendments have made the following broad
changes:

(i) the definition of a
business and the definition of outputs is made narrow.

(ii) clarify the minimum
features that the acquired set of activities and assets must have in order to
be considered a business.

(iii) the evaluation of
whether market participants are able to replace missing inputs or processes and
continue to produce outputs is removed.

(iv) an optional concentration
test that allows a simplified assessment of whether an acquired set of
activities and assets is not a business has been introduced.

The amendments replace the
wording in the definition of a business as follows:

Old Definition

New Definition

‘An integrated set of activities and assets
that is capable of being conducted and managed for the purpose of providing a
return in the form of dividends, lower costs or other economic benefits
directly to investors or other owners, members or participants’

‘An integrated set of activities and assets
that is capable of being conducted and managed for the purpose of providing
goods or services to customers, generating investment income (such as
dividends or interest) or generating other income from ordinary activities’

The changed definition
focuses on providing goods and services to customers, removes the emphasis from
providing a return to shareholders as well as to ‘lower costs or other
economics benefits’, because many asset acquisitions are made with the motive
of lowering costs but may not involve acquiring a substantive process.

Under the revised
standard, the following steps are required to determine whether the acquired
set of activities and assets is a business:

Step 1

Consider whether
to apply the concentration test

Does the entity want to apply the
concentration test?

If yes go to Step 2, if no go to Step 4

Step 2

Consider what
assets have been acquired

Has a single identifiable asset or a group
of similar identifiable assets been acquired?

If yes go to Step 3, if no go to Step 4

Step 3

Consider how the
fair value of gross assets acquired is concentrated

Is substantially all of the fair value of
the gross assets acquired concentrated in a single identifiable asset or a
group of similar identifiable assets?

If yes, the concentration test has passed,
transaction is not a business, if no go to step 4

Step 4

Consider whether
the acquired set of activities and assets has outputs

Does the acquired set of activities and
assets have outputs?

Go to step 5

Step 5

Consider if the
acquired process is substantive

If there are no outputs, in what
circumstances is the acquired process considered substantive?

If there are outputs, in what circumstances
is the acquired process considered substantive?

If acquired process is substantive,
transaction is a business; if acquired process is not substantive,
transaction is an asset acquisition

OPTIONAL CONCENTRATION TEST

The optional concentration
test allows the acquirer to carry out a simple evaluation to determine whether
the acquired set of activities and assets is not a business. The optional
concentration test is not an accounting policy choice; therefore, it may be
used for one acquisition and not for another. If the test passes, then the
acquired set of activities and assets is not a business and no further
evaluation is required. If the test fails or the entity chooses not to apply
the test, then the entity needs to assess whether or not the acquired set of
assets and activities meets the definition of a business by making a detailed
assessment.

The amended standard does
not prohibit an entity from carrying out the detailed assessment if the entity
has carried out the concentration test and concluded that the acquired set of
activities and assets is not a business. The standard-setter decided that such
a prohibition was unnecessary, because if an entity intended to disregard the
outcome of the concentration test, it could have elected not to apply it.

In theory, the
concentration test might sometimes identify a transaction as an asset
acquisition when the detailed assessment would identify it as a business
combination. That outcome would be a false positive. The standard-setter
designed the concentration test to minimise the risk that a false positive
could deprive users of financial statements of useful information. The
concentration test might not identify an asset acquisition that would be
identified by the detailed assessment. That outcome would be a false negative.
An entity is required to carry out the detailed assessment in such a case and
is expected to reach the same conclusion as if it had not applied the
concentration test. Thus, a false negative has no accounting consequences.

What is a
single identifiable asset?

A single identifiable
asset includes any asset or group of assets that would be recognised and
measured as a single identifiable asset in a business combination. This will
include assets that are attached or cannot be removed from other assets without
incurring significant cost or loss of value of either asset. Examples of single
identifiable asset include land and buildings, customer lists, trademarks,
outsourcing contracts, plant and machinery, intangible asset (for example, a
coal mine), etc. Land and buildings cannot be removed from each other without
incurring significant cost or loss of value to either of them, unless the
building is inconsequential or very insignificant in value.

What is a
group of similar identifiable assets?

Assets are grouped when
they have a similar nature and have similar risk characteristics (i.e., the
risks associated with managing and creating outputs from the assets). The
following are examples of groupings which are not considered to be similar
assets:

(a) a tangible asset and
an intangible asset.

(b) different classes of
tangible assets under Ind AS 16, for example, equipment and building (unless
the equipment is embedded in the building and cannot be removed without
incurring significant cost or loss of value to either the building or the
equipment).

(c) tangible assets that
are recognised under different Standards (e.g. Ind AS 2 ‘Inventories’ and Ind
AS 16 ‘Property, Plant and Equipment’).

(d) a financial asset and
a non-financial asset.

(e) different classes of
financial assets under Ind AS 109 ‘Financial Instruments’ (e.g receivables,
equity investments, etc.).

(f) different classes of
intangibles (e.g. brand, mineral rights, etc.)

(g) assets belonging to
the same class but have significantly different risk characteristics, for
example, different types of mines.

In applying the
concentration test, one test is to evaluate whether substantially all of the
fair value of the gross assets acquired is concentrated in a single
identifiable asset or a group of similar identifiable assets? How is the fair
value determined?

The fair value of the
gross assets acquired shall include any consideration transferred (plus the
fair value of any NCI and the fair value of any previously held interest) in
excess of the fair value of net identifiable assets acquired. The fair value of
the gross assets acquired may normally be determined as the total obtained by
adding the fair value of the consideration transferred (plus the fair value of
any NCI and the fair value of any previously held interest) to the fair value
of the liabilities assumed (other than deferred tax liabilities), and then
excluding cash and cash equivalents, deferred tax assets and goodwill resulting
from the effects of deferred tax liabilities.

The
standard-setter concluded that whether a set of activities and assets includes
a substantive process does not depend on how the set is financed. Consequently,
the concentration test is based on the gross assets acquired, not on net
assets. Thus, the existence of debt (for example, a mortgage loan financing a
building) or other liabilities does not alter the conclusion on whether an acquisition is a business combination. In addition, the gross assets
considered in the concentration test exclude cash and cash equivalents
acquired, deferred tax assets, and goodwill resulting from the effects of
deferred tax liabilities. These exclusions were made because cash acquired, and
the tax base of the assets and liabilities acquired, are independent of whether
the acquired set of activities and assets includes a substantive process.

Example – Establishing the
fair value of the gross assets acquired

Ze Co holds a 30% interest
in Ox Co. A few years later, Ze acquires control of Ox by acquiring an
additional 45% interest in Ox for INR 270. Ox’s assets and liabilities on the
acquisition date are the following:

a building with a fair
value of INR 720

an identifiable
intangible asset with a fair value of INR 420

cash and cash
equivalents with a fair value of INR 180

deferred tax assets of
INR 120

financial liabilities
with a fair value of INR 900

deferred tax liabilities
of INR 240 arising from temporary differences associated with the building and
the intangible asset.

Ze determines that at the
acquisition date the fair value of Ox is INR 600, that the fair value of the
NCI in Ox is INR 150 (25% x INR 600) and that the fair value of the previously
held interest is INR 180 (30% x INR 600).

Analysis

When performing the
optional concentration test, Ze needs to determine the fair value of the gross
assets acquired. Ze determines that the fair value of the gross assets acquired
is INR 1,200, calculated as follows:

the total (INR 1,500)
obtained by adding:

– the consideration paid
(INR 270), plus the fair value of the NCI (INR 150) plus the fair value of the
previously held interest (INR 180); to

– the fair value of the
liabilities assumed (other than deferred tax liabilities) (INR 900); less

the cash and cash
equivalents acquired (INR 180); less

deferred tax assets
acquired (INR 120).

Alternatively, the fair
value of the gross assets acquired (INR 1,200) is also determined by:

the fair value of the
building (INR 720); plus

the fair value of the
identifiable intangible asset (INR 420); plus

the excess (INR 60) of:

– the sum (INR 600) of the
consideration transferred (INR 270), plus the fair value of the NCI (INR 150),
plus the fair value of the previously held interest (INR 180); over

– the fair value of the
net identifiable assets acquired (INR 540 = INR 720 + INR 420 + INR 180 + INR
120 – INR 900).

MINIMUM REQUIREMENTS TO QUALIFY AS BUSINESS

What are the
minimum requirements to meet the definition of a business?

Elements
of a business

Explanation

Examples

Inputs

An
economic resource that creates outputs or has the ability to contribute to
the creation of outputs when one or more processes are applied to it

tangible assets

•
right-of-use assets

•
intangible assets

•
intellectual property

•
employees

•
ability to obtain necessary material or rights

Processes

A
system, standard, protocol, convention or rule that when applied to an input
or inputs, creates outputs or has the ability to contribute to the creation
of outputs. These processes typically are documented, but the intellectual
capacity of an organised workforce having the necessary skills and experience
following rules and conventions may provide the necessary processes that are
capable of being applied to inputs to create outputs. (Accounting, billing,
payroll and other administrative systems typically are not processes used to
create outputs.)

•
strategic management processes

•
operational processes

•
resource management processes

Outputs

The
result of inputs and processes applied to those inputs that provide goods or
services to customers, generate investment income (such as dividends or
interest) or generate other income from ordinary activities

•
revenue

To qualify as a business,
the acquired set of activities and assets must have inputs and substantive
processes that together enable the entity to contribute to the creation of
outputs. However, the standard clarifies that outputs are not necessary for an
integrated set of assets and activities to qualify as a business. A business
need not include all of the inputs or processes that the seller used in
operating that business. However, to be considered a business, an integrated
set of activities and assets must include, at a minimum, an input and a
substantive process that together enable the entity to contribute to the
creation of outputs.

According to the
standard-setters, the reference in the old definition to lower costs and other
economic benefits provided directly to investors did not help to distinguish
between an asset and a business. For example, many asset acquisitions may be
made with the motive of lowering costs but may not involve acquiring a
substantive process. Therefore, this wording was excluded from the definition
of outputs and the definition of a business.

Ind AS 103 adopts a market
participant’s perspective in determining whether an acquired set of activities
and assets is a business. This means that it is irrelevant whether the seller
operated the set as a business or whether the acquirer intends to operate the
set as a business. An assessment made from a market participant’s perspective
and driven by facts that indicate the current state and condition of what has
been acquired (rather than the acquirer’s intentions) helps to prevent similar
transactions being accounted for differently. Moreover, bringing more subjective
elements into the determination would most likely have increased diversity in
practice.

When is an acquired process considered to be substantive?

The amended Standard
requires entities to assess whether the acquired process is substantive. The evaluation
of whether an acquired process is substantive depends on whether the acquired
set of activities and assets has outputs or not. For example, an early-stage
entity may not have any outputs / revenue, and is therefore subjected to a
different analysis of whether the acquired process along with the acquisition
of the development stage entity is substantive or not. Moreover, if an acquired
set of activities and assets was generating revenue at the acquisition date, it
is considered to have outputs at that date, even if subsequently it will no
longer generate revenue from external customers, for example because it will be
integrated by the acquirer.

For activities and assets
that do not have outputs at the acquisition date, the acquired process is substantive
only if:

(i) it is critical to the
ability to develop or convert an acquired input or inputs into outputs; and

(ii) the inputs acquired
include both an organised workforce that has the necessary skills, knowledge,
or experience to perform that process (or group of processes) and other inputs
that the organised workforce could develop or convert into outputs. Those other
inputs could include:

(a) intellectual
property that could be used to develop a good or service;

(b) other
economic resources that could be developed to create outputs; or

Examples of the inputs
include technology, in-process research and development projects, real estate
and mineral interests.

As can be seen from the
above discussion, for an acquired set of activities and assets to be considered
a business, if the set has no outputs, the set should include not only a
substantive process but also both an organised workforce and other inputs that
the acquired organised workforce could develop or convert into outputs.
Entities will need to evaluate the nature of those inputs to assess whether
that process is substantive.

For activities and assets
that have outputs at the acquisition date, the acquired process is substantive
if, when applied to an acquired input or inputs:

(1) it is critical to the
ability to continue producing outputs, and the inputs acquired include an
organised workforce with the necessary skills, knowledge, or experience to
perform that process (or group of processes); or

(2) significantly
contributes to the ability to continue producing outputs and is considered
unique or scarce; or cannot be replaced without significant cost, effort, or delay
in the ability to continue producing outputs.

The following additional
points support the above:

(A) an acquired contract
is an input and not a substantive process. Nevertheless, an acquired contract,
for example, a contract for outsourced property management or outsourced asset
management, may give access to an organised workforce. An entity shall assess
whether an organised workforce accessed through such a contract performs a
substantive process that the entity controls, and thus has acquired. Factors to
be considered in making that assessment include the duration of the contract
and its renewal terms.

(B) difficulties in
replacing an acquired organised workforce may indicate that the acquired
organised workforce performs a process that is critical to the ability to
create outputs.

(C) a process (or group of
processes) is not critical if, for example, it is ancillary or minor within the
context of all the processes required to create outputs.

As can be seen from the
above discussions, more persuasive evidence is required in determining whether
an acquired process is substantive, when there are no outputs, because the
existence of outputs already provides some evidence that the acquired set of
activities and assets is a business. The presence of an organised workforce
(although itself an input) is an indicator of a substantive process. This is
because the ‘intellectual capacity’ of an organised workforce having the
necessary skills and experience following rules and conventions may provide the
necessary processes (even if not documented) that are capable of being applied
to inputs to create outputs.

The standard-setter
concluded that although an organised workforce is an input to a business, it is
not in itself a business. To conclude otherwise would mean that hiring a
skilled employee without acquiring any other inputs could be considered to be
acquiring a business. The standard-setter decided that such an outcome would be
inconsistent with the definition of a business.

Prior to the amendments,
Ind AS 103 stated that a business need not include all of the inputs or
processes that the seller used in operating that business, ‘if market
participants are capable of acquiring the business and continuing to produce
outputs, for example, by integrating the business with their own inputs and
processes’. The standard-setter, however, decided to base the assessment on
what has been acquired in its current state and condition, rather than on
whether market participants are capable of replacing any missing elements, for
example, by integrating the acquired activities and assets. Therefore, the
reference to such integration was deleted from Ind AS 103. Instead, the
amendments focus on whether acquired inputs and acquired substantive processes
together significantly contribute to the ability to create outputs.

Illustrative
examples

Example
–Acquisition of real estate

Base facts

Ze
Co purchases a portfolio of 8 single-family homes along with in-place lease
contracts for each of them. The fair value of the consideration paid is equal
to the aggregate fair value of the 8 single-family homes acquired. Each
single-family home includes the land, building and lease-hold improvements.
Each home is of a different carpet size and interiors. The 8 single-family
homes are in the same area and the class of customers (e.g., tenants) are
similar. The risks in relation to the homes acquired and leasing them out are
largely similar. No employees, other assets, processes or other activities are
received in this transaction.

Scenario 1 – Application of optional concentration test

Analysis

Ze elects to apply the
optional concentration test set and concludes that:

each single-family home
is considered a single identifiable asset because:

the building and
lease-hold improvements are attached to the land and cannot be removed without
incurring significant cost; and

the building and the
associated leases are considered a single identifiable asset, because they
would be recognised and measured as a single identifiable asset in a business
combination.

the group of 8
single-family homes is a group of similar identifiable assets because they are
all single-family homes, are similar in nature and the risks associated with
operations and creating outputs are not significantly different. This is
consistent with the fact that the types of homes and classes of customers are
not significantly different.

Ze concludes that the
acquired set of activities and assets is not a business because substantially
all of the fair value of the gross assets acquired is concentrated in a group
of similar identifiable assets.

Scenario 2 –Corporate
office park

Facts

Assume the same base case,
except that Ze also purchases a multi-tenant corporate office park with four
15-storey office buildings with in-place leases. The additional set of
activities and assets acquired includes the land, buildings, leases and
contracts for outsourced cleaning, security and maintenance. However, no
employees, other assets, other processes or other activities are transferred.
The aggregate fair value associated with the office park is similar to the
aggregate fair value associated with the 8 single-family homes. The processes
performed through the contracts for outsourced cleaning and security are minor
within the context of all the processes required to create outputs.

Analysis

Ze elects to apply the
optional concentration test and concludes that the single-family homes and the
office park are not similar identifiable assets, because the risks associated
with operating the assets, obtaining tenants and managing tenants are
significantly different. This is consistent with the fact that the two classes
of customers are significantly different. As a result, the concentration test
fails because the fair value of the corporate office park and the 8
single-family homes is similar. Thus, Ze proceeds to evaluate whether the
acquisition is a business in the normal way.

The set of activities and
assets has outputs because it generates revenue through the in-place leases. Ze
needs to evaluate if there is an acquired process that is substantive. For
activities and assets that have outputs at the acquisition date, the acquired
process is substantive if, when applied to an acquired input or inputs:

it is critical to the
ability to continue producing outputs, and the inputs acquired include an
organised workforce with the necessary skills, knowledge, or experience to
perform that process (or group of processes); or

significantly
contributes to the ability to continue producing outputs and is considered
unique or scarce; or cannot be replaced without significant cost, effort, or
delay in the ability to continue producing outputs.

Ze concludes that the
above criterion is not met because:

the set does not include
an organised workforce;

the only processes
acquired (processes performed by the outsourced cleaning, security and
maintenance personnel) are ancillary or minor and, therefore, are not critical
to the ability to continue producing outputs.

the processes do not
significantly contribute to the ability to continue producing outputs.

the processes are not
unique or scarce and can be replaced without significant cost, effort, or delay
in the ability to continue producing outputs.

Consequently, Ze concludes
that the acquired set of activities and assets is not a business. Rather, it is
an asset acquisition.

Scenario 3 –Corporate
office park

Facts

Consider the same facts as
in Scenario 2, except that the acquired set of activities and assets also
includes the employees responsible for leasing, tenant management, and managing
and supervising all operational processes.

Analysis

Ze elects not to apply the
optional concentration test and proceeds to evaluate whether there is a
business in the normal way. The acquired set of activities and assets has
outputs because it generates revenue through the in-place leases. Consequently,
Ze carries out the same analysis as in Scenario 2.

The acquired set includes
an organised workforce with the necessary skills, knowledge or experience to
perform processes (i.e. leasing, tenant management, and managing and
supervising the operational processes) that are substantive because they are
critical to the ability to continue producing outputs when applied to the
acquired inputs (i.e. the land, buildings and in-place leases). Additionally,
those substantive processes and inputs together significantly contribute to the
ability to create output. Therefore, Ze concludes that the acquired set of
activities and assets is a business.

In the author’s view,
these amendments may result in more acquisitions being accounted for as asset
acquisitions as the definition of business has narrowed. Further, the
accounting for disposal transactions will also be impacted as Ind AS 110 Consolidated
Financial Statements will be applicable in case of the recognition of
proceeds from the sale of a business, while Ind AS 115 Revenue from
Contracts with Customers will be applied for the recognition of proceeds
from the sale of an asset.

shailesh.kwebmaker

REPORT: ROLE OF THE PROFESSIONAL IN A CHANGING TAX LANDSCAPE

HITESH D. GAJARIA
Chartered Accountant

(BCAS
Lecture Meeting, 8^thJuly, 2020)

A
report by CA Riddhi Lalan

Hitesh D. Gajaria, a respected member of the BCAS family since 1985, delivered a remarkable speech at the BCAS Lecture Meeting on 8^thJuly, 2020. We are publishing this summary just when the profession is at the threshold of change, a trending theme of 2020-21: Tradition, Transition and Transformation, adopted by the BCAS. A summary cannot convey the full import of his talk but we hope it will enable the professionals to get an eagle-eye view of the landscape of the tax profession, both near and far. We would recommend that you also watch the captivating talk on the BCAS YouTube channel.

The tax world is in a state of rapid flux. Earlier, the tax profession was all about filing returns, assessments, filing appeals and litigating matters. From simple and straight-forward days, where the most common tax concerns were additions on account of lower GP Ratio, deductions u/s 37 and revenue expenditure vs. capital expenditure for the Income-tax and the lack of C-Forms in the Sales Tax Assessments, the tax profession today has morphed into a complex, multi-dimensional arena requiring unique and varied skills from the tax professionals.

In light of this background, the learned speaker sought to dwell upon the most gripping questions for the tax professionals today – What are the current global and local trends? What factors have caused the changes? And as a result, how is the tax world different today? Is tax planning still possible? What is the future of the tax profession? What can be done by a tax professional to stay relevant and on top of the changes?

THE CURRENT TRENDS

Global

Increased reporting obligations in a number of tax jurisdictions.

Increased collaborations between tax authorities of different jurisdictions and robust exchange of information mechanisms.

Tightened rules to combat profit shifting with reference to concepts like transfer pricing, which India adopted only in 2002, but the US had since the mid-1960s.

Increasing tendency to focus on ‘formula-based approaches’ to profit attribution.

Strong anti-abuse rules to target treaty shopping and other abusive arrangements.

No consensus on tackling the tax challenge arising from digitisation of the global economy. Even if a consensus is reached, it may result in re-thinking of the way taxation of income is approached and highly sophisticated and complex rules which a tax professional will have to master.

Increased blurring of direct and indirect taxes, with a shift towards transaction type tax levies invading the domain of direct taxes.

Local

Protectionism and increased unilateral measures, triggered by the revival of nationalistic politics in various nations, developed as well as developing, and partially by the slow pace of multilateral reform in tax.

At the same time, countries still want to attract investments (both domestic and foreign) by way of large headline rate cuts for businesses to flourish in a jurisdiction. While this may trigger another round of tax competition, there will be greater need for not only tax competition but also tax co-operation. Tax war is an extreme situation which no country can afford today; however, tax competition shall always sustain.

Proliferation of preferential regimes (e.g., patent box regimes).

Many countries have combated preferential regimes by way of disallowance provisions for foreign related party transactions.

Uncertainty over tariffs and potential trade wars has ripened the entire area of customs and indirect taxes for rethinking and overhaul.

Unilateral measures to tax the digital sector have been introduced by many countries including India.

In many countries, including India, huge compliance burden has been embedded at the stage of business transactions taking place, leading to huge burden on businesses.

Closer home, an oncoming storm of tax assessments, audits, recoveries and tax enforcement measures is on the anvil because the government needs to start recovering taxes to make up for the increasing fiscal deficit and to fund more social welfare programmes if the needs of the lowest strata of society have to be met.

WHAT FACTORS HAVE CAUSED THESE CHANGES?

The changes in the tax trends began after the global financial crisis of 2008 which put huge fiscal pressure on governments worldwide. Improving tax compliance and increasing tax enforcement were seen as better routes rather than increasing tax rates, leading to increased global political interest in tax issues and driving the agenda for tax reforms. There has been a greater public focus and media scrutiny on taxpayer behaviour (Apple, Starbucks, Amazon, Panama papers leak, etc.). While there has been an increased alignment of interests between nations with exceptions, tax simplification, rationalisation and reforms have led to even more burdensome compliance for taxpayers. Covid-19 could be yet another turning point for unknown reforms in the tax world.

HOW IS THE TAX WORLD DIFFERENT TODAY?

THEN	NOW
Tax liability depended on the strict letter of the law Remedies to correct abuse lay with the legislature to amend the tax laws	Tax ‘morality’ has gained significance Factors such as substance, purpose and the acceptability of the outcome are extremely relevant for both taxpayers and advisers
Secrecy and confidentiality was generally maintained	There has been a rise in publicising tax outcomes, naming and shaming of tax defaulters Increasing data leaks have proved that the so-called tax havens have been mirages in some sense Information asymmetries between countries have been largely plugged through exchange of information mechanisms
Tax matters involved only the government and the taxpayer assisted by tax advisers	List of stakeholders has expanded to include the media, NGOs and even consumers
Compliance was a labour-intensive and assured source of regular work	Compliance functions are being radically overhauled through use of technology tools
Clear distinction between tax avoidance and tax evasion Tax avoidance was thought to be a goal	The term ‘tax avoidance’ is under a cloud The new standard is ‘tax morality’

IS TAX PLANNING STILL POSSIBLE?

The days of tax planning in the form of reduction of tax liability with little or no impact on economic circumstances and ascertaining and implementing the most tax efficient way of achieving legitimate business objectives are over. That type of tax planning which disregards commercial realities no longer exists but it has evolved. Tax planning, in the traditional sense, will no longer work in an era where international measures such as CFC, MLI and domestic measures such as General Anti-Avoidance Rules are in place. However, planning for real business transactions is still possible.

A professional, who is fully grounded in understanding and mastering the law and able to guide businesses about what is permissible and what is not, will sustain. However, any planning will now involve a much higher risk of scrutiny at assessment and judicial levels. Higher threshold for acceptability and higher risk of scrutiny of the transactions from a large number of stakeholders would be inevitable. There is heightened risk of such transactions being reported on the front pages of newspapers due to increased information availability; a professional must measure himself by these standards. Extremely robust documentation and robust proof of commercial substance will be critical.

WHAT IS THE FUTURE OF THE TAX PROFESSION?

The entire platform of tax services will rest on three main pillars which will broadly define how tax professionals may need to specialise their skillsets and garner focused experience:

(1) Technology-enabled tax compliance:

Technology has ruthlessly changed the landscape and has been eagerly embraced by tax authorities; this, perhaps, has been a big revelation!

It is the need of the hour to completely adapt and master technology to stay ahead.

Competition would not only be limited to the tax professionals but also more disruptors, say non-professional technology firms, who enable compliance at a fraction of the cost, will now enter the arena.

Technology using Artificial Intelligence (AI) and Machine Learning (ML) must take over a number of repetitive tasks.

Technology has raised a question as to ‘Whether professionals, going forward, would even be engaged for compliance?’

Compliance would not be dead for a professional, but will need adaptability and agility.

Additional challenges of data safety, security and protection need to be addressed.

By embracing mass compliance and processing data in larger volumes, a tax professional can gain leverage from the data available which will open a whole new vista predicting tax outcomes to better serve clients.

While drafting and research has been taken over by AI, there are two ways to look at it – (i) threat to routine compliance, and therefore, accept technology; (ii) opportunity for value addition due to increasing uncertainty.

Technology has merits but with the overload of the digital world there is also digital distraction. Tax professionals need to engage in deep work, detox periodically from technologies and opt for in-depth and consistent reading. Advisory services flowing from such detailed reading and connecting theory to practice in how that impacts a client is now more valuable.

Technology cannot substitute experience and deep knowledge. Here lies the true value of a tax professional.

By using algorithms and data mining, the Department is in a position to point out anomalies. Tax professionals need to be better prepared to address such anomalies. To walk the path of technology, assistance from data scientists may be required.

(2) High end advisory:

Global convergence of tax methodologies, the drive against base erosion with accompanying changes in domestic and international laws and the emergence of and seeping in of transaction tax type levies, gives rise to fresh challenges for a professional to overcome.

Today, with the convergence of accounting and tax principles, giving clear preference to the doctrine of substance over form and new and ever-changing corporate law, foreign exchange and SEBI regulations, we are in the middle of a perfect storm with attendant opportunities.

There is a perceived need for professionals who have experience in more than just one or two core areas and also for those professionals who can collaboratively work together with other professionals in different disciplines to evolve solutions which overcome complex problems, while simultaneously not falling foul of any regulations.

A longer-term strategy to develop and nurture appropriate talent needs to be undertaken because, in this arena, too, sister professions are nibbling away at pieces of work that Chartered Accountants traditionally did.

(3) Litigation:

Complexities and uncertainties shall lead to an explosion of tax litigation.

The tax professional has only witnessed the implementation aspects of GST; audits are yet to commence.

There was no reduction in number of tax officers due to digitisation of the GSTN. These officers would be trained to do tax assessments more intelligently. The Income-tax Department, also, has sharply climbed up the learning curve. Even judges in Tribunals and Courts are keeping abreast with latest trends.

Conflict between the needs of the government to garner more revenue and that of businesses to conserve more revenue will result in a sharp increase in litigation.

At the same time, it needs to be understood that not all litigation is good. Hand-holding and guidance to clients would gain relevance to decide which litigation to pursue and which not to, having regard to the alternate forums of dispute resolution available under domestic laws as well as under international tax laws.

Government is also realising the futility of litigations and therefore a scheme like VSVS is an attempt to clear such backlogs.

The tax professional needs to be nuanced in how to assist clients to shape their litigation strategies. Jurisprudence is not static as more case laws are available online nationally and internationally.

Mandatory disclosure regulations in case of aggressive tax positions require a balance in audit, assurance and litigation.

These three pillars are not independent compartments. A strong professional may have competency either in all or in more than one of these.

Certification assignments should be taken up only if capabilities and professional competency are available before pitching for such assignments. The Department is now equipped with algorithms to intelligently search all the reports and ferret out anomalies. Therefore, there is no easy way, either to discharge the certification function correctly or refrain from accepting – there is just no other option.

Tax risk in the corporate world: Barring a few exceptions, there is polarisation in the way the market is valuing companies having clear, transparent, ethical policies. Effective tax rate is not to be viewed in an absolute sense; it needs to be looked at on a comparative basis, based on a bench-marking analysis and tax policies and decided accordingly. The tone and culture of the corporate decides whether tax risk is a subject of discussion in the Board Room. Adverse tax consequences with attendant negative publicity is already tinged with social stigma, at least in the minds of independent directors whether the corporates believe in it or not. Therefore, tax risk is, increasingly, forming a part of the Board Room discussions.

HOW TO STAY RELEVANT?

Maximum advantage available with the younger professionals having agility, ability, keenness, inquisitiveness and willingness to change.

Develop a willingness to adapt to changed circumstances.

Ability to manage tax risks without overpaying taxes.

Adherence to ethical standards is not old-fashioned; it is expected and demanded today.

An analogy may be drawn from the letter ‘T’. The vertical line is the depth and core. Develop that depth, that core, own it, invest in it and nurture it. But do not forget the horizontal line which is the adjacent line. It is now, more than ever, important to read commercial news, develop good communication skills, understand cultural differences, learn personal etiquette, etc. Both lines need to be worked upon simultaneously.

SME firms and bigger firms need to come together and collaborate, especially after the Covid-19 pandemic.

Develop cutting-edge technical skills and become comfortable with a fast-paced legal and regulatory environment.

We find ourselves at the crossroads to reinvent ourselves and today is the day to start. When nothing is certain, the maximum opportunity lies ahead – just re-trim your masts to catch that wind.

shailesh.kwebmaker

THE FINANCE ACT, 2020

1. BACKGROUND

1.1 Ms Nirmala Sitharaman, the Finance Minister, presented her second
Budget to the Parliament on 1^stFebruary, 2020. The Finance Bill, 2020, presented along with the Budget
with certain amendments suggested by the Finance Minister on the basis of
discussions with the stakeholders, was passed by the Parliament without any
discussion on 23^rd March, 2020. It received the assent of the
President on 27^th March, 2020. The Finance Act, 2020 was passed by
both the Houses of Parliament without any discussion in view of the recent
lockdown due to the coronavirus pandemic which has affected India and the whole
world.

1.2 Some of the
important proposals in the Budget, relating to the Direct Taxes, can be
summarised as under:

(i) In line with
the reduction in rates of Income-tax for certain domestic companies which forgo
certain deductions and tax incentives introduced last year, the Finance Act,
2020 provides for revised slabs of Income-tax rates for Individuals and HUFs
who do not claim certain deductions and tax incentives.

(ii) Dividend
Distribution Tax, hitherto payable by companies and Mutual Funds and consequent
exemption on dividend received by shareholders and unitholders, has been
discontinued effective from 1^st April, 2020. Consequently, the
exemption in respect of dividend receipt enjoyed by the shareholders and
unitholders of Mutual Funds has been withdrawn.

(iii) The
compliance burden of Charitable Trusts and Institutions has been increased.

(iv) The Finance
Minister has recognised the need for a ‘Taxpayer’s Charter’. A new section 119A
has been inserted in the Income-tax Act effective from 1^st April,
2020 to provide that CBDT shall adopt and declare the Taxpayer’s Charter. CBDT
will issue guidelines for ensuring that this Charter is honoured by the
Officers of the Tax Department.

(v) One important
measure announced by the Finance Minister this year relates to the Disputed
Income-tax Settlement Scheme. ‘The Direct Tax Vivad Se Vishwas Bill,
2020’ was introduced by her and was passed by Parliament on 13^th
March, 2020. This Scheme has been introduced with a view to reduce litigation.
It is stated that about 4,83,000 Direct Tax cases are pending before various
appellate authorities. The assessees can avail the benefit of this Scheme by
paying the disputed tax and getting waiver of penalty, interest and fee.

1.3 This Article discusses some of the important
amendments made in the Income-tax Act by the Finance Act, 2020.

2. RATES OF TAXES

2.1 The slab rates
in the case of Individuals, HUFs, AOP, etc., for A.Y. 2021-22 (F.Y. 2020-21)
are the same as in A.Y. 2020-21 (F.Y. 2019-20). Similarly, the tax rates for
firms, LLPs, co-operative societies and local authorities for A.Y. 2021-22 are
the same as in A.Y. 2020-21. In the case of a domestic company, the rate of tax
is the same for A.Y. 2021-22 as in A.Y. 2020-21. However, the rate of 25% is
applicable in A.Y. 2021-22 to a domestic company having total turnover or gross
receipts of less than Rs. 400 crores in F.Y. 2018-19. In A.Y. 2020-21, this
requirement was with reference to total turnover or gross receipts relating to
F.Y. 2017-18.

2.2 The rates for Surcharge on tax applicable in A.Y. 2020-21 will
continue in A.Y. 2021-22. It may be noted that dividend declared and received
on or after 1^st April, 2020 is now taxable in the hands of the
shareholder. Earlier, the company was required to pay Dividend Distribution Tax
(DDT) and the shareholder was not liable to pay any tax. Therefore, dividend
income for F.Y. 2020-21 (A.Y. 2021-22) will be liable to tax in the hands of
the shareholder. In order to provide relief in the rate of Surcharge to
Individual, HUF, AOP, etc. having total income exceeding Rs. 2 crores, it is
provided that the rate of Surcharge will be 15% on the Income-tax on dividend income
included in the total income.

2.3 The Health and
Education Cess of 4% of Income-tax and Surcharge shall continue as in the
earlier year.

3. REDUCTION IN TAX RATES FOR INDIVIDUALS AND HUFs

3.1 Last year, the
Income-tax Act was amended by insertion of new sections 115BAA and 115BAB to
reduce the tax rates of a domestic company to 22% if the company does not claim
certain deductions and tax incentives. In respect of newly-formed manufacturing
companies, registered on or after 1^st January, 2019, the tax rate
was reduced to 15% if certain deductions and tax incentives were not claimed.

3.2 In the Finance Act, 2020 a new section 115BAC has been inserted
in the Income-tax Act with effect from A.Y. 2021-22 (F.Y. 2020-21) to reduce
the tax rates for Individuals and HUFs if the assessee does not claim certain
deductions and tax incentives. For claiming this concession in tax rates, the
assessee will have to exercise the option in the prescribed manner. The reduced
tax rates are as under:

Income (Rupees in lakhs)

Existing rate

Reduced rate (section 115BAC)

2.50 L

Nil

2.50 to 5.00 L

5.00 to 7.50 L

20%

10%

7.50 to 10.00 L

20%

15%

10.00 to 12.50 L

30%

20%

12.50 to 15.00 L

30%

25%

Above 15.00 L

30%

Surcharge and Cess
at the specified rates will be chargeable. It may be noted that there is no
separate higher threshold for senior and very senior citizens in the above
concessional tax rate scheme.

3.3 For claiming
the benefit of the above concession in tax rates, the assessee will have to
forgo the deductions under sections, (i) 10(5) – Leave Travel Concession, (ii)
10(13A) – House Rent Allowance, (iii) 10(14) – Dealing with special allowances
granted to employees other than conveyance and transport allowance under Rule
2BB(1)(a), (b), (c) and Sr. No. 11 of Table under Rule 2BB(2) as notified by
CBDT Notification dated 26^th June, 2020.

Out of the above,
some of the allowances as may be prescribed will be allowed, (iv) 10(17) –
Allowances to MPs and MLAs, (v) 10(32) – Deduction of clubbed income of minor
up to Rs. 1,500, (vi) 10AA – Deduction of income of SEZ unit, (vii) 16 –
Standard deduction of Rs. 50,000, deduction for entertainment expenses in
specified cases, deduction for professional tax, etc., available to salaried
employees, (viii) 24(b) – Interest on borrowing for self-occupied property,
(ix) 32(1)(iia) – Additional depreciation, (x) 32AD – Investment in new plant
and machinery in notified areas in certain states, (xi) 33AB – Deposits in tea,
coffee and rubber development account, (xii) 35(1)(ii), (iia), (iii) and (2AA)
– Specified deduction for donations or expenses for Scientific Research, (xiv)
35AD – Deduction of capital expenditure for specified business, (xv) 35CCC –
Weighted deduction for specified expenditure on Agricultural Extension Project,
(xvi) 57(iia) – Standard deduction for Family Pension, (xvii) Chapter VIA – All
deductions under Chapter VIA – excluding deduction u/s 80CCD(2) – Employee’s
contribution in notified Pension Scheme, section 80JJAA – Expenditure on
employment of new employees and section 80LA(1A) dealing with deduction in
respect of certain income of International Financial Services Centre.

This will mean that deductions under sections 80C (investment in PPF
A/c, LIP payments or investments in other savings instruments up to Rs. 1.50
lakhs), 80D (medical insurance), 80TTA/80TTB (deduction for interest on bank
deposits), 80G (donations to charitable trusts, etc.) cannot be claimed,
(xviii) Section 71 – Set-off of carried-forward loss from house property
against income from other heads, (ixx) Section 32 – Depreciation u/s 32 [other
than section 32(1)(iia)] shall be allowed in the prescribed manner, (xx) No
exemption or deduction for allowances or perquisites allowable under any other
law can be claimed, (xxi) provisions of Alternate Minimum Tax and credit under
sections 115JC/115JD will not be available.

3.4 As stated
above, the assessee will have to exercise the option in the prescribed manner
where an Individual or HUF has no business income, this option can be exercised
for A.Y. 2021-22 or any subsequent year along with the filing of the return of
income u/s 139(1). In other words, the option can be exercised every year in
the prescribed manner.

3.5 If the
Individual or HUF has income from business or profession, the option can be
exercised for A.Y. 2021-22 or any subsequent year before the due date for
filing the return of income for that year u/s 139(1). The option once exercised
shall apply to that year and all subsequent years. Such an assessee can
withdraw the option at any time in a subsequent year and, thereafter, it will
not be possible to exercise the option at any time so long as the said assessee
has income from business or profession.

3.6 It may be
noted that the above option for concession in tax rates will not be available
to AOP, BOI, etc. The existing slab rates will continue to apply to them.
Further, the provisions of sections 115JC and 115JD relating to Alternative
Minimum Tax and credit for such tax will not apply to the person exercising
option u/s 115BAC.

3.7 Considering
the above conditions, it is possible that very few assessees will exercise this
option for lower tax rates. If deductions for PPF contribution, LIP, etc., u/s
80C, donation u/s 80G, Mediclaim Insurance u/s 80D, Standard Deduction from
Salary income u/s 16, travel and other allowances under sections 10(5), 10(13A)
and 10(14), and similar other deductions are not to be allowed, this concession
in tax rates to Individuals and HUFs will not be attractive.

4. TAXATION OF DIVIDENDS

4.1 Up to 31^st
March, 2020, domestic companies declaring / distributing dividend to
shareholders were required to pay DDT u/s 115-O of the Income-tax Act at the
rate of 15% plus applicable Surcharge and Cess. Similarly, section 115-R
provided for payment of tax by a Mutual Fund while distributing income on its
units at varying rates. Consequently, sections 10(34) and 10(35) provided that
the shareholder receiving dividend from a domestic company or a unitholder
receiving income from an M.F. will not be required to pay any tax on such
dividend income and income received from an M.F. in respect of the units of the
M.F. However, from A.Y. 2017-18 (F.Y. 2016-17), dividend from a domestic
company received by an assessee, other than a domestic company and Public
Trusts, was made taxable u/s 115BBDA at the rate of 10% plus applicable
Surcharge and Cess if the total dividend income was more than Rs. 10 lakhs.

4.2 Now, after
about two decades, the system of levying tax on dividends has been changed
effective from 1^st April, 2020. Sections 115-O and 115-R levying DDT
on domestic companies / M.F.s are now made inoperative. Sections 10(34), 10(35)
and 115BBDA are also not operative from 1^st April, 2020.

4.3 In view of the above, any dividend declared by
a domestic company or income distributed by an M.F., on or after 1^st
April, 2020 will be taxable in the hands of the shareholder / unitholder at the
rate applicable to the assessee. In the case of a non-resident assessee it will
be possible to claim benefits of applicable tax treaties which will include
limit on tax rate for dividend income and tax credit in home country as
provided in the applicable tax treaty.

4.4 Section 57 has
been amended to provide that expenditure by way of interest paid on monies
borrowed for investment in shares and units of M.F.s will be allowed to be
deducted from Dividend Income or Income from units of M.F.s. This deduction
will be restricted to 20% of Dividend Income or Income from units of M.F.s. No
other deduction will be allowed from such income.

4.5 A new section,
80M, has been inserted in the Income-tax Act effective from A.Y. 2021-22 (F.Y.
2020-21). This section provides for deduction in the case of a domestic company
whose gross total income includes dividend from any other (i) domestic company,
(ii) foreign company, or (iii) a business trust. The deduction under this
section will be allowed to the extent of dividend distributed by such company
on or before the due date. For this purpose ‘Due Date’ means the date one month
prior to the due date for filing the return of income u/s 139(1). In other
words, if a domestic company has received dividend of Rs. 1 crore from another
domestic company, Rs. 50 lakhs from a foreign company and Rs. 25 lakhs from a
business trust during the year ending 31^st March, 2021, it will be
entitled to claim deduction from this total dividend income of Rs. 1.75 crores,
amount of dividend of say Rs. 1.60 crores declared on or before 31^st
August, 2021 if the last date for filing its return of income u/s 139(1) is 30^th
September, 2021. It may be noted that the benefit u/s 80M will not be available
in respect of income from units of M.F.s.

4.6 In order to
provide some relief to Individuals, HUFs, AOP, BOI, etc., a concession in the
rate of Surcharge has been provided in respect of dividend income. In case of
such assessees, the rate of Surcharge on income between Rs. 2 crores and Rs. 5
crores is 25% and the rate of Surcharge on income above Rs. 5 crores is 37.5%.
It is now provided that if the income of such assessee exceeds Rs. 2 crores,
the rate of Surcharge shall not exceed 15% on Income-tax computed in respect of
the Dividend Income included in the total income. From the wording of this
concession given to Dividend Income, it appears that this concession will not
apply to the income from units of M.F.s received by the assessee.

4.7 Since the
income from dividend on shares is now taxable, section 194 has been amended to
provide that tax at the rate of 10% of the dividend paid to the resident
shareholder will be deducted at source. In the case of a non-resident
shareholder, the TDS will be at the rate of 20%. Similarly, new section 194K now
provides that an M.F. shall deduct tax at source at 10% of income distributed
to a resident unitholder. In the case of a non-resident unitholder, the rate of
TDS is 20% as provided in section 196A.

4.8 It may be
noted that u/s 193 it is provided that tax is not required to be deducted at
source from interest paid by a quoted company to its debenture-holders if the
said debentures are held in demat form. This concession is not given under
sections 194 or 194K in respect of quoted shares or units of M.F.s held in
demat form. Therefore, the provisions for TDS will apply in respect of shares
or units of M.F.s held in demat form.

5. TAX DEDUCTION AND COLLECTION AT SOURCE

5.1 Sections
191 and 192: Both these sections are amended effective from A.Y. 2021-22
(F.Y. 2020-21). At present, section 17(2)(vi) of the Income-tax Act provides
for taxation of the value of any specified securities or sweat equity shares
(ESOP) allotted to any employee by the employer as a perquisite. The value of
ESOP is the fair market value on the date on which the option is exercised as
reduced by the actual payment made by the employee. When the shares are
subsequently sold, any gain on such sale is taxable as capital gain. The
employer has to deduct tax at source on such perquisite at the time of exercise
of such option u/s 192.

In order to ease
the burden of startups, the amendments in these two sections provide that a
company which is an eligible startup u/s 80IAC will have to deduct tax at
source on such income within 14 days (i) after the expiry of 48 months from the end of the relevant assessment year, or (ii) from
the date of sale of such ESOP shares by the employee, or (iii) from the date on which the employee who
received the ESOP benefit ceases to be an employee of the company, whichever is
earlier. For this purpose, the tax rates in force in the financial year in
which the said shares (ESOP) were allotted or transferred are to be considered.
By this amendment, the liability of the employee to pay tax on such perquisite
and deduction of tax on the same is deferred as stated above. Consequential
amendments are also made in sections 140A (self-assessment tax) and 156 (notice
of demand).

5.2 Sections
194, 194K and 194LBA: Sections 194 and 194LBA are amended and a new section
194K is inserted effective from 1^st April, 2020. These sections now
provide as under:

(i) Section 194
provides that if the dividend paid to a resident shareholder by a company
exceeds Rs. 5,000 in any financial year, tax at the rate of 10% shall be
deducted at source. In the case of a non-resident shareholder, the rate for TDS
is 20% as provided in section 195.

(ii) New section 194K provides that if any income is
distributed by an M.F. to a resident unitholder and such income distributed
exceeds Rs. 5,000 in a financial year, tax at the rate of 10% shall the
deducted at source by the M.F. In the case of a non-resident unitholder, the
rate of TDS is 20% u/s 196A.

(iii) Section 194LBA has been amended to provide that
in respect of income distributed by a Business Trust to a resident unitholder,
being dividend received or receivable from a Special Purpose Vehicle, the tax
shall be deducted at source at the rate of 10%. In respect of a non-resident
unitholder, the rate for TDS is 20% on dividend income.

5.3 Section 196C:
Section 196C dealing with TDS from income by way of interest or dividends in
respect of Bonds or GDRs purchased by a non-resident in foreign currency has
been amended from 1^st April, 2020. Under the amended section, TDS at
10% is now deductible from the dividend paid to the non-resident.

5.4 Section
196D: This section deals with TDS from income in respect of securities held
by an FII. Amendment of this section from 1^st April, 2020 now
provides that dividend paid to an FII or FPI will be subject to TDS at the rate
of 20%.

5.5 Section
194A: This section deals with TDS from interest income. This section is
amended effective from 1^st April, 2020. At present, a co-operative
society is not required to deduct tax at source on interest payment in the
following cases:

(i) Interest
payment by a co-operative society (other than a Co-operative Bank) to its
members.

(ii) Interest
payment by a co-operative society to any other co-operative society.

(iii) Interest
payment on deposits with a Primary Agricultural Credit Society or Primary
Credit Society or a Co-operative Land Mortgage Bank.

(iv) Interest
payment on deposits (other than time deposits) with a co-operative society
(other than societies mentioned in iii above) engaged in the business of
banking.

Under the
amendments made in section 194A effective from 1^st April, 2020, the
above exemptions have been modified and a co-operative society shall be
required to deduct tax at source in all the above cases at the rates in force,
if the following conditions are satisfied:

(a) The total
sales, gross receipts or turnover of the co-operative society exceeds Rs. 50
crores during the immediately preceding financial year, and

(b) The amount of
interest, or the aggregate of the amounts of such interest payment during the
financial year, is more than Rs. 50,000 in case the payee is a senior citizen
(aged 60 years or more) or more than Rs. 40,000 in other cases.

5.6 Section 194C: This section is amended effective from 1^st
April, 2020. At present the term ‘Work’ is defined in the section to include
manufacturing or supplying a product according to the requirement or
specification of a customer by using material purchased from such customer.
Now, this term ‘Work’ will also include material purchased from the associate
of such customer. For this purpose, the ‘associate’ means a person specified
u/s 40A(2)(b).

5.7 Section
194J: This section is amended effective from 1^st April, 2020.
The rate of TDS has been reduced to 2% from 10% in respect of TDS from fees for
technical services. The rate of TDS from professional fees will continue at 10%
of such fees.

5.8 Section
194LC: This section is amended effective from 1^st April, 2020.
The eligibility of borrowing under the loan agreement or by issue of long-term
bonds for concessional rate of TDS under this section has now been extended
from 30^th June, 2020 to 30^th June, 2023. Further, section
194LC(2) has now been amended to include interest on monies borrowed by an
Indian company from a source outside India by issue of long-term Bonds or
Rupee-Denominated Bonds between 1^st April, 2020 and 30^th
June, 2023, which are listed on a recognised stock exchange in any
International Financial Services Centre. In such a case, the rate of TDS will
be 4% (as against 5% in other cases).

5.9 Section
194LD: This section is amended effective from 1^st April, 2020.
This amendment is made to cover interest payable from 1^st June, 2013
to 30^th June, 2023 by a person to an FII or a Qualified Foreign
Investor on Rupee-Denominated Bonds of an Indian company or Government security
u/s 194LD. Further, now interest at specified rate on Municipal Debt Securities
issued between 1^st April, 2020 and 30^th June, 2023 will
also be covered under the provisions of this section. The rate for TDS is 5% in
such cases.

5.10 Section
194N: Section 194N was inserted effective from 1^st September,
2019 by the Finance (No. 2) Act, 2019. It provided that a banking company,
co-operative bank or a Post Office shall deduct tax at source at 2% in respect
of cash withdrawn by any account holder from one or more accounts with such
bank / Post Office in excess of Rs. 1 crore in a financial year. This limit of
Rs. 1 crore applied to all accounts of the person in any bank, co-operative
bank or Post Office. Hence, if a person has accounts in different branches of
the bank, total cash withdrawals in all these accounts will be considered for
this purpose. This TDS provision applied to all persons, i.e., Individuals,
HUFs, AOP, firms, LLPs, companies, etc., engaged in business or profession, as
also to all persons maintaining bank accounts for personal purposes. Under this
section there will be no TDS on cash withdrawn up to Rs. 1 crore in a financial
year. The TDS provision will apply on cash withdrawal in excess of Rs. 1 crore.

Now, the above
section has been replaced by a new section 194N effective from 1^st
July, 2020. This new section provides as under:

(i) The provision
relating to TDS at 2% on cash withdrawals exceeding Rs. 1 crore as stated above
is continued. However, w.e.f. 1^st July, 2020, if the account holder
in the bank / Post Office has not filed the returns of income for all the three
assessment years relevant to the three previous years, for which the time for
filing such return of income u/s 139(1) has expired, the rate of TDS will be as
under:

(a) 2% of cash withdrawal from all accounts with a bank or Post
Office in excess of Rs. 20 lakhs but not exceeding Rs. 1 crore in a financial
year.

(b) 5% of cash withdrawal from all accounts with a bank or Post
Office in excess of Rs. 1 crore in a financial year.

(ii) The Central
Government has been authorised to notify, in consultation with RBI, that in the
case of any account holder the above provisions may not apply or tax may be
deducted at a reduced rate if the account holder satisfies the conditions
specified in the Notification.

(iii) This section
does not apply to cash withdrawals by any Government, bank, co-operative bank, Post
Office, banking correspondent, white label ATM operators and such other persons
as may be notified by the Central Government in consultation with RBI if such
person satisfies the conditions specified in the Notification. Such
Notification may provide that the TDS rate may be at reduced rates or at Nil
rate.

(iv) This
provision is made in order to discourage cash withdrawals from banks and
promote digital economy. It may be noted that u/s 198 it is provided that the
tax deducted u/s 194N will not be treated as income of the assessee. If the
amount of this TDS is not treated as income of the assessee, credit for tax
deducted at source u/s 194N will not be available to the assessee u/s 199 read
with Rule 37BA. If such credit is not given, this will be an additional tax
burden on the assessee.

5.11 Section
194-O and 206AA: New section 194-O has been inserted effective from 1^st
April, 2020. Existing section 206AA has been amended from the same date.
Section 194-O provides that the TDS provisions will apply to E-commerce
operators. The effect of this provision is as under:

(i) The two terms
used in the section are defined to mean (a) ‘E-commerce operator’ is a person
who owns, operates or manages digital or electronic facility or platform for
electronic commerce, and (b) ‘E-commerce participant’ is a person resident in
India selling goods or providing services or both, including digital products,
through digital or electronic facility or platform for electronic commerce. For
this purpose the services will include fees for professional services and fees
for technical services.

(ii) An E-commerce
operator facilitating sale of goods or provision of services of an E-commerce
participant, through its digital electronic facility or platform, is now
required to deduct tax at source at the rate of 1% of the payment of gross
amount of sales or services or both to the E-commerce participant. Such TDS is
to be deducted from the amount paid by the purchaser of goods or recipient of
services directly to the E-commerce participant / E-commerce operator.

(iii) No tax is
required to be deducted if the payment is made to an E-commerce participant who
is an Individual or HUF if the payment during the financial year is less than
Rs. 5 lakhs and the E-commerce participant has furnished PAN or Aadhaar Card
Number.

(iv) Further, in
the case of an E-commerce operator who is required to deduct tax at source as
stated in (ii) above or in a case stated in (iii) above, there will be no
obligation to deduct tax under any provisions of Chapter XVII-B in respect of
the above transactions. However, this exemption will not apply to any amount
received by an E-commerce operator for hosting advertisements or providing any
other services which are not in connection with sale of goods or services.

(v) If the
E-commerce participant does not furnish PAN or Aadhaar Card Number, the rate
for TDS u/s 206AA will be 5% instead of 1%. This is provided in the amended
section 206AA.

(vi) It is also
provided that CBDT, with the approval of the Central Government, may issue
guidelines for the purpose of removing any difficulty that may arise in giving
effect to provisions of section 194-O.

5.12 Section 206C: This section dealing with collection of tax at
source (TCS) has been amended effective from 1^st October, 2020.
Hitherto, this provision for TCS applied in respect of specified businesses.
Under this provision a seller is required to collect tax from the buyer of
certain goods at the specified rates. The amendment of this section effective
from 1^st October, 2020 extends the net of TCS u/s 206C (1G) and (1H)
to other transactions as under:

(i) An authorised
dealer, who is authorised by RBI to deal in foreign exchange or foreign
security, receiving Rs. 7 lakhs or more from any person in a financial year for
remittance out of India under the Liberalised Remittance Scheme (LRS) of RBI,
is liable to collect TCS at 5% from the person remitting such amount. Thus, LRS
remittance up to Rs. 7 lakhs in a financial year will not be liable for this
TCS. If the remitter does not provide PAN or Aadhaar Card Number, the rate of
TCS will be 10% u/s 206CC.

(ii) In the above
case, if the remittance in excess of Rs. 7 lakhs is by a person who is
remitting the foreign exchange out of education loan obtained from a financial
institution, as defined in section 80E, the rate of TCS will be 0.5%. If the
remitter does not furnish PAN or Aadhaar Card Number, the rate of TCS will be
5% u/s 206CC.

(iii) The seller of an overseas tour programme
package, who receives any amount from a buyer of such package, is liable to
collect TCS at 5% from such buyer. It may be noted that the TCS provision will
apply in this case even if the amount is less than Rs. 7 lakhs. If the buyer
does not provide PAN or Aadhaar Card Number, the rate for TCS will be 10% u/s
206CC.

(iv) It may be
noted that the above provisions for TCS do not apply in the following cases:

(a) An amount in
respect of which the sum has been collected by the seller.

(b) If the buyer
is liable to deduct tax at source under the provisions of the Act. This will
mean that for remittance for professional fees, commission, fees for technical
services, etc. from which tax is to be deducted at source, this section will
not apply.

(c) If the
remitter is the Central Government, State Government, an Embassy, High
Commission, a Legation, a Commission, a Consulate, the Trade Representation of
a Foreign State, a Local Authority or any person in respect of whom the Central
Government has issued a Notification.

(v) Section
206C(1H) which comes into force on 1^st October, 2020 provides that a
seller of goods is liable to collect TCS at the rate of 0.1% on receipt of
consideration from the buyer of goods, other than goods covered by section
206C(1), (1F) or (1G). This TCS provision will apply only in respect of the
consideration in excess of Rs. 50 lakhs in the financial year. If the buyer
does not provide PAN or Aadhaar Card Number, the rate of TCS will be 1%. If the
buyer is liable to deduct tax at source from the seller on the goods purchased and
made such deduction, this provision for TCS will not apply.

(vi) It may be
noted that the above section 206C(1H) does not apply in the following cases:

(a) If the buyer
is the Central Government, State Government, an Embassy, a High Commission,
Legation, Commission, Consulate, the Trade Representation of a Foreign State, a
Local Authority, a person importing goods into India or any other person as the
Central Government may notify.

(b) If the seller
is a person whose sales, turnover or gross receipts from the business in the
preceding financial year does not exceed Rs. 10 crores.

(vii) The CBDT,
with the approval of the Central Government, may issue guidelines for removing
any difficulty that may arise in giving effect to the above provisions.

5.13 Obligation
to Deduct Tax at Source: Hitherto, the obligation to comply with the
provisions of sections 194A, 194C, 194H, 194-I, 194-J or 206C for TDS was on
Individuals or HUFs whose total sales or gross receipts or turnover from
business or profession exceeded the monetary limits specified in section 44AB
during the immediately preceding financial year. The above sections are now
amended, effective from 1^stApril, 2020, to provide that the above
TDS provisions will apply to an individual or HUF whose total sales or gross
receipts or turnover from business or profession exceeds Rs. 1 crore in the
case of business or Rs. 50 lakhs in the case of profession. Thus, every
Individual or HUF carrying on business will have to comply with the above TDS
provisions even if he is not liable to get his accounts audited u/s 44AB.

5.14 General:

(i) From the above
amendments it is evident that the net for TDS and TCS has now been widened and
even transactions which do not result in income are now covered under these
provisions. Individuals and HUFs carrying on business and not covered by Tax
Audit u/s 44AB will now be covered by the TDS and TCS provision. In particular,
persons remitting foreign exchange exceeding Rs. 7 lakhs under LRS of RBI will
have to pay tax u/s 206C. This tax will be considered as payment of tax by the
remitter u/s 206C(4) and he can claim credit for such tax u/s 206C(4) read with
Rule 37-1.

(ii) It may be
noted that the Government has issued a Press Note on 13^th May, 2020
giving certain relief during the Covid-19 pandemic. By this Press Note it is
announced that TDS / TCS under sections 193 to 194-O and 206C will be reduced
by 25% during the period 14^th May, 2020 to 31^st March,
2021. This reduction is given only in respect of TDS / TCS from payments or receipts
from residents. This concession is not in respect of TDS from salaries or TDS
from non-residents and TDS / TCS under sections 260AA or 206CC.

6. EXEMPTIONS AND DEDUCTIONS

6.1 Section 10(23FE): This is a new clause providing for
exemption of income from dividend, interest or long-term capital gain arising
from investment made in India by a specified person during the period 1^st
April, 2020 to 31^st March, 2024. The investment may be in the form
of a debt, share capital or unit. For this purpose the specified person means a
wholly-owned subsidiary of Abu Dhabi Investment Authority which complies with
the various conditions of the Explanation given in the section. For claiming
the above exemption the specified person has to hold the investment for at least
three years. Further, the investment should be in (a) a Business Trust, (b) an
Infrastructure Company as defined in section 80-IA, (c) such other company as
may be notified by the Central Government, or (d) a Category I or Category II
Alternative Investment Fund regulated by SEBI and having 100% investment in one
or more companies as referred to in (a), (b) or (c) above.

If exemption under
this section is granted in any year, the same shall be withdrawn in any
subsequent year when the specified person violates any of the conditions of the
section in a subsequent year. It is also provided in the section that if any
difficulty arises about interpretation or implementation of this section, CBDT,
with the approval of the Central Government, may issue guidelines for removing
the difficulty.

6.2 Section
10(48C): This a new clause inserted from 1^st April, 2020. It
provides for exemption in respect of any income of Indian Strategic Petroleum
Reserves Ltd., as a result of arrangement for replenishment of crude oil stored
in its storage facility in pursuance of directions of the Central Government.

6.3 Section
80EEA: This section was added by the Finance (No. 2) Act, 2019 to provide
for deduction of interest payable up to Rs. 1,50,000 on loan taken by an
Individual from a Financial Institution for acquiring a residential house. One
of the conditions in the section is that the loan should be sanctioned during
the period 1^st April, 2019 to 31^st March, 2020. This
period is now extended to 31^st March, 2021.

6.4 Section
80GGA: This section deals with certain donations for Scientific Research or
Rural Development. Till now, this deduction was allowed even if amounts up to
Rs. 10,000 were paid in cash. Now this section is amended, effective from 1^st
June, 2020 and the above limit of Rs. 10,000 is reduced to Rs. 2,000.

6.5 Section
80-IAC: This section deals with deduction in case of startup entities
engaged in specified businesses. The section is amended from A.Y. 2021-22 (F.Y.
2020-21). At present, the deduction under this section can be claimed for three
consecutive assessment years out of seven years from the year of incorporation.
By amendment of this section, the outer limit of seven years has been increased
to ten years.

In the Explanation
defining ‘Eligible Startup’, at present it is provided that the total turnover
of the business of the startup claiming deduction under this section should not
exceed Rs. 25 crores. This limit is now increased to Rs. 100 crores.

6.6 Section
80-IBA: This section deals with deduction in respect of income from
specified housing projects. At present, for claiming deduction under this
section one of the conditions is that the housing project should be approved by
the Competent Authority during the period from 1^st June, 2016 to 31^st
March, 2020. This period is now extended up to 31^st March, 2021.

6.7 Filing Tax
Audit Report: At present sections 80-IA, 80-IB and 80JJAA provide that for
claiming deduction under these sections the assessee has to file the Tax Audit
Report u/s 44AB along with the return of income. These sections are now
amended, effective from 1^st April, 2020 to provide that the Tax
Audit Report shall be filed one month before the due date for filing return of
income u/s 139(1). This will mean that in all such cases the Tax Audit Report
will have to be finalised one month before the due date for filing the return
of income u/s 139(1).

7. CHARITABLE TRUSTS

At present, a
University, Educational Institution, Hospital or other Medical Institution
claiming exemption u/s 10(23C) of the Income-tax Act is required to get
approval from the designated authority (Principal Commissioner or a
Commissioner of Income-tax). The procedure for this is provided in section
10(23C). The approval once granted is operative until cancelled by the
designated authority. For other Charitable Trusts the procedure for
registration is provided in section 12AA. Registration, once granted, continues
until it is cancelled by the designated authority. The Charitable Trusts and
other Institutions are entitled to get approval u/s 80G from the designated
authority. This approval is valid until cancelled by the Designated Authority.
On the strength of this certificate u/s 80G the donor to the Charitable Trust
or other Institutions can claim deduction in the computation of his income for
the whole or 50% of the donations as provided in section 80G. The Finance Act,
2020 has amended sections 10(23C), 11, 12A, 12AA and 80G and inserted section
12AB to completely change the procedure for registration of Trusts. These
provisions are discussed below.

7.1. New
procedure for registration:

(i) A new section
12AB is inserted effective from 1^st October, 2020 which specifies
the new procedure for registration of Charitable Trusts. Similarly, section
10(23C) is also amended and a similar procedure, as stated in section 12AB, has
been provided. All the existing Charitable Trusts and other Institutions
registered under sections 10(23C) and 12AA will have to apply for fresh
registration under the new provisions of section 10(23C)/12AB within three
months, i.e., on or before 31st December, 2020. The fresh registration will be
granted for a period of five years. Therefore, all Trusts / Institutions
claiming exemption under sections 10(23C)/11 will have to apply for renewal of
registration every five years.

(ii) Existing
Charitable Trusts, Educational Institutions, Hospitals, etc., will have to
apply for fresh registration u/s 12AB or 10(23C) within three months, i.e. ,on
or before 31^stDecember, 2020. The designated authority will grant
registration under section 12AB or 10(23C) for a period of five years. This
order shall be passed within three months from the end of the month in which
the application is made. Six months before the expiry of the above period of five
years, the Trusts / Institutions will have to again apply to the designated
authority for renewal of registration which will be granted for a period of
five years. This order has to be passed by the designated authority within six
months from the end of the month when the application for renewal is made.

(iii) For new
Charitable Trusts, Educational Institutions, Hospitals, etc., the following
procedure is to be followed:

(a) The
application for registration in the prescribed form should be made to the designated
authority at least one month prior to the commencement of the previous year
relevant to the assessment year for which the registration is sought.

(b) In such a
case, the designated authority will grant provisional registration for a period
of three assessment years. The order for provisional registration is to be
passed by the designated authority within one month from the last date of the
month in which the application for registration is made.

(c) Where such
provisional registration is granted for three years, the Trust / Institutions
will have to apply for renewal of registration at least six months prior to
expiry of the period of the provisional registration or within six months of
commencement of its activities, whichever is earlier. In this case, the
designated authority has to pass the order within six months from the end of
the month in which the application is made. In such a case, renewal of
registration will be granted for five years.

(iv) Section 11(7)
is amended to provide that the registration of the Trust u/s 12A/12AA will
become inoperative from the date on which the Trust is approved u/s
10(23C)/10(46), or on 1^st October, 2020, whichever is later. In such
a case the Trust can apply for registration u/s 12AB. For this purpose the application
for registration u/s 12AB will have to be made at least six months prior to the
commencement of the assessment year for which the registration is sought. The
designated authority will have to pass the order within six months from the end
of the month in which the application is made.

(v) Where a Trust
or Institution has made modifications in its objects and such modifications do
not conform with the conditions of registration, application should be made to
the designated authority within 30 days from the date of such modifications.

(vi) Where the
application for registration, renewal of registration is made as stated above,
the designated authority has power to call for such documents or information
from the Trust / Institutions or make such inquiry in order to satisfy itself
about (a) the genuineness of the Trust / Institutions, and (b) the compliance
with requirements of any other applicable law for achieving the objects of the
Trust or Institution. After satisfying himself, the designated authority will
grant registration for five years or reject the application for registration
after giving a hearing to the trustees. If the application is rejected, the
Trust or Institutions can file an appeal before the ITA Tribunal within 60
days. The designated authority also has power to cancel the registration of any
Trust or Institutions u/s 12AB on the same lines as provided in the existing
section 12AA. All applications for registration pending before the designated
authority as on 1^st October, 2020 will be considered as applications
made under the new provisions of section 10(23C)/12AB.

7.2. Corpus
donation:

(i) Hitherto, a
corpus donation given by an Educational Institution, Hospital, etc. claiming
exemption u/s 10(23C) to a similar institution claiming exemption under that
section, was not considered as application of income under that section. By
amendment of section 10(23C), effective from 1^st April, 2020, a
corpus donation given by such an Institution to a Charitable Trust registered
u/s 12AA also will not be considered as application of income u/s 10(23C).
Similarly, section 11 at present provides that a corpus donation given by a
Charitable Trust to another Charitable Trust registered u/s 12AA is not
application of income. This section is also amended, effective from 1^stApril,
2020, to provide that a corpus donation given by a Charitable Trust to a
Charitable Trust registered u/s 12AA and to Educational Institutions or a
Hospital registered u/s 10(23C) will not be considered as application of income.

(ii) Section 10(23C) is amended, effective from 1^st
April, 2020, to provide that any corpus donation received by an Educational
Institution or a Hospital claiming exemption under that section will not be
considered as its income. At present, this provision exists in section 12 and
Charitable Trusts claiming exemption u/s 11 are getting benefit of this
provision.

7.3. Section
80G(5)(vi):

A proviso
to section 80G(5)(vi) is added from 1^st October, 2020. At present, a
certificate granted u/s 80G is valid until it is cancelled. Now, this provision
is deleted and a new procedure is introduced. Briefly stated, this procedure is
as under:

(i) Where the
Trust / Institution holds a certificate u/s 80G it will have to make a fresh
application in the prescribed form for a new certificate under that section
within three months, i.e. on or before 31^st December, 2020. In such
a case the designated authority will give a fresh certificate which will be
valid for five years. The designated authority has to pass the order within
three months from the last date of the month in which the application is made.

(ii) For renewal
of the above certificate, an application will have to be made at least six
months before the date of expiry of the said certificate. The designated authority
has to pass the order within six months from the last date of the month in
which the application is made.

(iii) In a new
case, the application for certificate u/s 80G will be required to be filed at
least one month prior to the commencement of the previous year relevant to the
assessment year for which the approval is sought. In such a case, the
designated authority will give provisional approval for three years. The
designated authority has to pass the order within one month from the last date
of the month in which the application is made.

(iv) In a case
where provisional approval is given, application for renewal will have to be
made at least six months prior to the expiry of the period of provisional
approval, or within six months of the commencement of the activities by the
Trust / Institution, whichever is earlier. In this case the designated
authority has to pass the order within six months from the last date of the
month in which the application is made.

In cases of
renewal of approval as stated in (ii) and (iv) above, the designated authority
shall call for such documents or information or make such inquiries as he
thinks necessary in order to satisfy himself that the activities of the Trust /
Institution are genuine and that all conditions specified at the time of grant
of registration earlier have been complied with. After it is satisfied it shall
renew the certificate u/s 80G. If it is not so satisfied, it can reject the
application after giving a hearing to the Trustees. The Trust / Institution can
file an appeal to the ITAT within 60 days if the approval u/s 80G is rejected.

7.4. Sections
80G(5)(viii) and (ix): Clauses (viii) and (ix) are added in section 80G(5)
from 1^st October, 2020 to provide that every Trust / Institution
holding a section 80G certificate will be required to file with the prescribed
Income-tax Authority particulars of all donors in the prescribed form within
the prescribed time. The Trust / Institution has also to issue a certificate in
the prescribed form to the donor about the donations received by it. The donor
will get deduction u/s 80G only if the Trust / Institution has filed the
required statement with the Income-tax Authority and issued the above
certificate to the donor. In the event of failure to file the above statement
or issue the above certificate to the donor within the prescribed time, the
Trust / Institution will be liable to pay a fee of Rs. 200 per day for the
period of delay under the new section 234G. This fee shall not exceed the
amount in respect of which the failure has occurred. Further, a penalty of Rs.
10,000 (minimum) which may extend to Rs. 1 lakh (maximum) may also be levied
for the failure to file details of donors or issue certificate to donors under
the new section 271K.

It may be noted
that the above provisions for filing particulars of donors and issue of
certificate to donors will apply to donations for Scientific Research to an
association or company u/s 35(1)(ii)(iia) or (iii). These sections are also
amended. Provisions for levy of fee or penalty for failure to comply with these
provisions will also apply to the donee company or association which received
donations u/s 35. As stated earlier, the donor will not get deduction for
donations as provided in section 80GG if the donee company or association has
not filed the particulars of donors or not issued the certificate for donation.

Further, there is
no provision for filing appeal before the CIT(A) or ITATl against the levy of
fee u/s 234G.

7.5. Filing of
Audit Report: Sections 12A and 10(23C) are amended, effective from 1^st
April, 2020 to provide that the audit reports in Forms 10B and 10BB for A.Y.
2020-21 (F.Y. 2019-20) and subsequent years shall be filed with the tax
authorities one month before the due date for filing the return of income.

7.6 General:
The existing provisions relating to Charitable Trusts and Institutions are
complex. By the above amendments they are made more complex. The effect of
these amendments will be that there will be no ease of doing charities. In
particular, smaller Charitable Trusts will find it difficult to comply with
these procedural requirements. The compliance burden for them will increase. If
the Trusts are not able to comply with the requirement of filing details of
donors with the Tax Authorities or giving certificates to donors, they will
have to pay late filing fees as well as penalty. Again, the requirement of
getting fresh registration for all Trusts and Institutions and renewing the
same every five years under sections 10(23C), 12AB and 80G will be a
time-consuming process. Those dealing with Trust matters know how difficult it
is to get any such certificate or registration from the Income-tax Department.
In order to reduce the compliance burden, the requirements of filing details
about donors should have been confined to information relating to donations
exceeding Rs. 50,000 received from a donor during the year. Trustees of the
Charitable Trusts are rendering honorary service. To put such an onerous
responsibility on such persons is not at all justified. Under the new
provisions the donors will not get deduction for the donations made by them if
the trustees of the Trust do not file the prescribed particulars relating to
donors every year. Therefore, smaller Trusts will find it difficult to get
donations as donors will have apprehension that the donee trust may not file
the required details with the Income-tax Department in time.

8. RESIDENTIAL STATUS

The provisions
relating to residential status of an assessee are contained in section 6 of the
Income-tax Act. Significant changes are made by amendments in section 6 so far
as the residential status of an individual is concerned. In brief, these
amendments are as under:

(i) An individual
is resident in India in an accounting year if, (a) his stay in India is for 182
days or more in that year, or (b) his stay in India is for 365 days or more in
four years preceding that year and he is in India for a period of 60 days or
more in the accounting year.

(ii) At present,
in the case of a citizen of India or a Person of Indian Origin who is outside
India and comes on a visit to India in the accounting year, the threshold of 60
days stated in (i) above is relaxed to 182 days. By amendment of this provision
from A.Y. 2021-22 (F.Y. 2020-21), it is provided that in the case of a citizen
of India or a Person of Indian Origin who is outside India having total income
other than the specified foreign income, exceeding Rs. 15 lakhs during the
relevant accounting year, comes on a visit to India for 120 days or more in the
accounting year, will be considered as a resident in India.

(iii) It may be noted that the existing provision
applicable to a citizen of India who leaves India in any accounting year as a
member of the crew of an Indian ship or for the purpose of employment outside
India remains unchanged.

(iv) New sub-section (1A) is added in section 6 to
provide that if a citizen of India, having total income other than the
specified foreign income in the accounting year exceeding Rs. 15 lakhs, shall
be deemed to be a resident for that year, if he is not liable to tax in any
other country or territory by reason of his domicile or residence or any other
criterion of similar nature.

(v) Section 6(6) defines a person who is deemed to
be a ‘Resident but not Ordinary Resident’ (‘R but not OR’). By amendment of
this section, it is provided that the following persons shall also be
considered as ‘R but not OR’.

(a) A citizen of India, or a Person of Indian Origin, having total
income other than specified Foreign income exceeding Rs.15 lakhs during the
accounting year and who has been in India for a period of 120 days or more but
less than 182 days in that year.

(b) A citizen of India, who is deemed to be a resident in India, as
stated in (iv) above, will be considered as ‘R but not OR’.

(vi) For the above purpose the ‘specified foreign
income’ is defined to mean income which accrues or arises outside India, except
income derived from a business controlled in India or a profession set up in
India.

(vii) It may be
noted that under the Income-tax Act, an ‘R and OR’ is liable to pay tax on his
world income and a non-resident or an ‘R but not OR’ has to pay tax on income
accruing, arising or received in India. Therefore, individuals who are citizens
of India or Persons of Indian Origin will have to be careful about their stay
in India and abroad and determine their residential status on the basis of this
amended law.

9. SALARY INCOME

(i) At present, the contribution by an employer (a)
to the account of an employee in a recognised Provident Fund exceeding 12% of
the salary, (b) Contribution to superannuation fund in excess of Rs. 1,50,000,
and (c) contribution in National Pension Scheme is fully taxable in the hands
of an employee. However, deduction provided in section 80CCD(2) can be claimed
by the employee. There is no combined upper limit for the purpose of deduction
of amount of contribution made by the employer.

(ii) Section 17(2) has been amended, effective from
A.Y. 2021-22 (F.Y. 2020-21), to provide that the aggregate contribution made by
the employer to the account of the employee by way of PF, superannuation fund,
NPS exceeding Rs. 7,50,000 in an accounting year will be taxable as perquisite
in the hands of the employee. Further, any annual accretion by way of interest,
dividend or any other amount of similar nature during the year to the balance
at the credit of the fund or scheme, will be treated as perquisite to the
extent it relates to the employer’s taxable contribution. The amount of such
perquisite will be calculated in such manner as may be prescribed by the Rules.

10. BUSINESS INCOME

10.1 Section
35: Expenditure on scientific research

Section 35(1)
provides for weighted deduction for expenditure on Scientific Research by a
Research Association, University, College or other Institution or a Specified
Company (herein referred to as Research Bodies). The existing section provides
that these Research Bodies have to obtain approval of the prescribed authority.
Now this section is amended, effective from 1^st October, 2020, to
provide as under:

(i) The approval
granted to such Research Bodies on or before 1^st October, 2020 shall
stand withdrawn unless a fresh application for approval in the prescribed form
is made to the prescribed authority within three months, i.e., on or before 31^st
December, 2020. The notification issued by the prescribed authority shall be
valid for five consecutive assessment years beginning from A.Y. 2021-22.

(ii) It is also
stated that the Notification issued by the Central Government in respect of the
Research Bodies after 31^st December, 2020 shall, at any one time,
have effect for such assessment years not exceeding five assessment years as
may be specified in the Notification.

(iii) The
amendment in the section also provides that the above Research Bodies shall be
entitled to the deduction under the section only if the following conditions
are satisfied:

(a) They have to
prepare such statement about donations for such period as may be prescribed and
deliver these to the specified Income-tax Authority.

(b) They should
furnish to the donor a certificate specifying the amount of the donation in the
prescribed form.

(iv) It may be noted that if the statement in the
prescribed form is not filed in time or the certificate to the donor is not
given in time as stated above, the Research Body will be liable to pay a fine
of Rs. 200 per day of default u/s 234G. Further, penalty of Rs. 10,000
(minimum) which may extend to Rs. 1 lakh (maximum) may also be levied u/s 271K.

(v) The donor will not get deduction for the
donation if the above statement is not filed and the certificate in the
prescribed form is not issued by the Research Body.

10.2 Section
35AD: At present, section 35AD(1) provides for 100% deduction of Capital
Expenditure (other than expenditure on Land, Goodwill and Financial Assets)
incurred by any specified business. Further, section 35AD(4) provides that no
deduction is allowable under any other section in respect of which 100%
deduction is allowed u/s 35AD(1).

The section is now
amended, effective from A.Y. 2020-21 (F.Y. 2019-20), giving option to the
assessee either to claim deduction under the section or not do so. If such
option is exercised and the assessee has not claimed deduction u/s 35AD(1),
deductions u/s 32 can be claimed.

10.3 Section
43CA: This section provides that if the consideration for transfer of land
/ building, which is held as stock-in-trade, is less than 105% of the stamp
duty valuation, the stamp duty valuation (SDV) will be deemed to be the
consideration. This provision is now amended, effective from A.Y. 2021-22 (F.Y.
2020-21), to provide that if the consideration is less than 110% of the SDV,
then the SDV shall be deemed to be the consideration. Thus, further concession
of 5% is given in this transaction.

10.4 Section
72AA: At present, this section deals with carry-forward and set-off of
accumulated losses and unabsorbed depreciation on amalgamation of Banks. This
section is amended, effective from A.Y. 2020-21 (F.Y. 2019-20). By this
amendment, the benefit of carry-forward and set-off losses and unabsorbed
losses which was given on amalgamation of Banks has been extended to the
following entities.

(a) Amalgamation of one or more Banks with another
Bank under a scheme framed by the Central Government under the Banking
Companies (Acquisition and Transfer of Undertakings) Act, 1970 or the similar
Act of 1980.

(b) Amalgamation of one or more Government
companies with another Government company under a scheme sanctioned by the
Central Government under the General Insurance Business (Nationalisation) Act,
1972.

11. CAPITAL GAINS

11.1 Sections
49 and 2(42A): Section 49 provides for cost of acquisition for capital
assets which became the property of the assessee under specified circumstances.
Further, section 2(42A) provides for the period of holding of a capital asset
by an assessee for being considered as a short-term capital asset. These two
sections are amended, effective from A.Y. 2020-21 (F.Y. 2019-20). Briefly
stated, these amendments are as under:

(a) In the event
of downgrade in credit rating of debt and money market instruments in M.F.
schemes, SEBI has permitted the Asset Management Companies an option to
segregate the portfolio of such Schemes. In the event of such segregation, all
existing investors are allotted equal number of units in the segregated
portfolio held in the main portfolio. It is now provided that in determining
the period of holding of such segregated portfolio, the period for which the
original units in the main portfolio were held will be included.

(b) Further, the
cost of acquisition of such units in the segregated folio shall be the cost of
acquisition of the units held by the assessee in the total portfolio in
proportion to the NAV of the asset transferred to the segregated portfolio out
of the NAV of the total portfolio before the date of segregation. The cost of
acquisition of the original units in the main portfolio will be suitably
reduced by the amount derived as cost of units in the segregated portfolio.
These provisions are similar to those applicable for allocation of cost of
shares on demerger of a company.

11.2 Sections
50C and 56(2)(X): Section 50C provides that if the consideration for
transfer of a capital asset (land or building or both) is less than 105% of the
Stamp Duty Valuation (SDV), the SDV will be deemed to be the consideration.
This provision is now amended, effective from A.Y. 2021-22 (F.Y. 2020-21) to
provide that if the consideration is less than 110% of the SDV, the SDV will be
deemed to be the consideration. Thus, further concession of 5% is given for
such transactions.

On the same basis,
section 56(2)(X) is also amended. Under this section if land / building is
received by an assessee from a non-relative for a consideration which is less
than 105% of the SDV, the difference between the SDV and consideration is
treated as income from other sources. This section is also amended on the same
line as section 50C and further concession of 5% is given for such a
transaction.

11.3 Section
55: At present, this section provides that if the capital asset became the
property of the assessee before 1^st April, 2001, the assessee has
the option to adopt the fair market value of the asset transferred as on 1^st
April, 2001 for its cost of acquisition. This section is now amended, effective
from A.Y. 2021-22 (F.Y. 2020-21), to provide that if the capital asset is land
/ building, the fair market value on 1^st April, 2001 which the
assessee wants to adopt, shall not be more than the SDV on 1^st
April, 2001.

12. FILING OF RETURN OF INCOME

12.1 Section
139(1): At present, a person (including a company) who is required to get
his accounts audited is required to file his return of income on or before 30^th
September every year. By amendment of this section from A.Y. 2020-21 (F.Y.
2019-20), such a person will have to file his return of income on or before 31^st
October of the year. Further, at present a working partner of a firm or LLP
which is required to get its accounts audited is covered by this provision.
Now, any partner, including a working partner of a firm or LLP which is
required to get its accounts audited can file his return of income on or before
31^st October of that year. It may be noted that for A.Y. 2020-21,
the due date for filing return of income is extended up to 30^th
November, 2020 under CBDT Notification No. 35/2020 dated 24^th June,
2020.

12.2 Ordinance
dated 31^st March, 2020: By Taxation and Other Laws (Relaxation
of certain Provisions) Ordinance dated 31^st March, 2020 and CBDT
order u/s 119 dated 31^st March, 2020 and CBDT Notification dated 24^th
June, 2020 extends the time limit for filing return of income for A.Y. 2019-20
(F.Y. 2018-19) u/s 139(4) and revised return u/s 139(5), has been extended up
to 30^th September, 2020. This concession is due to Covid-19 and
consequential lockdown from 25^th March, 2020 onwards in the country.

12.3 Section
140: Under this section, at present the return of income has to be signed
in the case of a company by a Managing Director or Director and in the case of
an LLP by a Designated Partner or Partner. By amendment of this section from
A.Y. 2020-21 (F.Y. 2019-20), it is provided that in such cases the return of
income can be signed by such person as may be prescribed by the Rules.

13. TAX AUDIT REPORTS

13.1 Section 44AB: By amendment of this section, effective from
A.Y. 2020-21 (F.Y. 2019-20), it is provided that in the case of a person
carrying on business if the aggregate of all amounts received including for
sales, turnover or gross receipts and the aggregate amount of all payments
(including expenditure incurred) in cash during the accounting year does not
exceed 5% of the sales, turnover or gross receipts and 5% of the total
payments, Tax Audit u/s 44AB will be required only if the sales, turnover or
gross receipts exceed Rs. 5 crores in that accounting year. It may be noted
that this provision will apply to a company, firm, LLP, individual, AOP, HUF,
etc.

In other cases,
the existing turnover limit of Rs. 1 crore will apply. The above concession is
not applicable in the case of a person carrying on profession where the limit
with reference to gross receipts is Rs. 50 lakhs.

13.2 From the
wording of the amendment in section 44AB it appears that the limit of 5% of
cash receipts and payments applies with reference to all receipts from sales,
turnover or gross receipts, receipts from debtors, receipts from capital
account transactions, receipts of interest on loans and deposits, etc., and to
all payments for expenses for business or other purposes, payments to
creditors, payments of taxes, repayment of loans, payments for capital account
transactions, payments relating to transactions other than business, etc. In
other words, the above concession is not applicable if 5% or more of total
receipts as well as 5% or more of total payments are in cash.

13.3 At present,
the Tax Audit Report u/s 44AB is required to be filed along with the return of
income. This provision is now amended from the A.Y. 2020-21 (F.Y. 2019-20) to
provide that the Tax Audit Report should be filed with the tax authorities one
month before the due date for filing the return of income. Therefore, if the
due date for filing the return of income is 31^st October, then the
Tax Audit Report should be filed on or before 30^th September of that
year. In the case where Transfer Pricing Audit Report is to be obtained, the
due date for filing the return of income remains 30^th November. In
such cases, the Audit Report u/s 92F will have to be filed on or before 31^st
October.

13.4 It may be
noted that there are other sections under the Income-tax Act which require
different types of audit reports in the prescribed forms to be filed with the
return of income. These sections relate to charitable trusts, transfer pricing,
book profits, etc. Therefore, sections 10(23C), 10A, 12A, 32AB, 33AB, 33ABA,
35D, 35E, 44DA, 50B, 80-IA, 80-IB, 80JJAA, 92F, 115JB, 115JC and 155VW are
suitably amended from A.Y. 2020-21 (F.Y. 2019-20). In all these cases, the Tax
Audit Report will be required to be filed one month before the due date for
filing the Income-tax return of income.

13.5 In the
Memorandum explaining the provisions of the Finance Bill, 2020, it is stated
that to enable pre-filing of returns in case of the assessee having income from
business or profession, it is required that the Tax Audit Report may be
furnished by the said assessee at least one month prior to the date of filing
of the return of income. All the above sections are amended for this purpose
from A.Y. 2020-21.

14. APPEALS

14.1 Section
250: At present, an appeal before the CIT(A) is to be filed through
electronic mode. Thereafter, the assessee or his counsel has to attend before
the CIT(A) and argue the matter. In order to reduce human interface from the
system, section 250 has been amended from 1^st April, 2020 to provide
for a new E-appeal Scheme on lines similar to the E-assessment Scheme. This amendment
is as under:

(i) The Central
Government is given power to notify an E-appeal Scheme for disposal of appeal
so as to impart greater efficiency, transparency and accountability.

(ii) Interface
between CIT(A) and the appellant in the course of appellate proceedings will be
eliminated to the extent technologically feasible.

(iii) Utilisation
of resources through economies of scale and functional specialisation will be
optimised.

(iv) An appellate system with dynamic jurisdiction
in which an appeal shall be disposed of by one or more CIT(A)s will be
introduced.

Further, the
Central Government may direct for exception, modification and adaptation as may
be specified in the Notification. The above directions are to be issued before
31^st March, 2022.

14.2 Section
254: Under this section, the ITAT has been given power to grant stay of
disputed demand on an application filed by the assessee. At present, the
Tribunal is not required to impose any condition for deposit of any amount out
of the disputed demand while granting such stay.

This section is
amended from 1^st April, 2020 to provide that the ITAT can pass a
stay order subject to the condition that the assessee shall deposit at least
20% of the disputed tax, interest, fee, penalty, etc., or furnish security of
equal amount of such disputed tax.

Further, ITAT can
grant extension of stay only if the assessee has complied with the condition of
depositing the amount of disputed tax or furnishing of security for the amount
as stated above. The ITAT has to decide the appeal, where stay of demand is
granted, within 365 days of granting of the stay. Thus, the stay of demand
granted by the Tribunal cannot exceed 365 days.

15. PENALTIES

15.1 Section
271AAD: This is a new section inserted in the Act which will have
far-reaching implications. This section will take effect from 1^st
April, 2020. It provides that if, during any proceedings under the Act, either
a false entry or an omission of an entry, which is relevant for computation of
total income of such person is found in the books of accounts maintained by any
person with a view to evade tax liability, the A.O. can levy penalty of 100% of
the aggregate amount of such entry or omission of entry. Since this is a penal
provision, it is possible to take the view that this provision will apply to
any false entry or omission of entry found in the books for the accounting year
2020-21 and onwards.

The term ’false
entry’ for this purpose is defined in the Explanation to the section. It
includes use or intention to use:

(i) Forged or falsified documents such as false
invoice or, in general, a false piece of documentary evidence, or

(ii) Invoice in respect of supply or receipt of goods
or services or both issued by the person or any other person without actual
supply or receipt of such goods or services or both, or

(iii) Invoice in respect of supply or receipt of
goods or services or both to or from a person who does not exist.

15.2 Section
271K: This is a new section which comes into force on 1^st June,
2020. Under this section the A.O. is given power to levy penalty of Rs. 10,000
(minimum) which may extend to Rs. 1 lakh (maximum) for non-compliance of
requirements to (i) file required statements in time, or (ii) furnish
certificate to the donors as required under sections 35(1)(ii)(iia), or (iii),
35(1A)(ii), 80G(5)(viii) or (ix).

15.3 Section
274: This section has been amended from 1^st April, 2020 to
provide for a scheme for conducting penalty proceedings on lines similar to the
E-assessment Scheme. By this amendment, the Central Government is authorised to
notify a scheme for the purpose of imposing penalty so as to impart greater
efficiency, transparency and accountability. This scheme will provide for:

(i) Elimination of
interface between the A.O. and the assessee in the course of proceedings to the
extent technologically feasible,

(ii) Optimisation
of utilisation of resources through economies of scale and functional
specialisation,

(iii) Introduction
of mechanism of imposing penalty with dynamic jurisdiction in which penalty
shall be imposed by one or more Income-tax authorities.

Further, the
Central Government is also empowered to issue Notification directing that any
of the provisions of the Act relating to jurisdiction and procedure for
imposing penalty shall not apply or shall apply with such exceptions,
modifications or adaptations as may be specified in the Notification. Such
Notification can be issued on or before 31^st March, 2022.

16. OTHER AMENDMENTS

16.1 Section
115UA: This section deals with taxation of income of unit holders of
Business Trust. Section 115UA(3) is amended from A.Y. 2021-22 (F.Y. 2020-21) to
provide that the distributed income in the nature of interest, dividends and
rent shall be deemed to be income of the unit holder and shall be charged to
tax. Consequential amendments are made in section 194LBA to provide for
deduction of tax at source on such distributed income.

16.2 Section
133A: At present, the power to survey u/s 133A(1) can be exercised with the
approval of Joint Commissioner or Joint Director. This section is amended from
1^st April, 2020 and it is provided as under:

(i) Where the
information is received from the authority to be prescribed by the Rules, the
survey shall not be undertaken by Assistant Director, Deputy Director,
Assessing Officer, T.R.O. or an Inspector without obtaining approval of the
Joint Commissioner or Joint Director.

(ii) In any other
case, no survey can be conducted by the Joint Director, Joint Commissioner,
Assistant Director, Deputy Director, Assessing Officer, T.R.O. or Inspector
without the approval of the Director or Commissioner of Income-tax.

16.3 Section
143: Sections 143(3A) and (3B) deal with the E-Assessment Scheme for
assessment u/s 143(3). By amendment of this section from 1^st April,
2020 it is now provided that the E-Assessment Scheme shall also apply to ex
parte assessment u/s 144. Further, the time limit for issue of any
notification giving direction that any of the provisions of the Income-tax Act
relating to assessment of total income or loss shall not apply or shall apply
with such exceptions, modifications or adaptations as may be specified, has
been extended from 31^st March, 2020 to 31^st March, 2022.

16.4 Section
144C: This section deals with the Dispute Resolution Panel (DRP). At
present, the provision for sending draft assessment order by the A.O. to the
assessee applied only if the A.O. proposed variation in the income or loss
returned by the assessee. By amendment of this provision from 1^st
April, 2020 it is now provided that the A.O. will have to send the draft
assessment order to the assessee even if the A.O. proposes to make any
variation which is prejudicial to the interest of the assessee. Further, at
present the provisions of this section apply in the case of (i) an assessee in
whose case transfer pricing adjustments are proposed by an order passed by
T.P.O. and (ii) a foreign company. With effect from 1^st April, 2020,
this section will also apply in cases of all non-residents.

16.5 Section
234G: This is a new section inserted in the Income-tax Act from 1^st
June, 2020. It provides for levy of a fee for failure under sections (a)
35(1)(ii), (iia) or (iii), (b) 35(1A)(ii), (c) 80G(5)(viii), and (d) 80G(5)(ix)
to file statements or issue certificates to donors under these sections. This
fee is Rs. 200 per day during which the failure continues. However, such fine
shall not exceed the amount in respect of which the above failure has occurred.
This fee is payable before filing the statement or issuing the certificate
required under the above sections after the due date. As stated earlier, these
statements relate to particulars of donors to be filed with the tax authorities
and the certificates to be issued to donors. It may be noted that no appeal is
provided against the levy of this fee if the delay in filing statements or
issue of certificates is for reasonable cause.

16.6 Sections
203AA and 285BB: Section 203AA required the Income-tax authority to prepare
and deliver to the assessee a statement in Form 26AS giving details of TDS, TCS
and taxes paid. This section is deleted from 1^st June, 2020 and a
new section 285BB is inserted in the Act from the said date. This new section
provides that the prescribed Income-tax authority shall upload in the
registered account of the assessee an Annual Information Statement in the
prescribed form and within the prescribed time. This statement will include
information about taxes paid, TDS, TCS, sale / purchase transactions of
immovable properties, share transactions, etc., which are reported to the tax
authorities under various provisions.

16.7 Section
288: This section gives a list of persons who can appear before the
Income-tax authorities and Appellate Authorities as authorised representatives.
This section is amended from 1^st April, 2020 to authorise CBDT to
prescribe, by Rules, any other person who can appear as an authorised
representative.

17. TAXPAYER’S CHARTER

At present there is no provision under the Income-tax Act providing for
declaration of a Taxpayer’s Charter. A new section 119A has been inserted in
the Act from 1^st April, 2020 which provides that CBDT shall adopt
and declare a Taxpayer’s Charter and issue such orders, instructions, directions
and guidelines to the Income-tax Authorities for administration of such
Charter. This Charter may explain the Rights and Duties of taxpayers. Let us
hope that the Income-tax Authorities respect the rights of taxpayers in the
true spirit in which the Charter is to be issued by CBDT.

18. ‘VIVAD SE VISHWAS’ SCHEME

Parliament passed
‘The Direct Tax Vivad Se Vishwas Act, 2020’ in March, 2020. Certain
amendments are made in the Act by ‘The Taxation and Other Laws (Relaxation of
Certain Provisions) Ordinance, 2020’ promulgated by the President on 31^st
March, 2020. This Scheme has been introduced with a view to reduce litigation
in Direct Tax cases pending before various appellate authorities. The assessees
can avail the benefit of this Scheme by paying the disputed tax and getting
waiver of penalty, interest and late filing fee.

19. TO SUM UP

(i) From the above
analysis of the provisions of the Finance Act, 2020, the existing complex
Income-tax Act has been made more complex. Many provisions are added in the Act
which have increased the compliance burden of the taxpayers. The assessees and
their tax advisers will have to be more vigilant to ensure compliance with
these provisions and to meet the time limits provided for their compliance.

(ii) In last year’s
Budget, rates of Income-tax for certain domestic companies were reduced on the
condition that they forgo certain deductions and tax incentives. The scope of
deductions to be forgone has been widened and such companies will not be able
to claim deductions under all sections of chapter VIA, excluding sections
80JJAA and 80M. Similar benefit is now given to Individuals, HUFs and
Co-operative Societies who will pay lower tax if they opt to forgo various
deductions and tax incentives. Considering the list of deductions and
incentives to be forgone, it is possible that very few assessees will exercise
the option for lower rate of tax.

(iii) Dividend
Distribution Tax, hitherto levied on companies for over two decades, has now
been removed. Now, dividend on shares and income distribution on units of
Mutual Funds will be taxed in the hands of the share / unit holders. This is
one of the major steps taken in this Budget. This change will bring many
persons within the tax net as the exemption enjoyed by them so far has been
withdrawn.

(iv) By several
amendments made in the provisions relating to exemption granted to Charitable
Trusts, Educational Institutions and Hospitals, the compliance burden of such
institutions will increase. These amendments made in the Income-tax Act are
unfair.
When the Government is propagating for ease of doing business and ease of
living, it has made the life of Trustees of such Trusts more difficult. With
these new provisions, there will no ease of doing charities. In particular,
these provisions will make the life of Trustees of small trusts difficult. The
provisions for renewing registration of trusts every five years, renewing
section 80G
certificates every five years, filing particulars of donors every year and
issuing certificates to donors are time-consuming. Further, any delay in
compliance with these provisions will invite late filing fees and penalty. If
the Government wanted to keep track of the activities of such trusts, these
provisions could have been made applicable to Trusts having net worth exceeding
Rs. 5 crores or those who receive donations of more than Rs. 1 crore every
year.

(v) Several
amendments are made in the provisions relating to Tax Deduction and Tax
Collection at Source. Now, tax is required to be collected from persons
remitting foreign exchange under the LRS Scheme. The scope of the provisions
for TDS / TCS is now widened and, in some cases, tax will be collected at
source even on items which do not constitute income of the deductee.

(vi) Amendments
relating to residential status will bring some of the persons who could avoid
tax by planning their visits to India every year under the tax net. Now, many
persons will find it difficult to avoid tax liability in India.

(vii) The new
section 271AAD providing for 100% penalty for an alleged false entry or
omission of any entry is a harsh provision. This will raise many issues of
interpretation. This will create hardship to the assessees where arbitrary
addition is made by the tax authorities and penalties are levied under this
section. An incidental question arises whether this provision is retrospective
or applies to accounting entries relating to transactions entered into on or
after 1^st April, 2020.

(viii) One welcome feature of this year’s Budget is statutory
recognition of a ‘Taxpayer’s Charter”. CBDT has to prescribe the Rules for this
Charter which will declare the rights and duties of a taxpayer. Let us hope
that CBDT provides a comprehensive document when this Chapter is announced and
that the Income-tax Authorities respect the rights of taxpayers in the letter
and spirit of this document.

(ix) Another
welcome feature of this year’s Budget is the enactment of the Direct Tax Vivad
Se Vishwas Act. The objective of this Act is to reduce Direct Tax
litigation pending before the Appellate Authorities. Considering the liberal
provisions of this Act, it is possible that many assessees will avail the
benefit of this scheme for settlement of many pending tax disputes.

(x) This year’s
Finance Bill was introduced in both the Houses of Parliament on 1^st
February, 2020. The various provisions of the Bill were not discussed in Parliament.
More than 125 amendments to the original Bill were moved by the Finance
Minister on 23^rd March, 2020 and the Bill with the amendments was
passed by both Houses of the Parliament without any
discussion due to Covid-2019 which affected India and the entire world. Some of
the harsh provisions in the Finance Act, 2020, as pointed out above, have not
undergone legislative scrutiny. It is possible that these harsh provisions are
removed or suitably modified in the days to come.

(Like many
committed authors of the BCA Journal, Shri P.N. Shah has been authoring
an article on the Finance Act for as long as I can remember. This year due to
Covid-19 and non-availability of staff, we have received it much later than we
would have liked. The article summarises key direct tax provisions [except
co-operative societies, rate reduction of specified companies, taxation of
non-residents and provisions relating to DTAA and transfer pricing which we
couldn’t carry due to space constraints] and serves as a summary analysis of
the key changes – Editor)

shailesh.kwebmaker

Glimpses Of Supreme Court Ruilings

14. Yum! Restaurants (Marketing) Private Limited vs.
Commissioner of Income Tax, Delhi

Date of order: 24^th April, 2020

Doctrine of mutuality – Applicability of – The
receipt of money from an outside entity without affording it the right to have
a share in the surplus does not only subjugate the first test of common
identity, but also contravenes the other two conditions for the existence of
mutuality, i.e., impossibility of profits and obedience to the mandate – There
is a fine line of distinction between absence of obligation and presence of
overriding discretion – An arrangement wherein one member is subjected to the
absolute discretion of another, in such a manner that the entire liability may
fall upon one whereas benefits are reaped by all, is antithetical to the mutual
character in the eyes of law – The raison d’être behind the refund of
surplus to the contributors or mandatory utilisation of the same in the
subsequent assessment year is to reduce their burden of contribution in the
next year proportionate to the surplus remaining from the previous year –
Non-fulfilment of this condition is antithetical to the test of mutuality

The
appellant company Yum! Restaurants (Marketing) Private Limited (‘YRMPL’ or
‘assessee company’ or ‘assessee’) was incorporated by Yum! Restaurants (India)
Pvt. Ltd. (‘YRIPL’), formerly known as Tricon Restaurants India Pvt. Ltd., as
its fully-owned subsidiary for undertaking the activities relating to
advertising, marketing and promotion (‘AMP activities’) for and on behalf of
YRIPL and its franchisees after having obtained approval from the Secretariat
for Industrial Assistance (‘SIA’) for the purpose of economisation of the cost
of advertising and promotion of the franchisees as per their needs. The
approval was granted subject to certain conditions as regards the functioning
of the assessee whereby it was obligated to operate on a non-profit basis on
the principles of mutuality.

In
furtherance of the approval, the assessee entered into a tripartite operating
agreement (the ‘tripartite agreement’) with YRIPL and its franchisees, wherein
the assessee company received fixed contributions to the extent of 5% of gross
sales for the proper conduct of the AMP activities for the mutual benefit of
the parent company and the franchisees.

For the
assessment year 2001-02, the assessee filed its return stating the income to be
Nil under the pretext of the mutual character of the company. The same was not accepted by the A.O.
who observed that the assessee company along with the franchisees was to
contribute a fixed percentage of its revenue to YRMPL. However, as per the
tripartite agreement submitted by YRMPL, YRIPL had the sole absolute discretion
to pay to YRMPL any amount as it may deem appropriate and that YRIPL had no
obligation to pay any amount if it chooses not to do so. YRIPL was under no
legal obligation to pay any amount of contribution as per its own version
reflected from the tripartite agreement. The A.O. determined the total income
at Rs. 44,44,002, being the excess of income over expenditure for A.Y. 2001-02.

The
imposition of liability by the A.O. was upheld by the CIT(A) on the ground of taint
of commerciality in the activities undertaken by the assessee company.

The
liability was further confirmed by the Tribunal, wherein the essential
ingredients of the doctrine of mutuality were found to be missing. The Tribunal
inter alia found that apart from others, contributions were also
received from M/s Pepsi Foods Ltd. and YRIPL. Pepsi Foods Ltd. was neither a
franchisee nor a beneficiary. Similarly, some contribution was also received
from YRIPL who was not under any obligation to pay. Thus, the essential
requirement, that the contributors to the common fund are either to participate
in the surplus or they are beneficiaries of the contribution, was missing.
Through the common AMP activities no benefit accrued to Pepsi Foods Ltd. or
YRIPL. Accordingly, the principles of mutuality could not be applied.

The
consistent line of opinion recorded by the aforementioned three forums was
further approved in appeal by the High Court.

According
to the Supreme Court, the following questions of law arose in the present case:

(i)
Whether the assessee company would qualify as a mutual concern in the eyes of
law, thereby exempting subject transactions from tax liability?

(ii)
Whether the excess of income over expenditure in the hands of the assessee
company is not taxable?

The
assessee had contended before the Supreme Court that the sole objective of the
assessee company was to carry on the earmarked activities on a no-profit basis
and to operate strictly for the benefit of the contributors to the mutual
concern. It was further contended that the assessee company levied no charge on
the franchisees for carrying out the operations. While assailing the
observations made in the impugned judgment, holding that Pepsi Foods Ltd. and
YRIPL were not beneficiaries of the concern, the assessee company had urged
that YRIPL was the parent company of the assessee and earned a fixed percentage
from the franchisees by way of royalty. Therefore, it benefited directly from
enhanced sales as increased sales would translate into increased royalties. A
similar argument had been advanced as regards Pepsi Foods Ltd. It was stated
that under a marketing agreement the franchisees were bound to serve Pepsi
drinks at their outlets and, thus, an increase in the sales at KFC and Pizza
Hut outlets as a result of AMP activities would lead to a corresponding
increase in the sales of Pepsi. It was pointed out that Pepsi was also
advertised by the franchisees in their advertising and promotional material,
along with Pizza Hut and KFC.

As
regards the doctrine of mutuality, it was urged by the assessee company that
the doctrine merely requires an identity between the contributors and
beneficiaries and it does not contemplate that each member should contribute to
the common fund or that the benefits must be derived by the beneficiaries in
the same manner or to the same extent. Reliance had been placed by the
appellant upon reported decisions to draw a parallel between the functioning of
the assessee company and clubs to support the presence of mutuality.

The
Revenue / respondent had countered the submissions made by the assessee company
by submitting that the moment a non-member joins the common pool of funds created
for the benefit of the contributors, the taint of commerciality begins and
mutuality ceases to exist in the eyes of law. It had been submitted that the
assessee company operated in contravention of the SIA approval as contributions
were received from Pepsi, despite it not being a member of the brand fund. It
was urged that once the basic purpose of benefiting the actual contributors was
lost, mutuality stands wiped out.

The
Supreme Court held that it was undisputed that Pepsi Foods Ltd. was a contributor
to the common pool of funds. However, it did not enjoy any right of
participation in the surplus or any right to receive back the surplus which was
a mandatory ingredient to sustain the principle of mutuality.

The
assessee company was realising money both from the members as well as
non-members in the course of the same activity carried on by it. The Supreme
Court noted that in Royal Western India Turf Club Ltd., AIR 1954 SC 85
it has categorically held such operations to be antithetical to mutuality.
Besides, the dictum in Bankipur Club (1997) 5 SCC 394 was apposite.

According
to the Supreme Court, the contention of the assessee company that Pepsi Foods
Ltd., in fact, did benefit from the mutual operations by virtue of its
exclusive contracts with the franchisees was tenuous, as the very basis of
mutuality was missing. Even if any remote or indirect benefit is being reaped
by Pepsi Foods Ltd., the same could not be said to be in lieu of
it being a member of the purported mutual concern and, therefore, could not be
used to fill the missing links in the chain of mutuality. The surplus of a
mutual operation was meant to be utilised by the members of the mutual concern
as members enjoy a proximate connection with the mutual operation. Non-members,
including Pepsi Foods Ltd., stood on a different footing and had no proximate
connection with the affairs of the mutual concern. The exclusive contract
between the franchisees and Pepsi Foods Ltd. stood on an independent footing
and YRIPL as well as the assessee company were not responsible for
implementation of the contract. As a result, the first limb of the
three-pronged test stood severed.

The
Supreme Court held that the receipt of money from an outside entity without
affording it the right to have a share in the surplus did not only subjugate
the first test of common identity, but also contravened the other two
conditions for the existence of mutuality, i.e., impossibility of profits and
obedience to the mandate. The mandate of the assessee company was laid down in
the SIA approval wherein the twin conditions of mutuality and non-profiteering
were envisioned as the sine qua non for the functioning of the assessee
company. The contributions made by Pepsi Foods Ltd. tainted the operations of
the assessee company with commerciality and concomitantly contravened the
prerequisites of mutuality and non-profiteering.

The
Court further held that YRIPL and the franchisees stand on two substantially
different footings. For, the franchisees are obligated to contribute a fixed
percentage for the conduct of AMP activities, whereas YRIPL is under no such
obligation in utter violation of the terms of the SIA approval. Moreover, even
upon request for the grant of funds by the assessee company, YRIPL is not bound
to accede to the request and enjoys a ‘sole and absolute’ discretion to decide
against such request. An arrangement wherein one member is subjected to the
absolute discretion of another, in such a manner that the entire liability may
fall upon one whereas benefits are reaped by all, is the antithesis to the
mutual character in the eyes of law.

According
to the Supreme Court, the contention advanced by the appellant that it is not
mandatory for every member of the mutual concern to contribute to the common
pool failed to advance the case of the appellant. The Court held that there is
a fine line of distinction between absence of obligation and presence of
overriding discretion. In the present case, YRIPL enjoyed the latter to the
detriment of the franchisees of the purported undertaking, both in matters of
contribution and of management. In a mutual concern, it is no doubt true that
an obligation to pay may or may not be there, but in the same breath it is
equally true that an overriding discretion of one member over others cannot be
sustained in order to preserve the real essence of mutuality wherein members
contribute for the mutual benefit of all and not of one at the cost of others.

The
Court observed that the settled legal position is that in order to qualify as a
mutual concern, the contributors to the common fund either acquire a right to
participate in the surplus or an entitlement to get back the remaining
proportion of their respective contributions. Contrary to the above stated
legal position, as per clause 8.4 the franchisees did not enjoy any
‘entitlement’ or ‘right’ on the surplus remaining after the operations were
carried out for a given assessment year. As per the aforesaid clause the
assessee company may refund the surplus subject to the approval of its Board of
Directors. It implied that the franchisees / contributors could not claim a
refund of their remaining amount as a matter of right. According to the Supreme
Court, the raison d’être behind the refund of surplus to the
contributors or mandatory utilisation of the same in the subsequent assessment
year is to reduce their burden of contribution in the next year proportionate
to the surplus remaining from the previous year. Thus, the fulfilment of this
condition is essential. In the present case, even if any surplus is remaining
in a given assessment year, it would not reduce the liability of the
franchisees in the following year as their liability to the extent of 5% was
fixed and non-negotiable, irrespective of whether any funds were surplus in the
previous year. The only entity that could derive any benefit from the surplus
funds was YRIPL, i.e., the parent company. This was antithetical to the test of
mutuality.

It was
observed that the dispensation predicated in the tripartite agreement may
result in a situation where YRIPL would not contribute even a single paisa to
the common pool and yet be able to derive profits in the form of royalties out
of the purported mutual operations, created from the fixed 5% contribution made
by the franchisees. This would be nothing short of derivation of gains /
profits out of inputs supplied by others. According to the Supreme Court, the
doctrine of mutuality, in principle, entails that there should not be any
profit-earning motive, either directly or indirectly. One of the tests of
mutuality requires that the purported mutual operations must be marked by an
impossibility of profits and this crucial test was also not fulfilled in the
present case.

The
Supreme Court further observed that the exemption granted to a mutual concern
is premised on the assumption that the concern is being run for the mutual
benefit of the contributors and the contributions made by the members ought to
be directed accordingly. Contrary to this fundamental tenet, the tripartite
agreement relieves the assessee company from any specific obligation of
spending the amounts received by way of contributions for the benefit of the contributors.
It explicates that the assessee company does not hold such amount under any
implied trust for the franchisees.

According
to the Supreme Court, the assessee company had acted in contravention of the
terms of approval.

The
appellant had urged before the Supreme Court that no fixed percentage of
contribution could be imputed upon YRIPL as it did not operate any restaurant
directly and, thus, the actual volume of sales could not be determined.
According to the Court this argument was not tenable as YRIPL received a fixed
percentage of royalty from the franchisees on the sales. If the franchisees
could be obligated with a fixed percentage of contribution, 5% in the present
case, there was no reason as to why the same obligation ought not to apply to
YRIPL.

The
Court further noted that the text of the tripartite agreement pointed towards
the true intent of the formation of the assessee company as a step-down subsidiary.
It was established to manage the retail restaurant business, the advertising,
media and promotion at the regional and national level of KFC, Pizza Hut and
other brands currently owned or to be acquired in future. In its true form, it
was not contemplated as a non-business concern because operations integral to
the functioning of a business were entrusted to it.

The
Supreme Court held that the doctrine of mutuality bestows a special status to
qualify for exemption from tax liability. The appellant having failed to fulfil
the stipulations and to prove the existence of mutuality, the question of
extending exemption from tax liability to the appellant, that, too at the cost
of the public exchequer, did not arise.

The
assessee company had relied upon reported decisions before the Supreme Court to
establish a parallel between the operations carried out by it and clubs.
According to the Supreme Court, all the members of the club not only have a
common identity in the concern but also stand on an equal footing in terms of
their rights and liabilities towards the club or the mutual undertaking. Such
clubs are a means of social intercourse and are not formed for the facilitation
of any commercial activity. On the contrary, the purported mutual concern in
the present case undertook a commercial venture wherein contributions were
accepted both from the members as well as from non-members. Moreover, one
member was vested with a myriad set of powers to control the functioning and
interests of other members (franchisees), even to their detriment. Such
assimilation could not be termed as a case of ordinary social intercourse
devoid of commerciality.

The
Supreme Court was of the view that once it had conclusively determined that the
assessee company had not operated as a mutual concern, there was no question of
extending exemption from tax liability.

To
support an alternative claim for exemption, the assessee company took a plea in
the written submissions that it was acting under a trust for the contributors
and was under an overriding obligation to spend the amounts received for
advertising, marketing and promotional activities. It urged that once the
incoming amount is earmarked for an obligation, it does not become ‘income’ in
the hands of the assessee as no occasion for the application of such income
arises.

The
Supreme Court left the question of diversion by overriding title open as the
same was neither framed nor agitated in the appeal memo before the High Court
or before it (except a brief mention in the written submissions), coupled with
the fact that neither the Tribunal nor the High Court had dealt with that plea
and that the rectification application raising that ground was pending before
the Tribunal.

15. Basir Ahmed
Sisodiya vs. The Income Tax Officer Date of order: 24^th
April, 2020

Cash credits – The
appellant / assessee, despite being given sufficient opportunity, failed to
prove the correctness and genuineness of his claim in respect of purchase of
marble from unregistered dealers to the extent of Rs. 2,26,000 and resultantly,
the said transactions were assumed as bogus entries (standing to the credit of
named dealers who were non-existent creditors of the assessee) – The appellant
/ assessee, however, in penalty proceedings had offered explanation and caused
to produce affidavits and record statements of the unregistered dealers
concerned and establish their credentials and that explanation having been
accepted by the CIT(A) who concluded that the materials on record would clearly
suggest that the unregistered dealers concerned had sold marble slabs on credit
to the appellant / assessee, as claimed – That being the indisputable position,
the Supreme Court deleted the addition of amount of Rs. 2,26,000

The appellant / assessee was served with a notice u/s
143(2) of the Income-tax Act, 1961 (the ‘1961 Act’) by the A.O. for the A.Y.
1998-99, pursuant to which an assessment order was passed on 30^th
November, 2000. The A.O., while relying on the balance sheet and the books of
accounts, inter alia took note of the credits amounting to Rs. 2,26,000.
He treated that amount as ‘cash credits’ u/s 68 of the 1961 Act and added the
same in the declared income of the assessee (the ‘second addition’). According
to the A.O., the credits of Rs. 2,26,000 shown in the names of 15 persons were
not correct and any correct proof / evidence had not been produced by the
assessee with respect to the income of the creditors and source of income. He
also made other additions to the returned income.

Aggrieved, the assessee preferred an appeal before the
Commissioner of Income Tax (Appeals), Jodhpur. The appeal was partly allowed vide
order dated 9^th January, 2003. However, as regards the trading
account and credits in question, the CIT(A) upheld the assessment order.

The
assessee then preferred a further appeal to the ITAT. Having noted the issues
and objections raised by the Department and the assessee, the ITAT partly
allowed the appeal vide order dated 4^th November, 2004.
However, the order relating to the second addition regarding the credits of Rs.
2,26,000 came to be upheld.

The
assessee then filed an appeal before the High Court u/s 260A of the 1961 Act.
The appeal was admitted on 27^th April, 2006 on the following
substantial question of law:

‘Whether
claim to purchase of goods by the assessee could be dealt with u/s 68 of the
Income-tax Act as a cash credit, by placing burden upon the assessee to explain
that the purchase price does not represent his income from the disclosed
sources?’

The High
Court dismissed the appeal vide impugned judgment and order dated 21^st
August, 2008 as being devoid of merits. The High Court opined that the amount
shown to be standing to the credit of the persons which had been added to the
income of the assessee, was clearly a bogus entry in the sense that it was only
purportedly shown to be the amount standing to the credit of the fifteen
persons, purportedly on account of the assessee having purchased goods on
credit from them, while since no goods were purchased, the amount did represent
income of the assessee from undisclosed sources which the assessee had only
brought on record (books of accounts), by showing to be the amount belonging to
the purported sellers and as the liability of the assessee. That being the
position, the contention about impermissibility of making addition under this
head, in view of addition of Rs. 10,000 having been made in trading account,
rejecting the books of accounts for the purpose of assessing the gross profit,
could not be accepted. The gross profit shown in the books had not been
accepted on the ground that the assessee had not maintained day-to-day stock
registers, nor had he produced or maintained other necessary vouchers, but
then, if those books of accounts did disclose certain other assets which were
wrongly shown to be liabilities, and for acquisition of which the assessee did
not show the source, it could not be said that the A.O. was not entitled to use
the books of accounts for this purpose.

The
assessee in the civil appeal before the Supreme Court reiterated the argument
that the A.O., having made the addition u/s 144 of the 1961 Act being ‘best
judgment assessment’, had invoked powers under sub-section (3) of section 145.
For, assessment u/s 144 is done only if the books are rejected. In that case,
the same books could not be relied upon to impose subsequent additions as had
been done in this case u/s 68.

The
assessee filed an I.A. No. 57442/2011 before the Supreme Court for permission
to bring on record subsequent events. By this application, the assessee placed
on record an order passed by the CIT(A) dated 13^th January, 2011
which considered the challenge to the order passed by the Income-Tax Officer
(ITO) u/s 271(1)(c) dated 17^th November, 2006 qua the
assessee for the self-same assessment year 1998-99. The ITO had passed the said
order as a consequence of the conclusion reached in the assessment order which
had by then become final up to the stage of ITAT vide order dated 27^thApril, 2006 – to the effect that the stated purchases by the assessee
from unregistered dealers were bogus entries effected by him. As a result,
penalty proceedings u/s 271 were initiated by the ITO. That order was set aside
by the appellate authority [CIT(A)] in the appeal preferred by the assessee, vide
order dated 13^th January, 2011 with a finding that the assessee
had not made any concealment of income or furnished inaccurate particulars of
income for the assessment year concerned. As a consequence of this decision of
the appellate authority, even the criminal proceedings initiated against the
assessee were dropped / terminated and the assessee stood acquitted of the
charges u/s 276(C)(D)(1)(2) of the 1961 Act vide judgment and order
dated 6^th June, 2011 passed by the Court of Additional Chief City
Magistrate (Economic Offence), Jodhpur City in proceedings No. 262/2005.

The
Supreme Court noted that during the course of appellate proceedings, the
appellant filed an application under Rule 46A vide letter dated 16^th
October, 2008 and the same was sent to the ITO, Ward-1, Makrana vide
this office letter dated 28^th January, 2009 and 1^st
December, 2010 to submit remand report after examination of additional
evidences. Along with the application under Rules 46A, the appellant filed
affidavits from 13 creditors, the Sales Tax Order for the Financial Year
1997-98 showing purchases from unregistered dealers to the tune of Rs.
2,28,900, cash vouchers duly signed on revenue stamp for receipt of payment by
the unregistered dealers and copy of ration card / Voter ID Card to show the
identity of the unregistered dealers. The A.O. recorded statements of 12
unregistered dealers out of 13. In the report dated 22^nd December,
2010, he mentioned that statements of the above 12 persons were recorded on 15^th
/ 16^th December, 2010 and in respect of identify the unregistered
dealers filed photo copies of their voter identity cards and all of them had
admitted that they had sold marble on credit basis to Basir Ahmed Sisodiya, the
appellant, during F.Y. 1997-98 and received payments after two or three years.
However, he observed that none of them had produced any evidence in support of
their statement since all were petty, unregistered dealers of marble and doing
small business and therefore no books of accounts were maintained. Some of them
had stated that they were maintaining small dairies at the relevant period of
time but they could not preserve the old dairies. Some of them had stated that
they had put their signature on the vouchers on the date of the transactions.

The
Supreme Court further noted that the CIT(A) had observed that in respect of the
addition of Rs. 2,26,000 there had been no denial of purchase of marble slabs
worth Rs. 4,78,900 and sale of goods worth Rs. 3,57,463 and disclosure of
closing stock of Rs. 2,92,490 in the trading account for the year ended on 31^st
March, 1998. Without purchases of marble, there could not have been sale and
disclosure of closing stock in the trading account which suggested that the
appellant must have purchased marble slabs from unregistered dealers. The
CIT(A) had found that the explanation given by the appellant in respect of
purchases from unregistered dealers and their genuineness were substantiated by
filing of affidavits and producing these before the A.O. in the course of
remand report, and the A.O. did not find anything objectionable in respect of
the identity of the unregistered dealers and claims made for the sale of marble
slabs to the appellant in the F.Y. relevant to A.Y. 1998-99.

The
Supreme Court observed that considering the findings and conclusions recorded
by the A.O. and which were commended to the appellate authority as well as the
High Court, it must follow that the assessee despite being given sufficient
opportunity, failed to prove the correctness and genuineness of his claim in
respect of purchase of marble from unregistered dealers to the extent of Rs.
2,26,000. As a result, the said transactions were assumed as bogus entries
(standing to the credit of named dealers who were non-existent creditors of the
assessee).

According
to the Supreme Court, the assessee, however, in penalty proceedings had offered
explanation and caused to produce affidavits and record statements of the
unregistered dealers concerned and establish their credentials and that
explanation having been accepted by the CIT(A) who concluded that the materials
on record would clearly suggest that the unregistered dealers concerned had
sold marble slabs on credit to the assessee, as claimed.

The
Supreme Court was therefore of the view that the factual basis on which the
A.O. formed his opinion in the assessment order dated 30^th November,
2000 (for A.Y. 1998-99) in regard to the addition of Rs. 2,26,000, stood
dispelled by the affidavits and statements of the unregistered dealers
concerned in penalty proceedings. That evidence fully supported the claim of
the assessee. The appellate authority vide order dated 13^th
January, 2011, had not only accepted the explanation offered but also recorded
a clear finding of fact that there was no concealment of income or furnishing
of any inaccurate particulars of income by the appellant / assessee for the
A.Y. 1998-99. That now being the indisputable position, it must necessarily
follow that the addition of the amount of Rs. 2,26,000 could not be justified,
much less maintained.

The
Supreme Court, therefore, allowed the appeal.

16. Union of India (UOI) and Ors. vs. U.A.E.
Exchange Centre Date of order: 24^th
April, 2020

India-UAE DTAA – Merely
having a fixed place of business through which the business of the assessee is
being wholly or partly carried on is not conclusive unless the assessee has a
PE situated in India, so as to attract Article 7 dealing with business profits
to become taxable in India, to the extent attributable to the PE of the
assessee in India – As per Article 5, which deals with and defines the
‘Permanent Establishment (PE)’, a fixed place of business through which the
business of an enterprise is wholly or partly carried on is to be regarded as a
PE and would include the specified places referred to in Clause 2 of Article 5,
but Article 5(3) of the DTAA which starts with a non obstante clause and
also contains a deeming provision predicates that notwithstanding the preceding
provisions of the Article concerned, which would mean clauses 1 and 2 of
Article 5, it would still not be a PE if any of the clauses in Article 5(3) are
applicable – No income as specified in section 2(24) of the 1961 Act was earned
by the liaison office of the respondent in India because the liaison office was
not a PE in terms of Article 5 of DTAA as it was only carrying on activity of a
preparatory or auxiliary character

The
respondent, a limited company incorporated in the United Arab Emirates (UAE)
was engaged in offering, among other things, remittance services for
transferring amounts from UAE to various places in India. It had applied for
permission u/s 29(1)(a) of the Foreign Exchange Regulation Act, 1973 (‘the 1973
Act’), pursuant to which approval was granted by the Reserve Bank of India (the
RBI) vide letter dated 24^th September, 1996.

The
respondent set up its first liaison office in Cochin, Kerala in January, 1997
and thereafter in Chennai, New Delhi, Mumbai and Jalandhar. The activities carried on by the respondent
from the said liaison offices were stated to be in conformity with the terms
and conditions prescribed by the RBI in its letter dated 24^th
September, 1996. The entire expenses of the liaison offices in India were met
exclusively out of funds received from the UAE through normal banking channels.
Its liaison offices undertook no activity of trading, commercial or industrial,
as the case may be. The respondent had no immovable property in India otherwise
than by way of lease for operating the liaison offices. No fee / commission was
charged or received in India by any of the liaison offices for services
rendered in India. It was claimed that no income accrued or arose or was deemed
to have accrued or arisen, directly or indirectly, through or from any source
in India from liaison offices within the meaning of section 5 or section 9 of
the Income-tax Act, 1961 (the 1961 Act). According to the respondent, the
remittance services were offered by it to non-resident Indians (NRIs) in the
UAE. The contract pursuant to which the funds were handed over by the NRI to
the respondent in the UAE was entered into between the respondent and the NRI
remitter in the UAE. The funds were collected from the remitter by charging a
one-time fee of Dirhams 15. After collecting the funds from the NRI remitter,
the respondent made an electronic remittance of the funds on behalf of its
customer in one of two ways:

(i) By telegraphic transfer through bank
channels; or

(ii) On
the request of the NRI remitter, the respondent sent an instrument / cheque
through its liaison offices to the beneficiaries designated by the NRI
remitter.

In
compliance with section 139 of the ITA, 1961, the respondent had been filing
its returns of income from the A.Y. 1998-99 and until 2003-04, showing Nil
income, as according to the respondent no income had accrued or was deemed to
have accrued to it in India, both under the 1961 Act as well as the agreement
entered into between the Government of the Republic of India and the Government
of the UAE, which is known as the Double Taxation Avoidance Agreement (‘DTAA’).
This agreement (DTAA) had been entered into between the two sovereign countries
in exercise of powers u/s 90 of the 1961 Act for the purpose of avoidance of
double taxation and prevention of fiscal evasion with respect to taxes and
income on capital. The DTAA had been notified vide notification No. GSR
No. 710(E) dated 18^th November, 1993. The returns were filed on a
regular basis by the respondent and were accepted by the Department without any
demur.

However,
as some doubt was entertained, the respondent filed an application u/s 245Q(1)
before the Authority for Advance Rulings (Income Tax), New Delhi, which was
numbered as AAR No. 608/2003 and sought ruling of the Authority on the
following question:

‘Whether
any income is accrued / deemed to be accrued in India from the activities
carried out by the Company in India?’

The
Authority vide its ruling dated 26^th May, 2004 answered the
question in the affirmative, saying, ‘Income shall be deemed to accrue in India
from the activity carried out by the liaison offices of the applicant in
India.’ In so holding, the Authority opined that in view of the deeming
provision in sections 2(24), 4 and 5 read with section 9 of the 1961 Act, the
respondent-assessee would be liable to pay tax under the 1961 Act as it had
carried on business in India through a ‘permanent establishment’ (PE) situated
in India and the profits of the enterprise needed to be taxed in India, but
only that proportion that was attributable to the liaison offices in India (the
PE).

The
Authority held that the applicant had liaison offices in India which attended
to the complaints of the clients in cases where remittances were sent directly
to banks in India from the UAE. In addition, in cases where the applicant had
to remit the amounts to the beneficiaries in India as per the directions of the
NRIs, the liaison offices downloaded the information from the internet, printed
cheques / drafts in the name of the beneficiaries in India and sent them
through couriers to various places in India. Without the latter activity, the
transaction of remittance of the amounts in terms of the contract with the NRIs
would not be complete. The commission which the applicant received for
remitting the amount covered not only the business activities carried on in the
UAE but also the activity of remittance of the amount to the beneficiary in
India by cheques / drafts through courier which was being attended to by the
liaison offices.

There
was, therefore, a real relation between the business carried on by the
applicant for which it received commission in the UAE and the activities of the
liaison offices (downloading of information, printing and preparation of
cheques / drafts and sending the same to the beneficiaries in India), which
contributed directly or indirectly to the earning of income by the applicant by
way of commission. There was also continuity between the business of the
applicant in the UAE and the activities carried on by the liaison offices in
India. Therefore, it followed that income had deemed to have accrued / arisen
to the applicant in the UAE from ‘business connection’ in India.

The
Authority further held that insofar as the amount was remitted telegraphically
by transferring directly from the UAE through bank channels to various places
in India and in such remittances the liaison offices had no role to play except
attending to the complaints, if any, in India regarding the remittances in
cases of fraud etc., it could be said to be auxiliary in character. However,
downloading the data, preparing cheques for remitting the amount and
dispatching the same through courier by the liaison offices was an important
part of the main work itself because without remitting the amount to the
beneficiaries as desired by the NRIs, performance of the contract would not be
complete. It was a significant part of the main work of the UAE establishment.
It, therefore, followed that the liaison offices of the applicant in India for
the purposes of this mode of remittance were a ‘permanent establishment’ within
the meaning of the expression in the DTAA.

Following
the impugned ruling of the Authority, dated 26^th May, 2004, the
Department issued four notices of even date, i.e., 19^th July, 2004
u/s 148 of the 1961 Act addressed to the respondent and pertaining to A.Y.s
2000-01, 2001-02, 2002-03 and 2003-04, respectively. The respondent approached
the Delhi High Court by way of Writ Petition No. 14869/2004, inter alia
for quashing of the ruling of the Authority dated 26^th May, 2004,
quashing of the stated notices and for a direction to the appellants not to tax
the respondent in India because no income had accrued to it or was deemed to
have accrued to it in India from the activities of its liaison offices in
India.

The High
Court was of the opinion that the Authority proceeded on a wrong premise by
first examining the efficacy of section 5(2)(b) and section 9(1)(i) of the 1961
Act instead of applying the provisions in Articles 5 and 7 of the DTAA for
ascertaining the respondent’s liability to tax. Further, the nature of
activities carried on by the respondent-assessee in the liaison offices being
only of a preparatory and auxiliary character, were clearly excluded by virtue
of the deeming provision. The High Court distinguished the decisions relied
upon by the Authority in Anglo-French Textile Co. Ltd., by
agents, M/s. Best & Company Ltd., Madras vs. Commissioner of Income
Tax, Madras AIR 1953 SC 105 and R.D. Aggarwal & Company
(Supra). The ratio in these decisions, according to the High
Court, was that the non-resident entity could be taxed only if there was a
business connection between the business carried on by a non-resident which
yields profits or gains and some activity in the taxable territory which
contributes directly or indirectly to the earning of those profits or gains.

The High
Court then concluded that the activity carried on by the liaison offices of the
respondent in India did not in any manner contribute directly or indirectly to the
earning of profits or gains by the respondent in the UAE and every aspect of
the transaction was concluded in the UAE, whereas the activity performed by the
liaison offices in India was only supportive of the transaction carried on in
the UAE. The High Court also took note of Explanation 2 to section 9(1)(i) and
observed that the same reinforces the fact that in order to have a business
connection in respect of a business activity carried on by a non-resident
through a person situated in India, it should involve more than what is
supportive or subsidiary to the main function referred to in clauses (a) to
(c). The High Court eventually quashed the impugned ruling of the Authority and
also the notices issued by the Department u/s 148 of the 1961 Act, since the
notices were based on the ruling which was being set aside. The High Court,
however, gave liberty to the appellants to proceed against the respondent on
any other ground as may be permissible in law.

Feeling
aggrieved, the Department filed a Special Leave Petition before the Supreme
Court.

According
to the Supreme Court, the core issue that was required to be answered in the
appeal was whether the stated activities of the respondent-assessee would
qualify the expression ‘of preparatory or auxiliary character’?

The
Supreme Court observed that having regard to the nature of the activities
carried on by the respondent-assessee, as held by the Authority, it would
appear that the respondent was engaged in ‘business’ and had ‘business
connections’ for which, by virtue of the deeming provision and the sweep of
sections 2(24), 4 and 5 read with section 9 of the 1961 Act, including the
exposition in Anglo-French Textile Co. Ltd. (Supra) and R.D.
Aggarwal & Company (Supra), it would be a case of income deemed to
accrue or arise in India to the respondent. However, in the present case, the
matter in issue would have to be answered on the basis of the stipulations in
the DTAA notified in exercise of the powers conferred u/s 90 of the 1961 Act.

Keeping
in view the finding recorded by the High Court, the Supreme Court proceeded on
the basis that the respondent-assessee had a fixed place of business through
which its business was being wholly or partly carried on. That, however, would
not be conclusive until a further finding is recorded that the respondent had a
PE situated in India so as to attract Article 7 dealing with business profits
to become taxable in India, to the extent attributable to the PE of the
respondent in India. For that, one has to revert back to Article 5 which deals
with and defines the ‘Permanent Establishment (PE)’. A fixed place of business
through which the business of an enterprise is wholly or partly carried on is
regarded as a PE. The term ‘Permanent Establishment (PE)’ would include the specified
places referred to in clause 2 of Article 5. According to the Supreme Court, it
was not in dispute that the place from where the activities were carried on by
the respondent in India was a liaison office and would, therefore, be covered
by the term PE in Article 5(2). However, Article 5(3) of the DTAA opens with a non
obstante clause and also contains a deeming provision. It predicates that
notwithstanding the preceding provisions of the Article concerned, which would
mean clauses 1 and 2 of Article 5, it would still not be a PE if any of the
clauses in Article 5(3) are applicable. For that, the functional test regarding
the activity in question would be essential. The High Court had opined that the
respondent was carrying on stated activities in the fixed place of business in
India of a preparatory or auxiliary character.

The
Supreme Court, after noting the meaning of the expression ‘business’ in section
2(13) of the 1961 Act, discerning the meaning of the expressions ‘business
connection’ and ‘business activity’ from section 9(1) of the 1961 Act and the
dictionary meaning of the expressions ‘preparatory’ and ‘auxiliary’, concluded
that since the stated activities of the liaison offices of the respondent in
India were of preparatory or auxiliary character, the same would fall within
the excepted category under Article 5(3)(e) of the DTAA. As a result, it could
not be regarded as a PE within the sweep of Article 7 of the DTAA.

According
to the Supreme Court, while answering the question as to whether the activity
in question could be termed as other than that ‘of preparatory or auxiliary
character’, it was to be noted that the RBI had given limited permission to the
respondent u/s 29(1)(a) of the 1973 Act on 24^th September, 1996.
From paragraph 2 of the stated permission it was evident that the RBI had
agreed for establishing a liaison office of the respondent at Cochin, initially
for a period of three years, to enable the respondent to (i) respond quickly
and economically to inquiries from correspondent banks with regard to suspected
fraudulent drafts; (ii) undertake reconciliation of bank accounts held in
India; (iii) act as a communication centre receiving computer (via modem)
advices of mail transfer T.T. stop payments messages, payment details, etc.,
originating from the respondent’s several branches in the UAE and transmitting
to its Indian correspondent banks; (iv) printing Indian Rupee drafts with a
facsimile signature from the Head Office and counter signature by the
authorised signatory of the office at Cochin; and (v) following up with the
Indian correspondent banks. These were the limited activities which the
respondent had been permitted to carry on within India. This permission did not
allow the respondent-assessee to enter into a contract with anyone in India but
only to provide service of delivery of cheques / drafts drawn on the banks in
India.

The
permitted activities were required to be carried out by the respondent subject
to conditions specified in Clause 3 of the permission, which included not to
render any consultancy or any other service, directly or indirectly, with or
without any consideration and further that the liaison office in India shall
not borrow or lend any money from or to any person in India without prior
permission of the RBI. The conditions made it amply clear that the office in
India would not undertake any other activity of trading, commercial or
industrial, nor shall it enter into any business contracts in its own name
without prior permission of the RBI. The liaison office of the respondent in
India could not even charge commission / fee or receive any remuneration or
income in respect of the activities undertaken by it in India. From the onerous
stipulations specified by the RBI, it could be safely concluded, as opined by
the High Court, that the activities in question of the liaison office(s) of the
respondent in India were circumscribed by the permission given by the RBI and
were in the nature of preparatory or auxiliary character. That finding reached
by the High Court was unexceptionable.

The
Supreme Court concluded that the respondent was not carrying on any business
activity in India as such, but only dispensing with the remittances by
downloading information from the main server of the respondent in the UAE and
printing cheques / drafts drawn on the banks in India as per the instructions
given by the NRI remitters in the UAE. The transaction(s) had been completed
with the remitters in the UAE, and no charges towards fee / commission could be
collected by the liaison office in India in that regard. To put it differently,
no income as specified in section 2(24) of the 1961 Act was earned by the
liaison office in India and more so because the liaison office was not a PE in
terms of Article 5 of the DTAA (as it was only carrying on activity of a
preparatory or auxiliary character).

The
concomitant was that no tax could be levied or collected from the liaison
office of the respondent in India in respect of the primary business activities
consummated by the respondent in the UAE. The activities carried on by the
liaison office in India as permitted by the RBI clearly demonstrated that the
respondent must steer away from engaging in any primary business activity and
in establishing any business connection as such. It could carry on activities
of preparatory or auxiliary nature only. In that case, the deeming provisions
in sections 5 and 9 of the 1961 Act could have no bearing whatsoever.

The Supreme
Court dismissed the appeal with no order as to costs.

shailesh.kwebmaker

Settlement of cases – Sections 245C(1) and 245D(4) of ITA, 1961 – Powers and duties of Settlement Commission – Application for settlement – Duty of Commission either to reject or proceed with application filed by assessee – Settlement Commission relegating assessee to A.O. – Not proper; A.Ys. 2008-09 to 2014-15

50. Samdariya Builders Pvt. Ltd. vs. IT Settlement Commission [2020] 423
ITR 203 (MP) Date of order: 7^th May, 2019 A.Ys.: 2008-09 to 2014-15

Settlement of cases – Sections 245C(1) and 245D(4) of ITA, 1961 – Powers
and duties of Settlement Commission – Application for settlement – Duty of Commission
either to reject or proceed with application filed by assessee – Settlement
Commission relegating assessee to A.O. – Not proper; A.Ys. 2008-09 to 2014-15

The assessee was a part of a group of companies. Search and survey
operations under sections 132 and 133A of the Income-tax Act, 1961 were
conducted in the residential and business premises of the group, including
those of the assessee and some brokers. No incriminating material was found
against the assessee during the operations, but nine loose sheets of paper,
purportedly relating to the assessee, were seized from a broker. In compliance
with notices issued u/s 153A for the A.Ys. 2008-09 to 2013-14 and section
142(1) for the A.Y. 2014-15, the assessee filed returns of income. During the
assessment proceedings, the assessee filed an application u/s 245C(1) before
the Settlement Commission for settlement and the application was admitted u/s
245D(1) and was proceeded with by the Settlement Commission u/s 245D(2C).
Thereafter, the Principal Commissioner filed a report under Rule 9 of the
Income-tax Rules, 1962. The Settlement Commissioner, by his order u/s 245D(4)
relegated the assessee to the A.O. Hence, the A.O. issued a notice to the
assessee to comply with the earlier notice issued u/s 142(1).

The assessee filed a writ petition and challenged the order. The Madhya
Pradesh High Court allowed the writ petition and held as under:

‘i) The Settlement Commission’s power of settlement has to be exercised in
accordance with the provisions of the Income-tax Act, 1961. Though the
Commission has sufficient powers in assessing the income of the assessee, it
cannot make any order with a term of settlement which would be in conflict with
the mandatory provisions of the Act, such as in the quantum and payment of tax
and the interest. The object of the Legislature in introducing section 245C of
the Income-tax Act, 1961 is to see that protracted proceedings before the
authorities or in courts are avoided by resorting to settlement of cases.

ii) The Settlement Commission could have either rejected the application or
allowed it to be proceeded with further. If the Settlement Commission was of
the opinion that the matter required further inquiry, it could have directed
the Principal Commissioner or the Commissioner to inquire and submit the report
to the Commission to take a decision. The Commission could not get around the
application for settlement. When a duty was cast on the Commission, it is
expected that the Commission would perform the duty in the manner laid down in
the Act, especially when no further remedy is provided in the Act against the
order of the Settlement Commission. The order of the Settlement Commission
relegating the assessee to the A.O. was to be set aside.’

shailesh.kwebmaker

Offences and prosecution – Sections 271(1)(c), 276C(2), 278B(3) of ITA, 1961 and Section 391 of Cr.P.C., 1973 – Wilful default in payment of penalty for concealment of income – Conviction of managing director and executive director of assessee by judicial magistrate – Appeal – Evidence – Documents to prove there was no wilful default left out to be marked due to inefficiency and inadvertence – Interest of justice – Appellate court has power to allow documents to be let in as additional evidence; A.Y. 2012-13

49. Gangothri Textiles Ltd. vs. ACIT [2020] 423 ITR 382 (Mad.) Date of
order: 20^th November, 2019 A.Y.: 2012-13

Offences
and prosecution – Sections 271(1)(c), 276C(2), 278B(3) of ITA, 1961 and Section
391 of Cr.P.C., 1973 – Wilful default in payment of penalty for concealment of
income – Conviction of managing director and executive director of assessee by
judicial magistrate – Appeal – Evidence – Documents to prove there was no
wilful default left out to be marked due to inefficiency and inadvertence –
Interest of justice – Appellate court has power to allow documents to be let in
as additional evidence; A.Y. 2012-13

The assessee company was a textile manufacturer. It
was represented by its managing director and executive director. The Assistant
Commissioner of Income-tax filed a complaint before the Judicial Magistrate u/s
200 and 190(1) of the Code of Criminal Procedure, 1973 against the petitioners
for offences u/s 276C(2) read with section 278B(3) of the Income-tax Act, 1961
for the A.Y. 2012-13 for wilful default in payment of penalty levied u/s
271(1)(c) of the IT Act.

The petitioners filed revision petitions and
contended that the trial court had failed to take into consideration the
necessity and requirement for marking the documents adduced by way of
additional evidence. The Madras High Court allowed the revision petition and
held as under:

‘i) Where documents of evidence are left out to be
marked due to carelessness and ignorance, they can be allowed to be marked for
elucidation of truth, in the interests of justice, by exercising powers u/s 391
of the Code of Criminal Procedure, 1973. The intention of section 391 of the
Code is to empower the appellate court to see that justice is done between the
prosecutor and the prosecuted in the interests of justice.

ii) According to section 391
of the Code, if the appellate court opined that additional evidence was
necessary, it shall record its reasons and take such evidence itself. The
petitioners had been charged u/s 276C(2) read with section 278B(3) of the Act
for having wilfully failed to pay the penalty and having deliberately failed to
admit the capital gains that arose from the sale transactions done by the
assessee. The criminal revision petition u/s 391 of the Code had been filed by
the petitioners even at the time of presentation of the appeal. The documents
sought to be marked as additional evidence were not new documents and they were
documents relating to filing of returns with the Department in respect of the
earlier assessment years, copies of which were also available with the
Department. By marking these documents, the nature or course of the case would
not be altered. The documents had not been produced before the trial court due
to inefficiency or inadvertence of the person who had conducted the case. Where
documents were left out to be marked due to carelessness and ignorance, they
could be allowed to be marked for elucidation of truth, in the interest of
justice, by exercising powers u/s 391 of the Code.

iii) The petitioners should be allowed to let in
additional evidence subject to the provisions of Chapter XXIII of the Code in
the presence of the complainant and his counsel.’

shailesh.kwebmaker

Income – Accrual of income – Mercantile system of accounting – Business of distribution of electricity to consumers – Surcharge levied on delayed payment of bills – Assessee liable to tax on receipt of such surcharge; A.Y. 2005-06

48. Principal CIT vs. Dakshin Haryana Bijli Vitran Nigam
Ltd. [2020] 423 ITR 402 (P&H) Date of order: 29^th November, 2018 A.Y.: 2005-06

Income – Accrual of income – Mercantile system of accounting – Business of
distribution of electricity to consumers – Surcharge levied on delayed payment
of bills – Assessee liable to tax on receipt of such surcharge; A.Y. 2005-06

The assessee distributed electricity. For the A.Y.
2005-06 the assessment was completed u/s 143(3). Subsequently, proceedings for
reassessment were initiated on the ground that the assessee had charged
surcharge on delayed payment of bill and this was charged as part of the single
bill along with the electricity charges. The assessee did not account for the
surcharge as part of its income on the ground that its recovery was not
definite. The A.O. made an addition on account of the surcharge levied but not
realised since the assessee followed the mercantile system of accounting.

The Commissioner (Appeals) deleted the addition
following his earlier orders. The Tribunal affirmed his order.

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

‘i) As and when the assessee received payment of
surcharge, it would be obliged to pay tax on such amount. There was no
illegality or perversity in the findings recorded by the appellate authorities
which warranted interference.

ii) No question of law arose.’

shailesh.kwebmaker

Fringe benefits tax – Charge of tax – Section 115WA of ITA, 1961 – Condition precedent – Relationship of employer and employee – Free samples distributed to doctors by pharmaceutical company – Not fringe benefit – Amount spent not liable to fringe benefits tax; A.Y. 2006-07

47. Principal CIT vs. Aristo Pharmaceuticals P. Ltd. [2020] 423 ITR 295 (Bom.) Date of order: 23^rd January, 2020 A.Y.: 2006-07

Fringe benefits tax – Charge of tax – Section 115WA of ITA, 1961 –
Condition precedent – Relationship of employer and employee – Free samples
distributed to doctors by pharmaceutical company – Not fringe benefit – Amount
spent not liable to fringe benefits tax; A.Y. 2006-07

The
following questions were raised in the appeal filed by the Revenue before the
Bombay High Court:

‘i)
Whether on the facts and in the circumstances of the case and in law, the
Tribunal was right in setting aside the action of the A.O. without appreciating
the fact that the fringe benefit assessment was framed after duly considering
the CBDT Circular No. 8 of 2005 ([2005] 277 ITR (St.) 20] and the Explanatory
Notes to the Finance Act, 2005 on the provisions relating to fringe benefit
tax?

ii)
Whether on the facts and in the circumstances of the case and in law, the
Tribunal was right in ignoring the fact that the Tribunal has explained
considering the case of Eskayef vs. CIT [2000] 245 ITR 116 (SC),
of the Supreme Court that free medical samples distributed to doctors is in the
nature of sales promotion and, similarly, any expenditure on free samples of
other products distributed to trade or consumers would be liable to fringe
benefit tax?’

The
Bombay High Court held as under:

‘i) From
a bare reading of section 115WA of the Income-tax Act, 1961 it is evident that
for the levy of fringe benefits tax it is essential that there must be a
relationship of employer and employee and the fringe benefit has to be provided
or deemed to be provided by the employer to his employees. The relationship of
employer and employee is the sine qua non and the fringe benefits have
to be provided by the employer to the employees in the course of such
relationship.

ii) The
assessee was a pharmaceutical company. Since there was no employer-employee
relationship between the assessee on the one hand and the doctors on the other
hand to whom the free samples were provided, the expenditure incurred for them
could not be construed as fringe benefits to be brought within the additional
tax net by levy of fringe benefit tax.’

shailesh.kwebmaker

Deemed income – Section 41(1) of ITA, 1961 – Remission or cessation of trading liability – Condition precedent for application of section 41(1) – Deduction must have been claimed for the liability – Gains on repurchase of debenture bonds – Not assessable u/s 41(1)

46. CIT vs. Reliance Industries Ltd. [2020] 423 ITR 236 (Bom.) Date of order: 15^th January, 2019

Deemed income – Section 41(1) of ITA, 1961 – Remission or cessation of
trading liability – Condition precedent for application of section 41(1) –
Deduction must have been claimed for the liability – Gains on repurchase of
debenture bonds – Not assessable u/s 41(1)

The
assessee had issued foreign currency bonds in the years 1996 and 1997 carrying
a coupon rate of interest ranging between 10 and 11% and having a maturity
period of 30 to 100 years. The interest was payable half-yearly. According to
the assessee, on account of the attack on the World Trade Centre in the USA on
11^th September, 2001, the financial market collapsed and the
investors of debentures and bonds started selling them which, in turn, brought
down the market price of such bonds and debentures which were traded in the
market at less than the face value. The assessee, therefore, purchased such
bonds and debentures from the market and extinguished them. In the process of
buyback, the assessee gained a sum of Rs. 38.80 crores. The A.O. treated this
as assessable to tax in terms of section 41(1) and made addition accordingly.

The
Commissioner (Appeals) deleted the addition. The Tribunal confirmed the
decision of the Commissioner (Appeals).

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

‘i) For
applicability of section 41(1), it is a sine qua non that there should
be an allowance or deduction claimed by the assessee in any assessment year in
respect of loss, expenditure or trading liability incurred. Then, subsequently,
during any previous year, if the creditor remits or waives any such liability,
the assessee is liable to pay tax u/s 41(1).

ii) It
was not the case of the Revenue that in the process of issuing the bonds the
assessee had claimed deduction of any trading liability in any year. Any
extinguishment of such liability would not give rise to applicability of
sub-section (1) of section 41.’

shailesh.kwebmaker

Capital gains – Transfer of bonus shares – Bonus shares in respect of shares held as stock-in-trade – No presumption that bonus shares constituted stock-in-trade – Tribunal justified in treating bonus shares as investments; A.Ys. 2006-07 to 2009-10

45. Principal CIT vs. Ashok Apparels (P.) Ltd. [2020] 423 ITR 412 (Bom.) Date of order: 8^th April, 2019 A.Ys.: 2006-07 to 2009-10

Capital gains – Transfer of bonus shares – Bonus shares in respect of
shares held as stock-in-trade – No presumption that bonus shares constituted stock-in-trade
– Tribunal justified in treating bonus shares as investments; A.Ys. 2006-07 to
2009-10

In the
appeal by the Revenue against the order of the Tribunal, the following question
was raised before the Bombay High Court.

‘Whether
on the facts and in the circumstances of the case and in law, the Income-tax
Appellate Tribunal was justified in treating the bonus shares as investments
with a cost of acquisition of Rs. Nil for the year under consideration,
ignoring the fact that the original shares, for which bonus shares were
allotted, were present in the trading stock itself for the year under
consideration, thus the bonus shares allotted against the same were also
required to be treated as a part of trading stock itself?’

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

‘i) In CIT
vs. Madan Gopal Radhey Lal [1969] 73 ITR 652 (SC) the Supreme Court
observed that bonus shares would normally be deemed to be distributed by the
company as capital and the shareholder receives the shares as capital. The
bonus shares are accretions to the shares in respect of which they are issued,
but on that account those shares do not become stock-in-trade of the business
of the shareholder. A trader may acquire a commodity in which he is dealing for
his own purposes and hold it apart from the stock-in-trade of his business.
There is no presumption that every acquisition by a dealer in a particular
commodity is acquisition for the purpose of his business; in each case the
question is one of intention to be gathered from the evidence of conduct and
dealings by the acquirer with the commodity.

ii) The
A.O. had merely proceeded on the basis that the origin of the bonus shares
being the shares held by the assessee by way of stock-in-trade, necessarily the
bonus shares would also partake of the same character. The Tribunal was
justified in the facts and circumstances of the case in treating the bonus
shares as investments.’

shailesh.kwebmaker

Capital gains – Exemption u/s 54 of ITA, 1961 – Sale of residential house and purchase or construction of new residential house within stipulated time – Construction of new residential house need not begin after sale of original house; A.Y. 2012-13

44. Principal CIT vs. Akshay Sobti [2020] 423 ITR 321 (Del.) Date of order: 19^th December, 2019 A.Y.: 2012-13

Capital gains – Exemption u/s 54 of ITA, 1961 – Sale of residential house
and purchase or construction of new residential house within stipulated time –
Construction of new residential house need not begin after sale of original
house; A.Y. 2012-13

For the
A.Y. 2012-13 the assessee had claimed deduction u/s 54 in respect of capital
gains from the sale of residential house. The A.O. disallowed the deduction u/s
54 on the ground that the assessee had entered into an agreement dated 10^th
February, 2006 and the date of the agreement was to be treated as the date of
acquisition, which fell beyond the one year period provided u/s 54 and was also
prior to the date of transfer.

The
Commissioner (Appeals) held that the assessee had booked a semi-finished flat
and was to make payments in instalments and the builder was to construct the
unfinished bare shell of a flat. Under these circumstances, the Commissioner
(Appeals) considered the agreement to be a case of construction of new
residential house and not purchase of a flat. He observed that since the
construction has been completed within three years of the sale of the original
asset, the assessee was entitled to relief u/s 54. The Tribunal upheld the
decision of the Commissioner (Appeals).

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

‘i)
Section 54 of the Income-tax Act, 1961 requires an assessee to purchase a
residential house property either one year before or within two years after the
date of transfer of a long-term capital asset, or construct a residential
house. It is not stipulated or indicated in the section that the construction
must begin after the date of sale of the original or old asset.

ii) The
assessee had fulfilled the conditions laid down in section 54 and was entitled
to the benefit under it.’

shailesh.kwebmaker

Business expenditure – Deduction u/s 42(1)(a) of ITA, 1961 – Exploration and extraction of oil – Conditions precedent for deduction – Expenditure should be infructuous or abortive exploration expenses, and area should be surrendered prior to commencement of commercial production – Meaning of expression ‘surrender’ – Does not always connote voluntary surrender – Assessee entering into production sharing contract with Government of India and requesting for extension at end of contract period – Government refusing extension – Assessee entitled to deduction u/s 42(1)(a); A.Y. 2008-09

43. Principal CIT vs. Hindustan Oil Exploration Co. Ltd. [2020] 423 ITR 465 (Bom.) Date of order: 25^th March, 2019 A.Y.: 2008-09

Business expenditure – Deduction u/s 42(1)(a) of ITA, 1961 – Exploration
and extraction of oil – Conditions precedent for deduction – Expenditure should
be infructuous or abortive exploration expenses, and area should be surrendered
prior to commencement of commercial production – Meaning of expression
‘surrender’ – Does not always connote voluntary surrender – Assessee entering
into production sharing contract with Government of India and requesting for
extension at end of contract period – Government refusing extension – Assessee
entitled to deduction u/s 42(1)(a); A.Y. 2008-09

The assessee was engaged in the business of exploration and extraction of
mineral oil. It entered into a production-sharing contract with the Government
of India on 8^th October, 2001 for the purposes of oil exploration.
According to the contract, a licence was issued to a consortium of three
companies, which included the assessee, to carry out the exploration initially
for a period of three years and the entire exploration was to be completed
within a period of seven years in three phases. At the end of the period,
extension was denied by the Government of India. In its Nil return of income
filed for the A.Y. 2008-09, the assessee claimed deduction u/s 42(1)(a) of the
Income-tax Act, 1961 on the expenditure on oil exploration on the ground that
the block was surrendered on 15^th March, 2008. The A.O. was of the
opinion that it had not surrendered the right to carry on oil exploration since
the assessee was interested in extension of time which was denied by the
Government of India and disallowed the claim.

The Commissioner (Appeals) allowed the appeal. The Tribunal found that
according to article 14 of the contract, relinquishment and termination of
agreement were two different concepts and that by a letter dated 28^th
March, 2007 the assessee was informed that its contract stood relinquished. The
Tribunal held that the assessee was covered by the deduction provision
contained in section 42, that such expenditure was not amortised or was not
being allowed partially year after year and it had to be allowed in full, and
therefore there was no justification to deny the benefit of deduction to the
assessee.

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

‘i) As long as the commercial production had not begun and the expenditure
was abortive or infructuous exploration expenditure, the deduction would be
allowed. The term “surrender” itself was a flexible one and did not always
connote the meaning of voluntary surrender. The surrender could also take place
under compulsion. The assessee had no choice but to surrender the oil blocks
because the Government of India had refused to extend the validity period of
the contract. Admittedly, commercial production of oil had not commenced. The
act of the assessee to hand over the oil blocks before the commencement of
commercial production was covered within the expression “any area surrendered
prior to the beginning of commercial production by the assessee”.

ii) The
provisions of section 42 recognised the risks of the business of exploration
which activity was capital-intensive and high in risk of the entire expenditure
not yielding any fruitful result and provided for special deduction. The
purpose of the enactment would be destroyed if interpreted rigidly. For
applicability of section 42(1)(a) the elements vital were that the expenditure
should be infructuous or abortive exploration expenses and that the area should
be surrendered prior to the beginning of commercial production by the assessee.
As long as these two requirements were satisfied, the expenditure in question
would be recognised as a deduction. The term “surrender” had to be appreciated
in the light of these essential requirements of the deduction clause. It was
not the contention of the Department that the expenditure was infructuous or
abortive exploration expenditure.

iii) The interpretation of section 42(1)(a) by the Tribunal and its order
holding the assessee eligible for deduction thereunder were not erroneous.’

shailesh.kwebmaker

i) Business expenditure – Disallowance – Sections 14A and 36(1)(iii) of ITA, 1961 – Interest on borrowed capital – Finding that investment from interest-free funds available with assessee – Presumption that advances made out of interest-free funds available with assessee – Deletion of addition made u/s 14A justified (ii) Unexplained expenditure – Section 69C of ITA, 1961 – Suspicion that certain purchases were bogus based on information from sales tax authority – Neither independent inquiry conducted by A.O. nor due opportunity given to assessee – Deletion of addition by appellate authorities justified; A.Y. 2010-11

42. Principal CIT vs.
Shapoorji Pallonji and Co. Ltd. [2020] 423 ITR 220
(Bom.) Date of order: 4^th
March, 2020 A.Y.: 2010-11

(i) Business expenditure –
Disallowance – Sections 14A and 36(1)(iii) of ITA, 1961 – Interest on borrowed
capital – Finding that investment from interest-free funds available with
assessee – Presumption that advances made out of interest-free funds available
with assessee – Deletion of addition made u/s 14A justified

(ii) Unexplained
expenditure – Section 69C of ITA, 1961 – Suspicion that certain purchases were
bogus based on information from sales tax authority – Neither independent
inquiry conducted by A.O. nor due opportunity given to assessee – Deletion of
addition by appellate authorities justified; A.Y. 2010-11

For the
A.Y. 2010-11, the A.O. held that the purchases made by the assessee from two
sellers were bogus; according to information received from the Sales Tax
Department, Government of Maharashtra, those two sellers had not actually sold
any material to the assessee. Accordingly, he issued a show cause notice in
response to which the assessee furnished copies of the bills and entries made
in its books of accounts in respect of such purchases. However, the A.O. in his
order made addition u/s 69C of the Income-tax Act, 1961. He also made
disallowances under sections 14A and 36(1)(iii) of the Act.

The
Commissioner (Appeals) deleted the disallowances. The Tribunal upheld the
decision of the Commissioner (Appeals). According to the Tribunal, the A.O. had
merely relied upon the information received from the Sales Tax Department but
had not carried out any independent inquiry. The Tribunal recorded a finding
that the A.O. failed to show that the purchased materials were bogus, whereas
the assessee produced materials to show the genuineness of the purchases and
held that there was no justification to doubt the genuineness of the purchases
made by the assessee.

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

‘i) On
the facts as found by the Commissioner (Appeals) and as affirmed by the
Tribunal, the presumption that if there were funds available with the assessee,
both interest-free and overdraft or loans, the investments were out of the
interest-free funds generated or available with the assessee was established.
The Tribunal had affirmed the order of the Commissioner (Appeals) deleting the
addition made by the A.O. u/s 14A on the ground that the interest-free funds
available with the assessee were far in excess of the advance given. The
principle of apportionment under Rule 8D of the Income-tax Rules, 1962 did not
arise as the jurisdictional facts had not been pleaded by the Department.

ii) The
finding of the Commissioner (Appeals) as affirmed by the Tribunal was that the
assessee had not utilised interest-bearing borrowed funds for making
interest-free advances but had its own interest-free fund far in excess of
interest-free advance. No question of law in respect of the deletion of the
disallowance made by the A.O. u/s 36(1)(iii) arose.

iii) The Tribunal was justified in deleting the addition
made u/s 69C on the ground of bogus purchases. Merely on suspicion based on the
information received from another authority, the A.O. ought not to have made
the additions without carrying out independent inquiry and without affording
due opportunity to the assessee to controvert the statements made by the
sellers before the other authority.’

shailesh.kwebmaker

DATA-DRIVEN INTERNAL AUDIT – II PRACTICAL CASE STUDIES

BACKGROUND

Internal auditors are effective in their
delivery of professional services only by conducting value-added services.
Important value drivers for management are:

– cost savings / optimisation,

– prevention or detection of frauds,

– compliance with procedures and regulations.

These can only be achieved in today’s day and
age by adoption of technology for all stages in the life-cycle of the internal
audit. It may necessitate getting the data from multiple sources, analysing
huge quanta of data, comprehensively quantifying the findings and presentation
of data in intelligent form to various stakeholders for action to be taken for
improvement/s.

Let’s add the fact that we are moving to
remote auditing, again a necessity in today’s circumstances and which would
most probably become the new normal in times to come. Remote auditing is
already being practised by many organisations where internal auditors carry out
internal auditing for global, geographically-spread entities from their
internal audit teams based out of India.

In our earlier article (Pages 11-13; BCAJ,
August, 2020), we have discussed the necessity of adopting a data-driven
internal audit approach for efficient and effective internal audit, basically
explaining ‘why’. Now, we are offering the methodology to be adopted for making
it happen, in other words, ‘how’ to do it.

STAGES IN DATA-DRIVEN INTERNAL AUDIT

Using what you know

(1) DETERMINE WHETHER DATA ANALYTICS IS APPROPRIATE
FOR THE AUDIT

The potential benefits of using Data
Analytics can be judged from the audit objectives and the expected problems, as
well as from the data volume, the number of records and the number of fields.
Special consideration should be given to the usefulness of additional analysis
over what is currently provided by the system and whether any special factors
apply, such as fraud detection and investigation, Value for Money audits (in
obtaining performance statistics) and special projects.

(2) CONSIDER AUDIT OBJECTIVES AND WHERE DATA
ANALYTICS CAN BE USED

Data Analytics can be used in different areas
with different goals and objectives. Data Analytics is generally used to
validate the accuracy and the integrity of data, to display data in different
ways and to generate analysis that would otherwise not be available. It can
also be helpful in identifying unusual or strange items, testing the validity
of items by cross-checking them against other information, or re-performing
calculations.

Although Data Analytics allows you to
increase your coverage by investigating a large number of items and potentially covering 100% of transactions, you may still want to extract
and analyse a portion of the database by using the sampling tasks within. You
could examine a subset of the population (a sample), to predict the financial
result of errors, or to assess how frequently a particular event or attribute occurs
in the population as a whole.

The quality of the data, your knowledge of
the database and your experience will contribute to the success of Data
Analytics processes. With time you will be able to increase or widen the scope
of investigations (for example, conducting tests which cannot be done manually)
to produce complex and useful analyses, or to find anomalies that you never thought
were feasible.

It is also not unusual that far more
exceptional items and queries are identified when using Data Analytics than other methods and that these may require follow-up time. However, the use
of Data Analytics may replace other tests and save time overall. Clearly, the
cost of using the Data Analytics Tool must be balanced against the benefits.

Case Study 1 – General Ledger – What is our
Audit Objective?

Management override and posting of fictitious
journals to the General Ledger is a common way of committing fraud; and one of
the key audit procedures is to test the appropriateness of journal entries
recorded in the General Ledger.

The objectives may include testing for risk
or unusual transactions such as:

Journals with no description,

Journals not balancing,

Journals containing keywords,

Journals posted by unauthorised users,

Journals posted just below approval limits,

Journals posted to suspense or contra
accounts.

Case Study 2 – Accounts Receivable – What is
our Audit Objective?

Accounts Receivable is one of the largest
assets of a business; therefore, there is a need to audit and gain assurance
that the amounts stated are accurate and reasonable.

The objectives may include:

Identify large and / or unusual credit
notes raised in the review period,
Capture customers with significant write-offs
during the year,

Isolate customers with balances over their
credit limit,

Filter out related party transactions
and balances,

Generate duplicates and gaps in the
sales invoice numbers,

Match after-date collections to year-end
open items / balances.

Preparing data for analysis

(3) DETERMINE DATA REQUIRED AND ARRANGE DOWNLOAD
WITH PREPARATION

Data download is the most technical stage in the
process, often requiring assistance and co-operation from Information
Technology (IT). Before downloading or analysing the data, it is necessary to
identify the required data. Data may be required from more than one file or
database. It is important at this stage that the user understands the
availability and the details of the databases. You may also have to examine the
data dictionary to determine the file structure and the relationships between
databases and tables.

In determining what data is required, it may
be easier to request and import all fields. However, in some cases this may
result in large file sizes and it may be time-consuming to define all the
fields while importing the files. Therefore, it may be better to be selective,
ignoring blank fields, long descriptive fields and information that is not
needed. At the same time, key information should not be omitted.

Case Study 1 – General Ledger – Planning –
What Data is Required?

The Auditor needs to obtain a full General
Ledger transactions history for the audit year after all the year-end
(period-end) postings have been completed by the client. To carry out a
completeness test on the General Ledger transactions, the ‘Final’ Closing Trial
Balances at the current and previous year-ends are required. Where possible,
obtain a system-generated report as a PDF file, or observe the export of the
Trial Balance, this will give assurance over the integrity and completeness of
the Trial Balance figures from the Accounting Software or ERP system.

General ledger initial check for preparing
the data

Field Statistics can be used to verify the
completeness and accuracy of data like incorrect totals, unusual trends,
missing values and incorrect date periods in the General Ledger. This pre-check
in the data preparation stage allows the Auditor a greater chance of
identifying any issues that will cause invalid test results. Comparing
difference in totals obtained from the client for the Transaction Totals in the
General Ledger with the Field Statistics should be clarified with the client
before proceeding further with the Analytic tests.

Case Study 2 – Accounts Receivable – Planning
– What Data is Required?

The Auditor should requisition the ‘AR
Customer-wise open items at the year-end’ data. This data provides more details
than a simple list of balances because often an Auditor wants to test a sample
of unpaid invoices rather than testing the whole customer balance. Further, the
Auditor should obtain the ‘Accounts Receivable Transactions’ during the year to
analyse customer receipts in the year, to test for likely recoverability. Apart
from this, more detailed Data Analytics can be performed on the sales invoices
and credit notes, as well as cut-off analysis.

Accounts receivable initial check for
preparing the data

Field Statistics can be used to verify the completeness and accuracy of
data like incorrect totals, unusual trends, missing values and incorrect date
periods in the Accounts Receivable (AR) ledger. This pre-check in the data
preparation stage offers the Auditor a better chance of identifying any issues
that could cause invalid test results. Comparing difference in totals obtained
from the client for the AR Debit Credit Totals with the Field Statistics should
be clarified with the client before proceeding further with the Analytic tests.

Validating data

(4) USE ANALYTIC TASKS

Case Study 1 – General Ledger – Highlighting
Key Words within Journal Entry Descriptions

Objective – To isolate and extract any manual journal entries using key words or
unusual journal descriptions. These can include, but not be limited to,
‘adjustment, cancel, missing, suspense’.

Technique – Apply a search command on the manual journal entries which have been
posted with the defined unusual descriptions by using a text search command.

Interpretation of Results – Records shown when using the above
criteria would display records which have description narratives that include
key terms such as ‘adjustment’, ‘cancel’, ‘suspense’ and ‘missing’, and may
require further investigation.

When determining which manual journal entries
to select for testing, and also what description should be tested, it is
helpful to know that financial statements can be misstated through a variety of
fraudulent journal entries and adjustments, including:

Writing off liabilities to income,
Adjustments to reserves and allowances
(understated or overstated),

False sales reversed after year-end and
out-of-period revenue recorded to inflate revenue.

Therefore, when defining the narratives to
search for, you will need to tailor the said search to the type of manual
journal entry that the Auditor is aiming to test.

Case Study 2 – Accounts Receivable –
Detecting suppression of Sales

Objective – To test for gaps in invoicing sequences which may indicate unrecorded
sales and / or deleted invoices.

Technique – Gap Detection is used to detect gaps in data. These could be gaps
within purely numeric or alpha-numeric sequential reference numbers, or these
could be gaps within a sequence of dates. Perform a Gap Detection on the field
‘Invoice Number’.

Interpretation of Results – Any gaps in invoicing sequences require
further investigation to ensure that revenue has been correctly allocated, as
well as to check for improper revenue recognition which can be accomplished by
manipulating income records, causing material misstatement.

Discovering patterns, outliers, trends using
pre-built analytic intelligence

The Discover task provides insights through
patterns, duplicates, trends and outliers by mapping data to high-risk elements
using the Data Analytical Tool’s predefined Analytic Intelligence.

Identify trends, patterns, segmental
performance and outliers automatically.

Intuitive auto-generation of dashboards that
can then be further refined with IDEA’s inbuilt Analytic Intelligence.

(5) REVIEW AND HOUSEKEEPING

As with any software application, all work
done in Data Analytic Tools must be reviewed. Review procedures are often
compliance-based, verifying that the documentation is complete and that
reconciliations have been carried out. The actual history logs from each analytical
activity should also be reviewed.

Backup of all the project folders must be
done meticulously and regularly.

Clear operating instructions with full
details on how to obtain files, convert them and download them should be
documented for each project and kept easily accessible for the Audit Teams who
will take up the project in the ensuing review period. If necessary, logic
diagrams with appropriate explanatory comments should be placed in the Audit
working-paper file so that a different auditor could pick up the project in the
following year.

CONCLUSION

By embedding data analytics in every stage of the audit process and
mining the vast (and growing) repositories of data available (both internal and
external), Auditors can deliver unprecedented real-time insight, as well as
enhanced levels of assurance to management and audit committees.

Businesses are faced with unprecedented
complexity, volatility and uncertainty. Key stakeholders can’t wait for
Auditor’s analysis of historical data. They must be alerted to issues at once
and be assured of repetitive monitoring of key risks. Data Analytics empowers
Audit to deliver, as well as to serve the business more proactively in audit
planning, scoping and risk assessments, and by monitoring key risk indicators
closely and concurrently. Auditor’s use of data analytics in every phase of the
audit can help management and the audit committee make the right decision at
the right time.

shailesh.kwebmaker

TAXPAYER SERVICES: MESSAGE, MEANING AND MEANS – 1/n

A taxpayer is that rare citizen who creates value, earns income and parts
with a portion of it as tax for nation-building. Just as it is the ‘legal’
obligation to pay tax, there is a much ‘higher moral social’ obligation upon
the government to ensure that the taxpayer is treated as a valued patron and
ensure that his taxes give him a bang for his buck.

Faceless Assessment and the Taxpayer’s Charter (TC) is an awakening and
realisation of the above understanding. This move is what a wise government and
sincere taxpayer would want. PM Modi spoke candidly about making the tax system
‘seamless, painless and faceless’ and assuring the honest taxpayer of ‘fair,
courteous and rational behaviour’.

Over the last few years, calibrated sequential changes were undertaken –
the black money act, DeMo, post-DeMo amnesty scheme (GKY), the Benami Act,
reduction of rates for corporates and individuals, increasing the threshold for
the Department to litigate, dispute resolution Vivad se Vishwas scheme,
E-assessments, etc.

Since its first appearance in, I think, 1998, the TC has got its rightful
place from posters in hallways to the statute book. The directional change is
worthy of appreciation for what otherwise to many of us was a no-brainer. However,
this can only be a start in the direction of developing a real taxpayer rights
and services charter. We have harsh provisions against the taxpayer who
deviates, but none against the tax assessor if he deviates from his role. There
is a fundamental issue of power without adequate transparency and
accountability.

Here are some thoughts on how this process can be made real and robust.

Define tax overreach: We have
serious consequence of penalties and prosecution defined and applied on
taxpayers. For a law to be fair, we need equivalent definitions and
descriptions of tax ‘extortion’, ‘extraction’ and ‘jehadism’ (all for lack of a
vocabulary which needs to be evolved) on the Tax Department depending on the
intensity of their actions that eventually get turned down at subsequent levels
of appeal.

Accountability: Tax officers
must be held accountable monetarily and otherwise. An assessee should be
compensated for the hassle that she has to go through. Considering that the
success rate of the Tax Department is 15 to 20% at all levels combined, it is
clear that there is large-scale illegal collection of taxes that are
subsequently reversed with interest cost being suffered by the exchequer.
Another example is of prosecution, which if proved excessive or overruled, the
ITO must face the music for irresponsible behaviour that resulted in agony,
cost and loss of reputation. No exercise of power should be permitted
without accountability.

Create grounds for the taxpayer: The taxpayer should be able to take grounds of calling the order
‘perverse’, ‘excessive’, or ‘illegal’ (all for lack of a vocabulary which needs
to be evolved) and should be able to claim reverse penalty on the Department if
he wins. Grounds such as the above should be evolved and defined under the law,
and that would give the taxpayer equal ‘power’ to call the bluff of the ITO.

Ban on Targets: Setting
targets should be made illegal. The vocabulary, mentality and methods that
follow a ‘target regime’ create bias against a fair, respectful and reasonable
assessment.

The TC is perhaps one of the best news of the year. The change deserves our
support, encouragement and positivity. At the same time, as the title of this
Editorial says, it is 1/n, a process. I welcome and solicit your ideas and
suggestions on what should change in small simple measures, how a reform can
take form, a translation of fourteen points into actionable, doable measures.
Do write to journal@bcasonline.org.

Raman
Jokhakar

Editor

shailesh.kwebmaker

EXTINCT PROFESSION

This is an article that ‘appeared’ in the
daily ‘Futurology’ in the year 2050. The title of the article was
‘Extinct Profession’. It was to mark the Silver Jubilee of the death of a
dignified (?) profession. It is from a small island called ‘Overlaw’ in an
unknown ocean. The following are some excerpts from the said article:

There has always been a policy in the
business that the big players get some work done by small players by offering them a seemingly lucrative business volume. Small players get
excited, especially if they are new entrants in the business. Their costing is
fully monitored by the big players. After a couple of years of a smooth
relationship, the big start delaying the payments. The poor small ones don’t
mind it initially. The big ones place larger orders with some small advances.

Again, they withhold the payments. They
paint a rosy future before the small players. The poor fellows have no choice.

The small go to a banker and raise funds on
the ‘merit’ that they have orders from large corporates. The bankers oblige.
Their meters of interest and EMI start ticking. But the small ones cannot
function smoothly.

Gradually, the small players see the death
of their own businesses. The big ones are scratch-free. They have a hundred
reasons for not paying – from ‘quality defects’ to ‘belated deliveries’.

And then, the big find some new small ones!
The cycle continues forever… Government makes laws against such tactics but
there is a provision in fine print, in every beneficial law, that the lawmaker
is not responsible for its implementation.

Here is a story where an entire profession
in the country had to be closed down 25 years ago. Had the profession survived,
it would have celebrated its centenary year in the current year 2050.

The profession was basically rendering a
very specialised service to businessmen and many government / private
organisations. Under the law then prevailing, it was mandatory for many
organisations to avail their professional services.

The persons belonging to that profession
were under the impression that the profession was important and indispensable.
But the reality was that had it not been legally incumbent, nobody would have
willingly gone for their services. The payment to those professionals was
always considered as unproductive and was at the bottom of the list of priorities
with the users of their services. It was common that the fees of these
professionals were kept unpaid for up to three or even four years.

But all of a sudden, the ‘Governors’ of the
profession, with a laudable objective to protect the profession, declared that
if your fees are unpaid for two consecutive years by a client, you should
discontinue your services to that client.

The ‘Governors’ said it would be unethical
to render service to that client who owes you so much. There was a big hue and
cry against this decision. But the ‘Governors’ said the client cannot escape
because no other service provider can accept his work unless the previous
person’s fees are paid.

So, the
previous professional lost the work. He could not get any other work since all
the clients had avoided payments to their respective professionals. The
mandatory service could not be rendered by anybody to anybody!

All clients became defaulters under the laws
concerned. They became disqualified to run their business. So, the businesses
were closed.

The government
realised the gravity of the situation, so it brought an amnesty scheme. The
mandatory compliance was waived. Clients found it more economical to pay the
money under amnesty rather than paying fees to the professionals.

The ‘Governors’ of the profession kept on
introducing newer and newer rules and regulations thrust by other countries.
That was done under the garb of ‘Ethics’.

The professionals started spending more time
on learning and more money on books and study courses. Since most of the
clients’ work was discontinued, they had a lot of idle time.

This continued for a few years and in the
year 2025 the government realised that the mandatory compliance was not
required at all. The so-called specialised services rendered by the profession
became redundant. Everybody realised that it had made no difference whatsoever
to anyone even in the absence of those services.

One fine morning, the profession was
declared to be no longer relevant and all the laws were changed accordingly.

That was the end of the profession.

The students as well as the existing
professionals heaved a big sigh of relief that there was no longer any need to
study too many laws and regulations!

shailesh.kwebmaker

COLLABORATE TO CONSOLIDATE’ – A GROWTH MODEL FOR PROFESSIONAL SERVICES FIRMS

In today’s times,
when the market is seeking lower cost alternatives in every spend and the
otherwise not-to-be touched area of audit fees or tax fees of a CA firm is
increasingly being questioned by CFOs and business owners, with ever-increasing
need for specialist advice, the refrain is to come together with like-minded
professionals.

Consolidation of
professional services firms is a prerequisite for professions to grow. It is a
huge challenge and an uphill task for a lot of firms to grow as disaggregated
practices. Covid-19 has actually altered the course and changed the rules of
the game and advanced the time for these discussions. If you are not growing
consistently, there is a case for a relook. If you haven’t thought through
succession planning for your firm, now is the time to do so.

This article is an
attempt to provide some ideas and suggest a framework to proprietorship firms
and partnership firms providing professional services such as chartered
accountancy firms, law firms and other professional services firms to come
together, collaborate and work together for their common growth.

Consolidation of
accounting firms requires a fair bit of thought, analysis and a sustained
positive outlook. The mindset of growth has to be foremost for any
consolidation to be productive and value accretive. And to start this process,
collaborating with like-minded firms may be a good way to proceed.

(I) PREREQUISITES OF CONSOLIDATION

(i) Mindset

It is of paramount
importance that the mindset to collaborate, consolidate and grow is clear and
positive. Having a positive, open mindset means that one is willing to work
together under a conducive framework;

(ii) What can one consolidate?

Consolidation
doesn’t only have to be by merger. One can consolidate mindsets, expertise,
people, teams, functions, technology, markets, HR, brand building, finance and
accounts, administration and various other aspects which can make the
professional services firms nimble-footed and adaptable to change and growth.

(II) GETTING STARTED

It is also not lost
on any of us that coming together for a common client or referred client may be
a good way to get started.

For example:

When there is a
referred client, where a professional refers some matter to another
professional, although the other professional will be the primary service
provider, the referring professional should contribute actively by providing
the background knowledge on the basis of his / her experience and the
relationship aspects of dealing with the client, so that the other professional
can benefit from the referring partner’s experience and expertise.

If this is
addressed in a manner which is sufficiently engaging, powerful, organised and
delivered in a properly thought through manner, then you have the right
prerequisites for a successful consolidation.

The thesis is that
enthusiastic collaboration is a vital ingredient and a prerequisite for
sustained, organised growth. I have no doubt that professional services firms
will pursue the above with a lot of enthusiasm and momentum once a road-map is
given and a framework is created.

(III) MODELS OF CONSOLIDATION

(A) Referral
model

This is a simple,
‘start with’ model. ABC & Co has a client to whom it is providing audit and
tax services. The client needs MIS services. Given that ABC & Co is an
auditor, it may not be able to provide MIS services as then the firm may no
longer be independent. So, ABC contacts XYZ & Co and refers the client’s
MIS work. XYZ delivers and invoices fees.

XYZ will in turn
ensure that it will not pitch for any other services to the client. If the
client comes for any other work, it will get referred back to ABC. This is an
unwritten code that is based on trust.

If this is done
well, trust develops and this lays the ground for both firms to collaborate. If
XYZ ever crosses the line, ABC will not work with XYZ in the future. That
itself is a good deterrent in this model.

The code of conduct
and rules of professional engagement may prohibit payment of referral fees and
this needs to be respected.

(B) Preferred
partner model

This is an
extension of the referral model, where ABC and XYZ consider each other as
preferred firms to collaborate with. If ever there is work coming to ABC which
it cannot deliver, ABC will refer it to XYZ as the firm of first choice.

Conversely, XYZ
will refer work to ABC for any engagement where it needs help / support. In
this model again, it is a very clear way of supporting each other in such a way
that the sanctity of the preferred firm model is maintained.

There could be
exceptions where XYZ is not able to service a client of ABC, in which case ABC
is obviously free to choose any other firm.

An associate firm by definition is a form of membership where
like-minded firms agree to come together under a common association and agree
to abide by the principles and rules of working under a larger umbrella. The
associate firm continues to work under its own brand and will not need to
change its constitution nor its key areas of work.

The associate firm
agrees to collaborate with other member firms in a manner that encompasses the
referral model and the preferred partner model with more formalised meetings,
exchange of knowledge, use of resources, common marketing collaterals and a
greater speed of response and alignment.

The associate firm
model has been in existence for many years and has proved to be a very credible
alternative to the member firm model and the network model. The biggest
difference is that members are free to continue their own brands and they have
far more independence in what they choose to do or not to do, including the
choice of work, business areas, office locations, client servicing and choice
of sharing of information.

Effectively, there
are no compulsions and there are no territorial restrictions. Each firm is free
to expand into any territory and is free to conduct or practice any service
area without any pre-approval or without worrying about a centrally
administered bureaucratic process.

The main
disadvantage of an associate model is that it may not always be tightly
integrated and associate firms can choose not to fall in line citing whatever
compulsions they face and there is very little that other firms can do.

(D) Network
model

A network model is
one of the best ways to grow professional practices. Each firm is a member of a
global network or a national or regional network, using a common brand, using
common tools and having signed a member firm agreement which binds them with
the central leadership, a common partner pool and, most importantly, a common
identity.

Indeed, over a
century it has been proven that the network model has the ability to grow the
fastest and to become the largest amongst all prevalent models of
collaborations amongst professional services firms.

In a network, the
biggest consideration is giving up one’s brand where the professional services
firm agrees to use the international brand or the national or regional brand
and accepts that its own brand will play second fiddle. All marketing
collaterals and service delivery are under the common brand; except where
regulations may not permit a foreign brand. In such cases, the network pushes
for alternate options and finds a way to co-exist within the rules.

In a network model,
member firms are often guided by common rules of engagement. Conduct of shared
work, sharing of knowledge, territorial restrictions, respect for an office,
its location and its territorial boundaries, firm-wide dissemination of
developments and a governance structure where partners align with the central
leadership form the daily core of network firms’ activities.

Whilst there are
several perceived disadvantages such as loss of one’s own brand, the associated
loss of identity and integration into common practices which one may take some
time to evolve, understand and add up to, the network model has stood the test
of time. It has proven and validated the concept of ‘collaborate to grow
manifold’ and critics have accepted the formal network models.

(E) Merger model

In a merger model,
the referral firms, the associate firms, the preferred partner firms and the
network firms effectively amalgamate into a single firm with a single bank
account. Effectively, one is ‘all in’. That means it is truly a ‘one firm,
firm’ and partners can grow or not grow driven by the collective performance of
the larger firm. There are no real silos, there are no individual mindsets, nor
any individual practices.

Each partner works
for the larger collective firm under the belief that as long as one is
contributing to his or her best abilities, the larger collective will grow. As a
partner, I am benefiting from the expertise and the common delivery processes
of the firm.

In a merger
situation, the rules of the game are very different and may appear overwhelming
to start with. One should get into a merger only after detailed due diligence
and after a few years of working together with one of the above models. It is
like a marriage; there are sacrifices to be made, there are positions to be
gone away from and yet there’s the harmony and beauty of the collective.

A partner may not
need to be spending time on areas outside of his or her core focus. What it
does is provide partners with adequate time to build, consolidate and grow.
Focus on service areas, with administrative or functional work percolating down
to the teams, is a positive outcome.

(IV) Road-map for consolidation

Having looked at
the various models of consolidation, it is now time to look at the execution
road-map for consolidation:

(i) Each firm
should identify its own skill sets, expertise, specialisation and the firm’s
USP. Clarity of expertise and USP is critical.

(ii) The objective of the collaboration should be
very well defined. What are we trying to achieve? Is it growth of revenue,
growth of profitability, growth of skill sets, working with the best minds,
professional growth, sharing of knowledge, newer geographies, recognition of
the changing market place and demands of the client? Clarity on the objective
is very critical. Often, in the haste of coming together, the main objective is
forgotten. That’s to be avoided at all costs.

(iii) Once the firm
is clear on who is best at practising a particular area, the automatic next
step will be to have one or two partners from each of the firms to collaborate
intensely and with the purpose of achieving a target of identifying a few
like-minded yet unique firms to integrate with. These one or two partners have
the responsibility of ensuring that the objectives of the collaboration are
fulfilled.

(iv) One of the
better ways to start is by working together on actual projects. That normally
provides a good way to get an insight into the other firms. It also provides an
easy and operational way to get to know the practices and processes of other
firms. Taking the first baby steps is important.

(v) Once some early success is seen, the
foremost assumption that all partners are aligned for collective growth will be
tested. It will be hard for partners to sit on the fence. Thus the acceptance
of a preferred firm model or even an associate firm model will not be too
challenging. Keep moving forward to a point where trust is created and
enhanced. Each model should be given adequate chance to work and succeed. At
some point, an associate firm model can give way to a network firm model.

(vi) The partners
leading this initiative for their firms have to be at it. It’s a constant
effort. Take small steps but keep moving forward. It won’t get done overnight.
But achieving small successes will pave the way for larger integration. If all
cylinders are aligned, the practices will see merit in a merger and move
towards a one firm, firm model.

CONCLUSION

It is no longer
okay to continue the status quo. During Covid-19, survival itself is
akin to growth. But, what next? Perhaps, it is time to understand and
introspect. It is time to move forward from working as disaggregated practices.
It is time to work together. It is time to consolidate.

shailesh.kwebmaker

NEED FOR IMMUNITY AND SPIRITUALITY IN PANDEMIC

How can I emerge stronger through this
devastating pandemic and become a real winner in a new and changed world? This
is a question that must have certainly agitated everyone’s mind in these last
few months.

So much has been written and discussed about
the current situation. The actions that you take now and in the weeks ahead
will without a doubt define you and your attitude towards life. And while the
impact of this crisis will vary across regions, it will be no exaggeration to
say that this time around the burden of destiny is real.

What is emerging from the competing demands
and chaotic conditions is the paramount importance of being positive and doing
the right thing at the right time. After all, anxiety and fear adversely affect
the physiological systems that protect individuals from infection.

Let’s begin with immunity, the most desired
condition that everyone wishes for. In today’s technical world the primary role
of immunity is to recognise viruses and to obliterate them. Many good measures
have been discussed and prescribed for improving immunity. These include a
healthy diet, ample sleep, optimum hydration, regular exercise, minimising stress,
meditation, yoga and pranayama, avoiding smoking and alcohol, etc. The
most favoured therapy in vogue is the use of immunity-boosting supplements and
foods.

If and when one gets infected, timely
treatment is of paramount importance. However, healing involves not just
flushing out viruses but simultaneously enhancing the body’s immunity system.
The same principle applies to our spiritual healing, too.

The Bhagavad Gita says that we should
not fan our likes and our dislikes. If such thoughts develop in our minds, we
should simply ignore them. But this is easier said than done.

We do strive to have a spiritual immune
system. In general, such a system refers to our reactions to thoughts,
attitudes, feelings and motivations. Our subconscious mind instinctively
responds to harshly spoken words, expressions and physical gestures. But if we
can control such reactions, we will not only emerge sharper but also as better,
happier and more contented individuals.

I believe that despite the real world’s
annoyances and influences, a skilled spiritual level can support our resolve to
overlook a negative reaction, thus ensuring a higher state of mind. On the
physical level it is a well-established fact that our mental attitude does
impinge on health! It is surely much easier for those who have deeply instilled
these factors in their subconscious / spiritual level.

It is only by following what is dharma
for our body and for our mind that we can strengthen our immune system to fight
against adverse circumstances. A proper diet, a clean lifestyle, a supportive
attitude and spiritual endeavours will certainly boost our immune system. Our
scriptures say that Dharma, grounding, withdrawal from materialistic
activities and practices of Japa and Daan are internal preventive
means.

While modern medicine does provide quick
relief, debates continue about the side-effects and probable long-term harms of
the same. But alternate medicine and cure undoubtedly educate us on how to keep
the environment and ourselves naturally clean.

The spiritual immune system and the physical
immune system are deeply interrelated. It is hard to separate one from the
other and I believe that best results are obtained by working on health at both
levels. We cannot possibly ignore all negative influences from the world, but
we must develop the strength to handle them.

Even as the battle against the existing
pandemic is being fought primarily by our healthcare workers, we can do our bit
by limiting our exposure to the virus by staying indoors, maintaining required
social distancing and following basic hygiene protocols to improve both
physical and social immunity levels.

shailesh.kwebmaker

Income – Accrual of income – Difference between accrual and receipt – Specified amount retained under contract to ensure there are no defects in execution of contract – Amount retained did not accrue to assessee Business loss – Bank guarantee for satisfactory execution of contract – Contract cancelled and bank guarantee encashed – Loss due to encashment of bank guarantee was deductible

42. CIT vs. Chandragiri
Construction Co.; [2019] 415 ITR 63 (Ker.) Date of order: 13^th
March, 2019; A.Ys.: 2002-03 to 2005-06; and 2007-08

Income – Accrual of income – Difference between accrual and receipt –
Specified amount retained under contract to ensure there are no defects in
execution of contract – Amount retained did not accrue to assessee

Business loss – Bank guarantee for satisfactory execution of contract –
Contract cancelled and bank guarantee encashed – Loss due to encashment of bank
guarantee was deductible

The assessee entered into a contract and furnished
a guarantee for satisfactory execution of the contract. There was a defect
liability period reckoned from the date of completion of the contract for which
period the awarder retained certain amounts for the purpose of ensuring that
there arose no defects in the work executed by the assessee. The assessee
claimed that the amount retained did not accrue to it. This claim was rejected
by the AO. The contract was cancelled by the awarder and the bank guarantee was
encashed. An arbitration proceeding was pending between the awarder and the
awardee. The assessee claimed the bank guarantee amount as business loss. The
AO disallowed the claim holding that till the arbitration proceedings were
concluded the assessee could not claim the amount as business loss.

The Tribunal allowed both the claims of the assessee.

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

‘i) Accrual
and receipt are two independent incidents and their matching or correspondence
in time in a given case, if so occurring, is purely a matter of coincidence,
both immaterial and irrelevant for the purpose of determining the fact of
accrual, which has to be on its own terms.

ii) By the specific terms of the contract itself, the awarder was
entitled to retain the amount so as to rectify any defects arising in the
period in which as per the terms of the contract the amount was retained. There
could be no accrual found on the completion of contract, since the assessee’s
right to such amount would depend on there being no defects arising in the
subsequent period during which the awarder was enabled retention of such
amounts.

iii) The
assessee did not have the amounts with it and the bank guarantee had been
encashed and it was a loss which occurred in the A.Y. 2007-08. It was
deductible.’

shailesh.kwebmaker

Section 55A of ITA 1961 – Capital gain – Cost of acquisition – Reference to Valuation Officer – Refusal by AO to make reference to Valuation Officer not proper – Matter remanded to AO for reference to Valuation Officer

41. C.V. Sunny vs. CIT; [2019] 415 ITR 127 (Ker.) Date of order: 19^th
March, 2019;

Section 55A of ITA 1961 – Capital gain – Cost of acquisition – Reference
to Valuation Officer – Refusal by AO to make reference to Valuation Officer not
proper – Matter remanded to AO for reference to Valuation Officer

The assessee, his son and
wife purchased land comprised in the same survey number for the same price on
the same day in 1975. The assessee and his son sold the land on 19^th
January, 2006 at the same price. The assessee showed the cost of acquisition of
the land as on 1^stApril, 1981 at Rs. 1,15,385 per cent, which was
later revised to Rs. 94,132 per cent. The AO did not accept this. He held that
since the cost of acquisition of land owned and sold by the assessee’s son as
on 1^st April, 1981 was fixed at Rs. 1,000 per cent, the cost of
acquisition of the land owned and sold by the assessee should also be fixed at
the same rate.

The Commissioner (Appeals) dismissed the appeal
filed by the assessee. The Tribunal found that the cost of acquisition
determined in respect of the land owned by the assessee’s son had been approved
by the court in the case filed by him. It held that there existed no
circumstances to make a reference u/s 55A of the Income-tax Act, 1961 as
contended by the assessee and that there was no illegality committed by the AO
and the Commissioner (Appeals) in adopting the same value as the cost of
acquisition in respect of the land owned and sold by the assessee.

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

‘i) The AO
should have made a reference to the Valuation Officer u/s 55A in respect of the
cost of acquisition of the land sold by the assessee.

ii) The AO
had taken it for granted that since the assessee and his son had purchased the
property in the same survey number on the same day at the same rate, the cost
of acquisition would not be different in respect of the two lands and therefore
it was not necessary to make a reference u/s 55A.

iii) In the
assessee’s son’s judgement the court had not approved or disapproved the
valuation of the capital asset made by the AO in respect of the land owned and
sold by the son of the assessee who did not seek any reference u/s 55A at the
first Appellate stage but raised such contention only before the Tribunal for
which reason the court did not interfere with the valuation of the land made by
the AO. Therefore, the authorities were not justified in holding that the court
had approved the cost of acquisition of the land owned and sold by the son of
the assessee as Rs. 1,000 per cent. Even before the AO, the assessee had
produced the report of a registered valuer and the assessee had based his claim
on the estimate made by the registered valuer. The AO had not shown any reason
whatsoever to have rejected the valuation made by the registered valuer.

iv) The
assessment order passed by the AO and the revised order as confirmed by the
Appellate authorities are set aside. The matter is remitted to the AO to make a
reference u/s 55A to the Valuation Officer.’

shailesh.kwebmaker

Sections 2(47) and 45(4) of ITA 1961 – Capital gains – Firm – Retirement of partners – Consequential allotment of their shares in assets in firm – Not transfer of capital assets – Provisions of section 45(4) not attracted – No taxable capital gain arises

40. National Co. vs. ACIT; [2019]
415 ITR 5 (Mad.) Date of order: 8^th April, 2019;A.Y.: 2004-05

Sections 2(47) and 45(4) of ITA 1961 – Capital gains – Firm – Retirement
of partners – Consequential allotment of their shares in assets in firm – Not
transfer of capital assets – Provisions of section 45(4) not attracted – No
taxable capital gain arises

The assessee was a partnership firm with four
partners. Two of the partners agreed to retire from the partnership business
and the remaining two partners, with their son being admitted as another
partner, continued the business. At the time of retirement of the two partners,
the assets and liabilities of the firm were valued and the retiring partners
were allotted their share in the assets in the firm. The AO made an addition on
account of capital gains u/s 45 of the Income-tax Act, 1961 on the ground that the long-term capital gains arose out of transfer of immovable
properties by the assessee to the retiring partners.

The Commissioner (Appeals) held that the reconstitution
of the partnership would not attract the provisions of section 45(4) and
deleted the addition made on account of long-term capital gains. The Tribunal
allowed the appeal filed by the Department and held that section 45(4) applied
to the assessee and that there was transfer of assets within the meaning of
section 2(47)(vi) of the Act.

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

‘i) When a
partner retires from a partnership he receives his share in the partnership and
this does not represent consideration received by him in lieu of relinquishment
of his interest in the partnership asset. There is in this transaction no
element of transfer of interest in the partnership assets by the retiring
partner to the continuing partner.

ii) The
provisions of section 45(4) would not be attracted on the retirement of the two
partners and consequential allotment of their share in the assets in the
assessee firm. There was only reconstitution of the firm on the retirement of
the two partners and admission of another partner. The partnership continued.
There was only a division of the assets in accordance with their entitlement to
their shares in the partnership, on the retirement of the partners. There was
no element of transfer of interest u/s 2(47) in the partnership assets by the
retiring partners to the continuing partners in this transaction.

iii) We
therefore answer the substantial question of law in favour of the assessee and
against the Revenue. The appeals of the assessee are allowed.’

shailesh.kwebmaker

Section 37 of ITA 1961 – Business loss –Embezzlement of cash by director of assessee – Recovery of amount or outcome of pending criminal prosecution against director before Magistrate Court – Not relevant – Deduction allowable

39. Principal CIT vs. Saravana
Selvarathnam Trading and Manufacturing Pvt. Ltd.; [2019] 415 ITR 146 (Mad.)
Date of order: 14^th March, 2019; A.Y.: 2012-13

Section 37 of ITA 1961 – Business loss –Embezzlement of cash by director
of assessee – Recovery of amount or outcome of pending criminal prosecution
against director before Magistrate Court – Not relevant – Deduction allowable

For the accounting year 2012-13, the assessee claimed as bad debt u/s 36
of the Income-tax Act, 1961 the amount embezzled by a director who dealt with
the day-to-day business activities. Upon the embezzlement being found out
during the internal audit, the director was removed from the board of
directors. A criminal prosecution against him was still pending before the
Metropolitan Magistrate. The Assessing Officer disallowed the claim for
deduction.

The Tribunal held that the conditions prescribed u/s 36(2) were not
complied with and therefore deduction of the embezzled amount could not be
allowed as bad debt but the embezzled amount claimed was allowable as a
business loss suffered by the assessee in the course of its business activity.

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

‘i) The embezzlement by one
of the directors or an employee of the business of the assessee during the
ordinary course of business would be a business loss irrespective of the
criminal prosecution of the director or employee. The final outcome of the
criminal proceedings or recovery of the amount in question would not determine
the claim of the assessee in the A.Y. 2012-13 when it was written off as a
business loss.

ii) The Tribunal had
rightly held it to be a business loss as it was treated to be only pilferage of
the assessee company’s funds by a director on the board of the company. No
question of law arose.’

shailesh.kwebmaker

IS GSTR3B A RETURN?

INTRODUCTION

Recently, the Gujarat High Court had occasion
to examine an interesting issue of whether GSTR3B is a return as envisaged u/s
16(4) of the CGST Act, 2017. In a detailed judgement, the Court held that the
press release dated 18^th October, 2018 could be said to be illegal
to the extent that it clarifies that the last date for availing input tax
credit relating to the invoices issued during the period from July, 2017 to
March, 2018 is the last date for the filing of returns in Form GSTR3B for the
month of September, 2018. The decision brings to the fore the risks of changing
tax compliance processes without supporting amendments in the legislative
framework.

GUJARAT HIGH COURT DECISION

The pivot of the entire debate revolved
around the time limit for claiming input tax credit as prescribed u/s 16(4) of
the Act. The said provision is reproduced below for ready reference:

A registered person
shall not be entitled to take input tax credit in respect of any invoice or
debit note for supply of goods or services or both after the due date of
furnishing of the return under section 39 for the month of September following
the end of financial year to which such invoice or invoice relating to such
debit note pertains or furnishing of the relevant annual return, whichever is
earlier,

¹Provided that the registered person shall be
entitled to take input tax credit after the due date of furnishing of the
return under section 39 for the month of September, 2018 till the due date of furnishing of the return under the
said section for the month of March, 2019 in respect of any invoice or invoice
relating to such debit note for supply of goods or services or both made during
the financial year 2017-18, the details of which have been uploaded by the supplier
under sub-section (1) of section 37 till the due date for furnishing the
details under sub-section (1) of said section for the month of March, 2019.

Since section 16(4) of the Act refers to a
return to be filed u/s 39, the Court directed itself to the provisions of
section 39(1) of the CGST Act which reads as under:

Every registered
person, other than an Input Service Distributor or a non-resident taxable
person or a person paying tax under the provisions of section 10 or section 51
or section 52 shall, for every calendar month or part thereof, furnish, in such
form and manner as may be prescribed, a return, electronically, of inward and
outward supplies of goods or services or both, input tax credit availed, tax
paid and such other particulars as may be prescribed, on or before the
twentieth day of the month succeeding such calendar month or part thereof.

The search for the correct return format then
led towards Rule 61(1) which prescribes GSTR-3 to be the form in which the
monthly return specified u/s 39(1) should be filed. The said Rule reads as
under:

Every registered
person other than a person referred to in section 14 of the Integrated Goods
and Services Tax Act, 2017 or an Input Service Distributor or a non-resident
taxable person or a person paying tax under section 10 or section 51 or, as the
case may be, under section 52, shall furnish a return specified under
sub-section (1) of section 39 in Form GSTR-3, electronically, through the
common portal either directly or through a facilitation centre notified by the
Commissioner.

The provisions of section 16(4), section
39(1), Rule 61(1) and many other provisions were drafted considering the
original workflow of a two-way transaction level matching through the processes
of filing GSTR-1 followed by auto population of credit in GSTR2A and matching
and self-claim in GSTR-2, resulting in the return in form GSTR-3. However, due
to various reasons, the compliance process was sought to be simplified through
the introduction of form GSTR3B. The same was done not though any amendment in
the Act, but through the introduction of Rule 61(5). The initial verbiage of
Rule 61(5) was as under:

Where the time limit
for furnishing of details in FORM GSTR-1 under section 37 and in form GSTR-2
under section 38 has been extended and the circumstances so warrant, return in
form GSTR3B, in lieu of form
GSTR-3, may be furnished in such manner and subject to such conditions as may
be notified by the Commissioner.

The said verbiage suggested that form GSTR3B
was a substitute for the filing of return in GSTR-3. However, the said verbiage
was substituted with retrospective effect with the following words:

Where the time limit
for furnishing of details in form GSTR-1 under section 37 and in form GSTR-2
under section 38 has been extended and the circumstances so warrant, the
Commissioner may, by notification, specify that return shall be furnished in
form GSTR3B electronically through the common portal, either directly or
through a facilitation centre notified by the Commissioner.

Based on the above, the Gujarat High Court
observed that the Notification No. 10/2017 Central Tax dated 28^th
June, 2017 which introduced mandatory filing of the return in form GSTR3B
stated that it is a return in lieu of form GSTR-3. However, the Government, on
realising its mistake that the return in form GSTR3B is not intended to be in
lieu of form GSTR-3, rectified its mistake retrospectively vide
Notification No. 17/2017 Central Tax dated 27^th July, 2017 and
omitted the reference to return in form GSTR3B being return in lieu of Form
GSTR-3.

The observations of the Gujarat High Court
treating GSTR3B not as a substitute of GSTR-3 but merely as an additional
compliance requirement have widespread ramifications and some of those aspects
are discussed in this article.

IS THERE A DUE DATE FOR CLAIMING INPUT TAX
CREDIT?

While the Gujarat High Court does lay down
that the press release clarifying that the due date of filing the GSTR3B for
the month of September, 2018 to be the due date for claiming input tax credit
is illegal, it does not define any specific date by which the input tax credit
has to be claimed. With the understanding that the return referred to in
section 16(4) is GSTR-3 and not GSTR3B, it may be relevant to once again read
the provisions of section 16(4) to decipher the due date.

It is evident that the provision prescribes
the earlier of two events as the last date for claiming input tax credit:

(i) Due date of furnishing GSTR-3 for
September, 2018 – which has been extended ad infinitum;

(ii) Due date of furnishing the relevant
annual return – to be filed in GSTR-9 as per the provisions of section 44 read
with Rule 80.

Therefore, in general cases, the input tax
credit has to be claimed before the due date of furnishing the annual return in
GSTR-9. However, it may be important to note that fresh input tax credit cannot
be claimed in annual return but has to be claimed in GSTR3B (in interim) and
the GSTR-2 (in finality, as and when it is operationalised). Therefore, it will
be important to claim the input tax credit in any GSTR3B filed before the due
date of the filing of the GSTR-9.

WHAT IS THE IMPACT OF ROD ORDER EXTENDING THE
TIME UP TO MARCH?

Through CGST (Second Removal of Difficulties)
Order, 2018, the Government inserted a proviso to section 16(4) and purportedly
sought to extend the September deadline to March. However, the decision of the
Gujarat High Court and the verbiage of the said proviso suggests a different
interpretation. Let us look at the proviso once again:

Provided that the
registered person shall be entitled to take input tax credit after the due date
of furnishing of the return under section 39 for the month of September, 2018
till the due date of furnishing of the return under the said section for the
month of March, 2019 in respect of any invoice or invoice relating to such
debit note for supply of goods or services or both made during the financial
year 2017-18, the details of which have been uploaded by the supplier under
sub-section (1) of section 37 till the due date for furnishing the details
under sub-section (1) of said section for the month of March, 2019.

On a fresh reading of the said proviso, one
would notice that the reference to annual return is missing in the proviso. It
merely refers to the return in section 39 (which as per the Gujarat High Court
decision is GSTR-3 and not GSTR3B) and specifies that the credit can be claimed
till the due date of furnishing the return in GSTR-3 of March, 2019. This
absence of any reference to annual return in this proviso effectively means
that the input tax credit can be claimed at any point of time till the
Government notifies the due date for GSTR-3. However, it may be noted that the
proviso is restrictive in nature and covers only cases where the invoices have
been uploaded by the supplier in form GSTR-1 by the due date of filing GSTR-1
for March, 2019.

AMENDMENTS TO GSTR-1

Section 37(3) of the CGST Act, 2017 permits
rectification of any error or omission of the details furnished in GSTR-1. However,
such rectifications are not permitted after the date of furnishing the return
u/s 39 (GSTR-3, as per the High Court interpretation) for the month of
September or furnishing of the annual return, whichever is earlier.

Applying the above observations relating to
input tax credit, the date of furnishing the annual return would be the outer
date before which the amendments to GSTR-1 can be carried out. It may be noted
that unlike section 16(4) which uses the phrase ‘due date’ of return, section
37(3) uses the phrase ‘date’ of furnishing the return.

WHAT IS THE DUE DATE OF PAYMENT OF TAX?

Section 39(7) prescribes the due date for
payment of tax. The said due date of payment of tax is linked to the date of
filing the return (GSTR-3, as per the decision of the High Court). Due to the
introduction of an interim return in GSTR3B, a proviso was inserted in section
39(7) to provide as under:

Provided that the Government may, on the
recommendations of the Council, notify certain classes of registered persons
who shall pay to the Government the tax due or part thereof as per the return
on or before the last date on which he is required to furnish such return,
subject to such conditions and safeguards as may be specified therein.

Apart from this, Rule 61(6) was inserted in
the CGST Rules, 2017 to provide as under:

Where a return in
form GSTR3B has been furnished, after the due date for furnishing of details in
form GSTR-2,

(a) Part A of the return in form GSTR-3 shall be
electronically generated on the basis of information furnished through form
GSTR-1, form GSTR-2 and based on other liabilities of preceding tax periods and
Part B of the said return shall be electronically generated on the basis of the
return in form GSTR3B furnished in respect of the tax period;

(b) the registered
person shall modify Part B of the return in form GSTR-3 based on the
discrepancies, if any, between the return in form GSTR3B and the return in form
GSTR-3 and discharge his tax and other liabilities, if any;

(c) where the amount
of input tax credit in form GSTR-3 exceeds the amount of input tax credit in
terms of form GSTR3B, the additional amount shall be credited to the electronic
credit ledger of the registered person.

The above provisions have to be read along
with Notification 23/2017 prescribing return in form GSTR3B. Para 2 of the said
Notification lays down the condition requiring the discharge of the tax payable
under the Act. The phrase ‘tax payable under the Act’ is defined under clause
(ii) of the Explanation to mean the difference between the tax payable as
detailed in the return furnished in form GSTR3B and the amount of input tax
credit entitled to for the month.

Having reconciled to the position that GSTR3B
is an additional compliance return and not a substitute for GSTR-3, the
following propositions emerge:

(1) GSTR3B is an additional ad hoc
compliance requirement (akin to advance tax requirement under income tax);

(2) As and when the process of GSTR-2 and
GSTR-3 is operationalised, the difference between the tax payable as per GSTR3B
and GSTR-3 shall be payable under Rule 61(6)(b). There is no reference to any
interest payable on such difference and since the due date of the said payment
is not notified, it is not evident whether there is a delay in the said
payment;

(3) Similarly, Rule 61(6)(c) would also
permit the differential input tax credit to be credited to the electronic
credit ledger at that point of time.

THE WAY FORWARD

The Gujarat High Court decision clearly
demonstrates the perils of administering the law through notifications and
bringing about fundamental amendments to processes and compliances without
corresponding legislative amendments. It is important for the Government to
look at this decision as a wake-up call and review comprehensively all such
disconnects in law and practice and propose suitable amendments in the
legislative framework so that the law is aligned to the practices expected of
the taxpayers.

shailesh.kwebmaker

INTEREST U/S 201(1A) WHERE PAYEE IS INCURRING LOSSES

ISSUE FOR CONSIDERATION

Section 201(1) of the Income-tax Act, 1961
provides that where any person, who is required to deduct any sum in accordance
with the provisions of the Act, does not deduct, or does not pay, or after so
deducting fails to pay the whole or any part of the tax as required under the
Act, then he is deemed to be an assessee in default in respect of such tax. The
proviso to this section, inserted with effect from 1^st July, 2012,
provides that such a person shall not be regarded as an assessee in default if
the payee has furnished his return of income u/s 139, has taken into account
the relevant sum (on which tax was deductible or was deducted) for computing
his income in such return of income, and has paid the tax due on the income
declared by him in such return of income and has furnished a certificate to
this effect from an accountant in form 26A prescribed under rule 31ACB. An
amendment by the Finance Act (No. 2) 2019, not relevant for our discussion, has
been made to apply the proviso to the case of a payee, irrespective of his
residential status.

Sub-section (1A) of section 201, without
prejudice to section 201(1), provides for payment of interest at the prescribed
rate for the prescribed period by the person who has been deemed to be in
default; however, in case of a person who has been saved under the proviso as
aforesaid with effect from 1^st July, 2012 such interest shall be
paid from the date on which such tax was deductible by him to the date of
furnishing of the return of income by the payee.

A question has arisen before the High Courts
as to whether any interest u/s 201(1A) is payable by the payer on failure to
deduct tax at source, in a case where the payee has filed a return of income
declaring a loss. While the Madras, Gujarat and Punjab and Haryana High Courts
have taken the view that interest is payable even in such cases, the Allahabad
High Court has taken a contrary view, that no interest is payable in such a
case.

DECISION IN SAHARA INDIA COMMERCIAL CORPN.
LTD. CASE

The issue came up before the Allahabad High
Court in the cases of CIT (TDS) vs. Sahara India Commercial Corporation
Ltd. (ITA Nos. 58, 60, 63, 68 and 69 of 2015 dated 18^th January,
2017).

In those cases pertaining to the period
prior to the amendment of 2012, the assessee had made payments to a sister
concern, Sahara Airlines Ltd., without deducting the tax at source, which had
suffered loss in all the relevant years. While interest u/s 201(1A) had been
levied by the AO, the Tribunal had held that if the recipient payee had filed
all its returns for those years declaring loss in all the relevant assessment
years, interest u/s 201(1A) could not be charged on the payer assessee.
According to the Tribunal, the fact that the loss declared by the recipient in
its return on assessment turned into a positive income, would not make a
difference inasmuch as the tax demand was on account of difference between the
returned income and assessed income and not because of non-deduction of tax by
the assessee payer, and hence it would not alter the situation and no interest
was payable by the payer.

Since no evidence was placed before the
Tribunal regarding the claim of incurring of losses by the recipient, it
restored the matter to the AO for verification that the recipient had filed all
its returns for those years declaring loss in all the relevant assessment years
and there was no tax liability on the receipts at any point of time. The
Tribunal had held that if it was established that the recipient had filed all
its returns for those years declaring loss in all the relevant assessment
years, interest u/s 201(1A) could not be charged on the assessee payer.

On an appeal by the Revenue, the Allahabad
High Court noted that the question about liability of interest u/s 201(1A) had
also been considered by the same court in Writ Tax No. 870 of 2006 in
Ghaziabad Development Authority vs. Union of India and others, wherein
it had been held that the nature of interest charged u/s 201(1) was
compensatory and if the recipient had already paid tax or was not liable to pay
any tax whatsoever, no interest u/s 201(1A) could have been recovered from the
assessee for the reason that interest could have been charged for the period
from when tax was due to be deducted till the date the actual amount of tax was
paid by the recipient; if there was no liability for payment of tax by the
recipient, the question of deduction of tax by the assessee payer would not
arise and the interest also could not have been charged.

The Allahabad High Court following its own
decision approved and confirmed the view taken by the Tribunal, that no
interest u/s 201(1A) was chargeable in a case where the payee had filed a
return of loss.

A similar view, that no interest was
chargeable u/s 201(1A) in cases where the recipient had returned losses, has
been taken by the Income Tax Appellate Tribunal in the cases of Allahabad
Bank vs. ITO 152 ITD 383 (Agra), National Highway Authority of India vs. ACIT
152 ITD 348 (Jab.), Haldia Petrochemicals Ltd. vs. DCIT 72 taxmann.com 338
(Kol.), and Reliance Communications Ltd. vs. ACIT 69 taxmann.com
307 (Mum.).

THE PUNJAB INFRASTRUCTURE DEVELOPMENT BOARD
DECISION

The issue had also come up before the Punjab
and Haryana High Court in CIT vs. Punjab Infrastructure Development Board 394
ITR 195.

In that case, the assessee entered into
contracts with concessionaires for achieving its objects under various models
such as the ‘Build Operate and Transfer’, ‘Design Build Operate and Transfer’
and ‘Operation and Management’ models. Under those contracts, payments were made
to various concessionaires without deduction of tax at source. The AO had held
that the assessee was liable to deduct tax at source on such payments u/s 194C
and, having failed to do so, levied interest u/s 201(1A).

The Commissioner (Appeals) allowed the
assessee’s appeals, holding that no tax was deductible u/s 194C. Since the
assessee was not liable to deduct tax at source at all, the Commissioner
(Appeals) deleted the interest charged u/s 201(1A).

The Income Tax Appellate Tribunal dismissed
the appeals of the Revenue, accepting the assessee’s alternative argument that
the assessee was not liable to interest u/s 201(1A) on account of the fact that
the payees had filed their returns, which were nil returns or returns showing a
loss, and the sums paid were included in such return of income. The Punjab and
Haryana High Court, on appeals by the Revenue, analysed the provisions of
section 201. Though these appeals pertained to assessment year 2007-08, the
High Court thought fit to analyse the amendment of 2012 by way of insertion of
the provisos to sub-section (1) and sub-section (1A), since it was contended
that these amendments were clarificatory in nature and therefore had
retrospective effect. The High Court observed that even if the proviso to
sub-section (1) was held to be not retrospective, it would make no difference
to the assessee’s case in view of the judgement of the Supreme Court in the
case of Hindustan Coca-Cola Beverage (P) Ltd. vs. CIT 293 ITR 226,
where the Supreme Court held as follows:

‘10. Be that as it may, circular No.
275/201/95-IT (B) dated 29.1.1997 issued by the Central Board of Direct Taxes,
in our considered opinion, should put an end to the controversy. The circular
declares “no demand visualised under section 201(1) of the Income Tax Act
should be enforced after the tax deductor has satisfied the officer in charge
of TDS, that taxes have been paid by the deductee assessee.” However, this
will not alter the liability to charge interest under section 201(1A) of the
Act till the date of payment of taxes by the deductee assessee or the liability
for penalty under section 271C of the Income Tax Act.’

According to the Punjab and Haryana High
Court, the last sentence made it clear that even if the deductee had paid the
tax dues, it would not alter the liability of the payer of the sum to pay
interest u/s 201(1A) till the date of payment of taxes by the deductee. Thus,
according to the High Court, even prior to the amendment on 1^st
July, 2012, the liability to pay interest u/s 201(1A) was there even in cases
where the deductee had paid the tax dues.

The Court observed that the language of
section 201 was clear and unqualified; it did not permit an assessee to decide
for itself what the liability of the deductee was or was likely to be; that it
was a matter for the AO who assessed the returns of the deductee; and it was in
fact not even possible for him to do so inasmuch as he could not have
ascertained with any degree of certainty about the financial position of the
deductee. According to the High Court, a view to the contrary would enable an
assessee to prolong the matter indefinitely and, if accepted, it might even
entitle the assessee to contend that the adjudication of the issue be deferred
till the finalisation of the assessment of the deductee; that such could never
have been contemplated by the legislature; and that the language of section 201
did not even suggest such an intention.

The Punjab and Haryana High Court also
referred with approval to the decisions of the Madras High Court in the cases
of CIT vs. Ramesh Enterprises 250 ITR 464 and CIT vs.
Chennai Metropolitan Water Supply and Sewerage Board 348 ITR 530. The
Court agreed with the view that the terminal point for computation of interest
had to be taken as a date on which the deductee had paid taxes and filed
returns, even before the amendment. The Court also observed that section 197
militated against the deductor unilaterally not paying or paying an amount less
than the specified amount of TDS, by itself deciding the deductee’s liability
to pay tax or otherwise.

In conclusion the Court held that interest
u/s 201(1A) was chargeable even if the deductee had incurred a loss, though it
remanded the matter back to the Tribunal for deciding on the applicability of
section 194C.

The Gujarat High Court, in the case of CIT
vs. Labh Construction & Ind. Ltd. 235 Taxman 102, has taken a
similar view that interest was payable in such a case, though holding that the
liability to pay interest would end on the date on which the assessment of the
deductee was made.

OBSERVATIONS

The purpose of charging the interest in
question is to ensure that the Revenue is compensated for late payment of the
tax from the period when it was due till the time it was recovered. Where no
tax is due, the question of payment of any compensatory interest should not
arise at all unless it is penal in nature. In ascertaining the fact of payment
of taxes, due credit should be given for the taxes paid by the payee and also
to the fact that the payee was otherwise not liable to tax. The Gujarat High
Court, in the case of CIT vs. Rishikesh Apartments Co-op. Housing Society
Ltd. 253 ITR 310, has observed:

‘From the legal provisions discussed
hereinabove, it is crystal clear that in the instant case, Ravi Builder, on
whose behalf the tax was to be paid by the assessee, had duly paid its tax and
was not required to pay any tax to the Revenue in respect of the income earned
by it from the assessee. If the tax was duly paid and that too at the time when
it had become due, it would not be proper on the part of the Revenue to levy
any interest under section 201(1A) of the Act, especially when the builder had
paid more amount of tax by way of advance tax than what was payable by it. As
the amount of tax payable by the contractor had already been paid by it and
that too in excess of the amount which was payable by way of advance tax, in
our opinion, the Tribunal was absolutely right in holding that the tax paid by
the contractor in its own case, by way of advance tax and self-assessment tax,
should be deducted from the gross tax that the assessee should have deducted
under section 194C while computing interest chargeable under section 201(1A) of
the Act. If the Revenue is permitted to levy interest under the provisions of
section 201(1A) of the Act, even in the case where the person liable to be
taxed has paid the tax on the due date for the payment of the tax, the Revenue
would derive undue benefit or advantage by getting interest on the amount of
tax which had already been paid on the due date. Such a position, in our
opinion, cannot be permitted.’

A similar view has been taken by the Bombay
High Court in the case of Bennett Coleman & Co. Ltd. vs. ITO 157 ITR
812, that interest is compensatory interest in nature and it seeks to
compensate the Revenue for delay in realisation of taxes. Interest should be
charged only where tax is due and if
found to be due, for the period ending with the payment of such tax. In a case
where the payee has a loss, there is no question of payment of any tax by the
payee, and therefore the question of payment of interest by the payer also
should not arise.

The deductor
cannot be held to be an assessee in default if tax has been paid by the
deductee. Once this non-payment of taxes by the recipient is held as a
condition precedent to invoking section 201(1), the onus is then on the AO to
demonstrate that the condition is satisfied. It is for the AO to ascertain
whether or not the taxes have been paid by the recipient of income – Hindustan
Coca-Cola Beverages (Supra).The question of making good the loss
of Revenue by way of charging of interest arises only when there is indeed a
loss of revenue, and loss of revenue can be there only when the recipient has a
liability to tax and has yet not paid the tax. It is also necessary for the AO
to find that the deductee has also failed to pay such tax directly before
treating the payer as an assessee in default. In Jagran Prakashan Ltd.
vs. Dy. CIT, 345 ITR 288:

‘…The issue on hand, of charge of
interest u/s 201(1A), cannot be adjudicated in cases where the payee has filed
a return of loss, by relying on the non-contextual observation or an obiter dicta of the decision in the case of Hindustan
Coca-Cola Beverage (P) Ltd. vs. CIT 293 ITR 226. In that case, the issue
was about the treatment of the assessee in default or not where the payee had
otherwise paid taxes and the apex court held that the payer was not to be
deemed to be an assessee in default. The issue of interest u/s 201(1A) was not
before the Court. The Court, applying the circular of 1997, held that the payer
was not an assessee in default and stated, though not being called to do so,
that the decision had no implication on the liability to pay interest u/s
201(1A) for the period up to the date of payment by the payee. It is
respectfully stated that a part of the observations of the decision should not
be used to apply to the facts that are materially different and not in the
context…’

The better view therefore seems to be that
of the Allahabad High Court that no interest is chargeable u/s 201(1A) in a
case where the deductee has incurred losses during the relevant assessment year
and has no income chargeable to tax and no tax was payable by the payee and
that there was no loss to the Revenue.

It is relevant
to note that the decisions referred to and analysed here are in respect of the
period before 1^st July, 2012
with effect from which date provisos have been inserted in section
201(1) and (1A). The first amendment in section 201(1) provides that an
assessee shall not be deemed to be in default in cases where the conditions
prescribed are satisfied, the main condition being the payment of taxes by the
payee. It can therefore be safely stated that the amendment in sub-section (1)
is providing the legislative consent to the law laid down by the courts and
discussed here, and to that extent there is no disagreement between the
taxpayers and the tax gatherers.

Whether the same can be said of the second
amendment in section 201(1A) by way of insertion of the proviso therein which
has the effect of providing for payment of interest by the payer, for the
period up to the date of filing the return of income? Can it be said that
interest under sub-section (1A) shall be payable in cases governed by the
proviso to section 201(1A) for the period up to the date of filing of return by
the payee now that an express charge has been created for such payment? In our
considered opinion, no interest shall be payable by the payer in a case where
the payee has filed a return of loss or where he has paid taxes on its income
before the year-end, for the following reasons:

(i) Sub-section (1A) creates a charge for
payment of interest without prejudice to the fact that the payer is not treated
as an assessee in default. In other words, the charge is expected to
stick even where the payer is not treated as an assessee in default. It is
possible to seriously contend that an independent charge for levy of interest
is not sustainable where the assessee is not held to be in default and there
otherwise is no loss of revenue. In the circumstances, for the Revenue to
demand compensation may not hold water;

(ii) The courts, as noted above, without the
benefit of the amendments, have held that no interest u/s 201(1) was chargeable
in the facts and circumstances discussed here. The ratio of these decisions
should help the assessee to successfully plead that no interest is payable by
the payer where no tax is found to be payable by the payee even after the
amendment of section 201(1A);

(iii) With insertion of the proviso to
sub-section (1), it is clear that the legislature intends to exempt the payers
who ensure the compliance of the prescribed conditions. This intention should
be extended to interest under sub-section (1A) as well;

(iv) A proviso to the main section should be
applied only in cases where the main section is otherwise found to be
applicable; in cases where there is no ‘failure’ on the part of the payer, the
question of applying the proviso should not arise. The proviso here has the
effect of limiting the liability and not expanding it. In that view of the
matter, the insertion of the proviso should not be read to have created an
independent charge for levy of interest. In other words, the understanding
prevailing before the insertion w.e.f. 1^stJuly, 2012 has not
changed at all qua the levy of interest;

(v) For the charge of interest under
sub-section (1A) to succeed, it is essential to establish the failure to deduct
tax or pay tax; such failure has to be determined w.r.t. the liability to
deduct and / or pay which in turn is linked to the liability of the payee to
taxation. In cases where the payee is not otherwise liable to pay any taxes, it
may be very difficult to establish failure on the part of the payer;

(vi) Cases where the payee has filed the
return of loss or where it has paid taxes before the year-end, have a much
better case for exemption from interest.

shailesh.kwebmaker

71ST ANNUAL GENERAL MEETING 9TH JULY, 2019

The 71^st
Annual General Meeting of the BCAS was held at the Yogi Sabhagruha, Dadar, on
Tuesday, 9^thJuly, 2019.

The President,
Mr. Sunil Gabhawalla, took the chair and called the meeting to order. All
business as per the agenda contained in the notice was conducted, including
adoption of accounts and appointment of auditors.

Mr. Mihir
Sheth, Hon. Joint Secretary, announced the results of the election of the
President, Vice-President, two Secretaries, Treasurer and eight members of the
Managing Committee for the year 2019-20.

OFFICE-BEARERS

President Mr.
Manish Sampat

Vice-President Mr.
Suhas Paranjpe

Joint Secretary Mr.
Mihir Sheth

Joint Secretary Mr.
Samir Kapadia

COMMITTEE MEMBERS

Anil Doshi Chirag
Doshi

Bhavesh Gandhi Divya
Jokhakar

Jagdish Punjabi Rutvik
Sanghvi

Kinjal Shah Mandar
Telang

CO-OPTED MEMBERS

Anand Bathiya Zubin
Billimoria

Vaibhav Manek Hardik
Mehta

Ganesh Rajagopalan Shreyas
Shah

EX-OFFICIO

(Outgoing President) Sunil Gabhawalla

Member (Publisher) Raman
H. Jokhakar

The ‘Jal Erach
Dastur Awards’ for the features and articles appearing in the BCAS Journal
during the year 2018-19 were presented to CA Dolphy D’Souza (Best Feature) and
Ms Priya Sawant (Best Article).

The book,
‘Input Tax Credit Under GST’, authored by CA Darshan Ranavat, was officially
released on the occasion.

Before the
conclusion of the AGM, members, including Past Presidents of the BCAS, were
invited to share their views and observations about the Society.

The Founding Day
lecture was delivered at the end of the formal proceedings of the AGM. It was
an outstanding oration by Mr. Pinakin Desai, the well-known professional who
spoke on the ‘Finance Bill’ before a capacity audience that heard him in
pin-drop silence.

OUTGOING PRESIDENT’S
REPORT

Sunil
Gabhawalla: As I rise
before you for the last time as the President of this esteemed Society, I have
mixed emotions of fulfilment and joy – Fulfilment at having lived a year full
of purpose and the joy of handing over the baton to a worthy Incoming
President, Manish, who also has become a very dear friend during the BCAS
journey.

In my
acceptance speech I had presented the annual plan for BCAS year 2018-19
focussing on the expectations of the common man, which we had identified to be
broadly in four distinct sets – “Re-engineer myProfession”, “Re-kindle
myPassion”, “Re-store myPride” and “Re-juvenate myBCAS”. In alignment with this
annual plan, the Managing Committee and the nine Sub-Committees delivered
around 233 events, 19 publications, 12 editions of the BCAJ, 12 digital assets,
24 representations and countless interactions both in person and online, easily
resulting in an average touch-point of more than one on each working day and
clocking a little over 180,000 hours of education. Before moving ahead, there
is one honest confession to make. At the start of the year, when I gazed
through the crystal ball, I had never imagined that we would achieve this
volume and quality, but the stupendous work undertaken by numerous volunteers
made this possible. My heart is filled with gratitude to each one of them.

Full credit is
due to the Chairmen and Co-Chairmen of the Committees. Totalling 11 in all,
they constituted the Dream World Cup Team which could easily win any match. I
am a strong believer of
the BCAS policy of having a Past President as a Chairman of the Committee. In
my view, it is the key differentiator of the Society as compared to other
organisations. During the year, I have witnessed each of the Chairmen spending
considerable time and energy in the cause of the Society – not only by sharing
the experience and providing balanced perspective, but also through actual
execution. It was not uncommon for a Chairman to even sit down and draft an
announcement. In fact, the eye for minute detail and the commitment of these
personalities brings soul to each event and publication and provides that
impeccable quality, event after event, publication after publication. I request
you all to join hands in acknowledging their role towards the growth of the
Society.

It is now time
to recognise the selfless efforts of the other members of the Core Group – the
Conveners, Course Coordinators and Committee Members. Each of the 43 Committee
/ Sub Committee meetings was full of excitement, ideas and enthusiasm. When the
springboard itself is so strong and the execution thereafter is also flawless,
it is not a surprise that, year after year, the Society, despite stiff
competition and a structural defect of no CPE Credit, surpasses the
achievements of the previous year.

The vision
statement of the Society starts by emphasising that it shall be a
learning-oriented organisation. Content therefore is the key ingredient to such
learning. The faculties, authors, brains trustees, panellists constitute the
nucleus around which the other substance is woven. We need to thank them for
selflessly sparing time out from their busy schedule towards the noble cause of
the Society.

Let me take a
small pause in my thanksgiving endeavour and bring my attention back to the
annual plan. Befitting the theme, we did try to concentrate our energies on the
common man and his four expectations. The sheer volume of the events indicated
earlier presents an impediment in showcasing each one of them. While each of
the events was a precious gem, some initiatives stood out distinctly and it
would not be out of place to revisit some fond memories of such events.

You would all
agree that the profession is passing through very interesting times and needs
re-engineering. The Society continuously held lecture meetings on innovative
topics like ‘the impact of technology on the role of auditors’”, ‘making
internal audit count’, ‘changing risk landscape for audit profession’, ‘AI, ML
and future of internal audit’, etc., where eminent personalities like P.R.
Ramesh, T.N. Manoharan, N.P. Sarda and Shailesh Haribhakti challenged the status
quo and presented their impression of how the profession would evolve in
the future. While these events dealt with the future of the profession, many
lecture meetings catered to the immediate needs of the members on a real-time
basis. Be it understanding the GST Returns or Audit Reports or the
newly-introduced ‘Banning of Unregulated Deposit Scheme’, the Society was
always at the forefront in organising such events. We had the occasion to
invite the CEO of GSTN Prakash Kumar to share his experiences on the GSTN
Portal, whereas senior Department officials addressed us on the TDS and VAT
Amnesty Scheme. We also requested seniors and subject experts from our Core
Group to speak on varied topics ranging from filing of income tax returns to
CSR, Important Amendments relevant to Audit, Important Direct Tax Decisions and
so on.

With a view to
keep the knowledge delivery crisp, relevant and participative, the panel
discussion format was introduced in many events – Corporate Law NRRC and
Internal Audit Conclave being a few examples. Panel discussion as a format was
also found popular and effective in RRCs – be it the General RRC or the ITF or
the GST RRC. We had events like the Real Estate Seminar, Tech Summit, etc.,
designed totally on the format of panel discussion. We also conducted many
industry-specific events like the workshops on NBFCs, Charitable Trusts and
Real Estate.

Taking the cue
from the successful long-duration courses on topics like DTAA, FEMA and
Advanced Transfer Pricing conducted since many years, a new long-duration
course on GST was successfully conducted during the current year. Over and
above these courses, many curtain-raiser courses covering the fundamentals of
the domain were also organised – Internal Audit 101 Series and GAAR Workshop
being examples.

The year saw an
increased focus on the use of technology. Be it Courseplay, Youtube and the
other social media or the digital video initiative of ‘Tax GuruCool’, members
were no longer constrained due to geographical limitations. A series of
workshops around effectively using proprietory software like SAP, Power BI,
IDEA, etc. were organised to equip the members to scale up their offerings. The
Tech Summit was an excellent event which showcased the endless possibilities
offered by technology solutions to our members. A few interesting concepts of
sponsorships and exhibition stalls were tried for the first time at the Society
and they were well received by the participants.

The five
residential courses of the Society were very popular and successful. We tried
many new concepts in the General RRC held at Agra, including a full day devoted
to practice management-related topics. The Society regularly conducted joint
events with other organisations like DTPA, JCAG, IIA, IMC, CTC, GSTPAM, AIFTP,
MCTC, FFE, etc. While some of these provided a geographical penetration, some
provided the Society an exposure to a different target audience.

In order to
re-inculcate the reading habit, the nine study circles were rejuvenated and
made more participative. Structured section-wise reading of the GST Law was
also attempted by a select group of invited faculties through the Intensive
Study Group concept in order to develop interpretation skills in this nascent
law.

Students
constitute the future of the profession. The triangle of graduation studies, CA
curriculum and article training leaves little time for recreation and
self-reflection. It’s indeed events like Tarang which bring out their
latent skill sets and give them the much-needed break from the monotony. The
Students’ Study Circle was also reactivated and found a lot of interest due to
the choice of relevant topics and faculties.

The Society,
jointly with the BCAS Foundation, undertook various social causes like tree
plantation, blood donation camps, heritage walk, etc. It also undertook the
task of providing relief to the victims of the Kerala floods.

The Journal
Committee celebrated the 50^th year of the BCAJ by
commemorating feature writers who have written for more than five years. I
would like to place on record special appreciation for the Editor Raman
Jokhakar who led the year from the front. The Golden Year glowed even more
bright under your able leadership.

During the
year, the Society made a series of representations to the government
authorities on varied topics. Most of these representations received keen
interest from the policy makers and the Society was frequently invited to
present its views on various proposed legislations. A substantial portion of
the simplified GST Audit Report finds its roots in the recommendations and
efforts of the Society. The recent interpretation on the role of the GST
Auditor was being canvassed by the BCAS right from day one and it is satisfying
to find the said interpretation being revalidated by the government. The
Society also connected with other professional organisations in jointly
representing various other issues before the government. This effort also
received good media coverage and made the government act upon some of the
representations.

It’s time to
revert back to the thanksgiving. It’s now the turn of the office-bearers –
Manish, as an able Vice-President, provided the vital back-end support
throughout the year and also acted as a wise sounding board for any new
adventures or misadventures that came to my mind. With Suhas ably handling the
Treasury, I did not have to worry about finance and accounts. Mihir was the
go-to person for all Information Technology-related initiatives and issues,
whereas Abhay was the strong support for the events, including the Committee
meetings. I just cannot thank them enough. Together, we could divide activities
based on our strengths and generate synergies which helped us achieve what we
had dreamt of. My thanks are also due to their spouses – Poonam, Nita, Nipa and
Awani.

How can I miss
thanking my spouse? Thank you Jayashree for supporting me throughout the year
with your perspectives and also taking good care of Prakruti and Hriday.

Not coming from
a large firm background, there was always an anxiety about whether the BCAS
commitment would impact the professional practice. I am really blessed that my
partners and my team at SBGCO took on the baton really well and managed my
practice so that I could concentrate on fulfilling my obligations at BCAS. My
special thanks to Parth, Yash, Darshan and everyone at team SBGCO for walking
the extra mile. At a young age, you have set an example for many others to
emulate. The year came with lots of pressure on my time and helped me discover
my priorities. This discovery will go a long way in moulding my future – my gym
instructor is waiting for more regular visits from my side and so is the couch
in my library. After a year-long sabbatical, it is now time to accept speaking
assignments as also fulfil the promises made to family and friends.

My best wishes
and congratulations to the new team at the BCAS; I would like to wish Manish
all the best for an illustrious year ahead. Having interacted with him closely,
I am fully confident that he will take the Society to even greater heights
during his tenure.

Thank you.

INCOMING PRESIDENT’S
SPEECH

Manish
Sampat: I take this
opportunity to congratulate my predecessor Sunil for a fabulous and memorable
year at the helm of our Society, which comes to an end today. During the last
one year he has led by example and has ensured that the quality of service to
all the members is taken to greater heights. Now this has made my life much
more difficult, because the bar of expectation has risen so much that I will
have to do a tremendous effort just to equal it. As I embark on my journey as
President of this prestigious Society, I am both humbled and honoured and would
like to thank all of you and in particular the Past Presidents of the Society
for bestowing this honour on me, showing confidence in my capabilities and
considering me worthy of this position.

It is a matter
of great satisfaction, sense of achievement and pride for me, both personally
and professionally. I am also aware that along with position come greater
responsibility, dedication and commitment. I assure you of my best efforts and
promise you that I will strive to deliver to the best of my ability. I look
forward to the same love, support, encouragement and understanding that you
have been showing to all our Presidents in the past.

Our Society was
formed in 1949 and as we celebrate 70 years of our existence today and of our
service to our members… 70 years is no small achievement and I salute the founders
who had the vision to form this Society seven decades ago… and the
contributions of all the Past Presidents to bring this Society to its current
position. The Society has always offered mentorship, nurtured leadership and
given several highly successful torch-bearers to the profession.

Today I am in
front of you because of two reasons. One is that I am a chartered accountant
and the second is that I am associated with this Society. Before I share my
annual plan with you, I want to share with you a very short story. A story of a
typical South Bombay attitude boy, happy-go-lucky boy who was never bothered in
life, never serious about anything, who also used to do DJ-ing in his college
days, and immediately joined his father’s business during his college days.
After completing his graduation, he had only two wishes, one was to take the
family business forward, and second, was to get married. In fact, he had also
told his parents to find a suitable girl for him. But, in fact, life had
something else in store for him and his destiny was to take him somewhere else.

His father,
Pratap Sampat, was the only person who wanted him to be a CA, but since he
could not convince him, he took him to his family friend, Pravinchandra N.
Shah, who was a chartered accountant and also a family friend and he convinced
him (the boy) to become a chartered accountant. So he started his articles and
that’s how the story began, that’s where the seeds were sown. He started
enjoying what he was doing during his internship. All throughout, his pillar of
strength and inspiration was naturally his mother, Rohini Sampat.

When he started
his CA and during his exams, when he used to get up at 3 or 4 o’clock in the
morning to study, his mother used to give him coffee and sit across the table
just looking at him, as if he is the only person in the world doing his CA.
Even today, she remains a very comforting factor and a pillar of strength.

While doing his
articles, that boy met this pretty girl Poonam and things happened and she
would go on to become his wife and she would give him two lovely children,
Daksh and Kanishka.

Friends, the
rest is history, that naughty boy, that happy-go-lucky chap, that person who
was never serious in life, is today in front of you. Today, I want to thank my
Mom and Dad for shaping my destiny. I mean, they are the real reason why I am
there, and had they not been there, I don’t know where I would have been.
That’s one part of my journey.

The second part
of my journey is that after becoming a CA, even before my results came out, I
immediately plunged into practice. At my very first client meeting I met this
gentleman, he told me in his style, ‘Betaji, do you know about BCAS? Are you a
member of BCAS?’ I said no, but I will become a member. ‘Narang Sahib, thank
you for introducing me to this lovely Society.’

Soon after
that, I met this man Shariq Contractor. I do not have words to describe him. He
has been a friend, a mentor, a philosopher, a father-figure, an elder brother,
and he is always available for me whenever I require him. Even today, I can
discuss any matter with him, be it personal or otherwise. In fact, on my
membership card, I have been fortunate to have as proposer and seconder, Narang
Sahib and Shariq Contractor. After that, whenever I have filed a nomination
form at the BCAS, Shariqbhai and Gautambhai (Gautam Nayak) have always been my
proposer and seconder.

The story
doesn’t end there. After starting my practice, once, coincidentally, while at
the Tardeo Income tax office, I met this gentleman; after I greeted him, he
walks away and then comes back and says, are you a member of the BCAS? I said, yes, I am. He asked,
are you a part of the core group? My reply was ‘No’, I don’t know what is core
group. He said, why don’t you become a part of a core group? ‘We are just
forming a new committee, the HRD Committee, why don’t you become part of the
HRD Committee?’ I don’t think Amitbhai (Ameet Patel) will remember, but I had
asked, what would I have to do? He said, ‘you don’t have to do anything. Our
Chairman is so good that he does all the good work and you just sit and enjoy’.
That’s how my journey in the core group began, and I remember I started as a
course coordinator of the public speaking class which used to take place at
BCAS’s old office – Churchgate Mansion and I used to attend on Saturdays and
that’s where my first extended family of BCAS, my gang, was formed.

Similarly,
Pradeepbhai (Pradeep Shah) has been a great inspiration for me and the lessons
that he has taught me have really benefited me. In fact, in my annual plan, one
arm of the plan is what I have learned from him. I remember he always joked
with me. Once, I was going with him in his car as we used to stay close to each
other. His car broke down and I had to push his car. And till the very last, he would pull my leg
and tell people that he used to harass
me a lot and made me push his car! But I am sure, Pradeepbhai, wherever you
are, you are looking at us and blessing us all. One more thing about him. On
many occasions he used to tell me, ‘Manish, if you want to become President of
the BCAS, either you change your name to Rajesh or you join CNK’. I couldn’t
change my name, so I joined CNK.

My journey as
an office-bearer… In 2015-16, Raman (Raman Jokhakar) invited me to be a part
of the Office-Bearers and I don’t know whether it was by choice or by
compulsion, that he couldn’t find anyone. But yes, I agreed. And, rather than
being the Secretary, I volunteered to be the Treasurer. But between his and
Chetan’s (Chetan Shah) year, they made me sign so many cheques that I felt like
the second richest person in India after Mukesh Ambani! In those two years as
Treasurer I got a full control, a grip of the accounts, the financials and the
operations of the BCAS. That’s what helped me.

After him,
Narayan (Narayan Pasari) pushed me out of my comfort zone and made me take up
Secretary ship. What I learned from him was an eye for detail. He had such an
eye for detail that he could pick a needle from a haystack. Actually it was in
this year that I got more involved, I got more engaged with BCAS and got into
the groove. I started thinking about the direction in which I wanted to take
the Society and how I could contribute to it.

Next came Sunil
(Sunil Gabhawalla). What can I say about this leader… par excellence? The
name Sunil itself has Su-Nil, which means good, dark blue, which means that it
represents Lord Krishna. Actually, Sunil has been a stern and strict but
understanding leader, who would accept no nonsense, and an intellectual leader.
Whatever I say about him will be insufficient. On many occasions I got a chance
to talk to him and I remember that in
one of the conversations he told me, ‘Manish, I have two big dream projects in
my year. One, I want my RRC to be remembered. I want a fabulous RRC, and the
second thing is the Tech Summit’. Friends, you have seen how the RRC has gone,
he has led by example, the multi-disciplinary panel discussion in that RRC was
so well accepted that there were repeated requests to have this from various
organisations. He not only moderated it, but was totally involved in drafting
the case studies. One full day on practice management was also his brainchild.
Coming to the Tech Summit, to be quite frank, when he discussed the matter with
all of us, I remember all of us were so sceptical about what Sunil had in mind.
The super success that the Tech Summit has achieved has made it a flagship
event and we will be repeating it year on year. Sunil, your year has gone and
we have become the best of friends.

Before deciding
on my annual plan I did a little bit of introspection, what should it be, what
should it include, what should be its points? But before that I had to do a
little bit of thinking, that what does BCAS stand for? No doubt today BCAS is
considered the leading organisation of volunteers which is known because of its
ethical systems, because of the quality of its events, the quality of its
programmes and the initiatives that it takes. It is also known because of its
Journal. Whenever you go out, and say that you are representing the BCAS, you
get a response that they already know about the Journal. Before the BCAS’s
reach the Journal has already reached there. Finally, BCAS is also known for
its innovativeness and it has many firsts to its credit that others copy. This
is the strength of BCAS.

However, there
are challenges and the challenges, I think, can be broadly classified into two
parts. One is the challenges from other organisations, because other
organisations have also upped their mantle, giving similar programmes with
similar quality; and the second one is the dynamic, changing stratosphere or
the demands of the members. The members’ age profile has changed, their
preferences have changed and so BCAS needs to be relevant and it has to think
out of the box. It has to be constantly adapting to changes and open to
changes, new ideas and innovations.

Coming to
the annual plan, after
doing this introspection and understanding the background, I asked myself, what should be my priorities?
What should be my annual plan? I listed down the pointers and priorities. When I looked back to
compare it to the last two or three years’ plans, the points were more or less
the same. There was nothing different. So from that day onwards I decided, if
I can’t do anything different, I will do things differently. This is going
to be my theme for the year that we will be doing things differently.

Annual plans
are usually for one year. Every President brings in his own thought process and
priorities. What we, the leadership at BCAS, have decided is that now the plans
should be medium to long-term plans as we march to our 75^thyear. We
took the common man’s theme from last year as base. The common man means the
9,000 plus members of the BCAS, who are predominantly either two or three
partners or sole proprietors. After identifying them, what does a member of
BCAS want?

Naturally today
they are all looking at growth. We decided that our annual plan for the coming
year would be concentrated on and around growth. What does growth mean? It
means increase in size, in prosperity, in enhancement of your skills, etc. We
have identified five distinct areas of growth which is indicative of 5G.
5G as we all know is the fifth generation network for cellular phones and it
represents Speed, Efficiency, Supremacy, Competitiveness and Technology
Advancement.

The five areas
of growth that we have identified for the annual plan for the current year are Inclusive
Growth, Sustainable Growth, Economic Growth, Dynamic Growth and EQ Growth.

What does Inclusive
Growth mean? It means making life better for everyone. I believe in the
theory … (what I learned from Pradeepbhai), theory of abundance, that there
is enough work in the universe for all the people. So if you want to grow, you
don’t necessarily have to put your foot on somebody else’s shoulder to go up.
There is abundance, there are equal opportunities and we will try to create
equal opportunities for all our members, for all our chartered accountants.
Along with this comes the point that you look at the fraternity first and then
at your own self-growth. Making life better for everyone is inclusive growth
and this indicates building the profession.

The second plan
is Sustainable Growth. Look at long-term plans and don’t go for
short-term targets or temporary gains. Look at long-term gains. How can this
happen? This can happen only and only by inculcating ethics, not only in our
professional but also in our personal lives. A strong value system and ethics
is what will sustain over a long period of time. Secondly what is needed is
what Narang Saheb, Shariqbhai, Amitbhai
did… they caught people who were actually young and they saw their place to
leadership. We will aim to identify future leaders and groom them for future
leadership, because the newer ideas are naturally going to come from them. This
indicates building capacities and capabilities.

What are all of
us interested in? Ultimately, everything boils down to financial benefits. Economic
Growth comes as financial benefits. I believe, this can happen in two ways,
first by upgrading your technical knowledge and skills, and having new and
emerging areas of practice, so whenever we plan any programmes, RRCs, events,
we will have this in mind… and that’s the reason why we have a new Committee
this year (Internal Audit). Secondly, opportunities for networks and
consolidation of firms is the need of the hour. We will try to encourage this
and create opportunities for networking and consolidation of practices. Many
members have shown interest in this and this inspired me to have this growth
area. Of course, all of us know that in mergers and consolidations, two and two
always adds up to five.

Dynamic
Growth means making
the members more competitive by making them future ready. Use of technology in
practice, use of technology, digitisation and automation all at a reasonable
price indicates building the future of
the profession.

And last, the
most important focus area, an area that is very close to me. We may have
technology upgradation, all types of skills and other attributes, but
everything is useless if you don’t honour human relationships, human emotions
and human capital. That, I believe, is the fifth avenue of growth, which is Emotional
Growth.

So what we have
thought is that rather than just having suggestions, I have put concrete points
and I have asked all the Committees to work on at least one or two new events
or initiatives during the year. I have listed them out, so not only do they act
as our targets that we have to achieve, but also, at the end of the year, act
as an indicator whereby we will be able to measure our performance. I’m not
scared of failure. I have put in actionables for each Committee. Even if I
don’t succeed, I will at least go back happily, that at least I tried.

Starting with
the Accounting and Auditing Committee, naturally, this is my karmabhumi.
It is headed by our Himanshu Kishnadwala. This Committee does not have a
long-duration course. Therefore, one target for this Committee is to have a
long-duration course. We will figure out whether we want to have it on IGAAP,
Ind AS or on the Standards of Accounting. The second most important thing is that
this Committee is celebrating a milestone by way of its residential course on
Ind AS, the tenth edition of its residential study course. We have planned it
in a different way this year.

The next is the
Corporate and Allied Law Committee, which is headed by Chetan Shah. This
Committee, again, is more suited to fit into our aim of increasing the reach of
BCAS to its members. It will be initiating a lot of programmes with sister
organisations CTC, IMC and so on. We have also planned a lot of joint programmes
with regulators which will come out from this Committee. The third important
pointer in this Committee is that we will do programmes on emerging areas like
valuation, which has not been done since a long time.

The HR
Committee is headed by Rajesh Muni and KK. I call this Committee my janmabhumi,
because I was born in this Committee in the BCAS. It is doing admirable work;
there are many laudable projects, but I have identified two main items that we
would like to do. One is reviving the Professionals Accountancy Course which
was beneficial to those people who had not been able to complete their CA. The
second thing is that the 150^th year of Mahatma Gandhi’s birth is
coming up, so we need to do something for that. We will plan some celebration
around this.

The next is the
Indirect Tax Committee and two stalwarts, Deepak Shah and Sunil Gabhawalla, are
heading it this year. Indirect tax and GST is the flavour of the season and
this Committee is doing great work. We aim to bring out a GST Audit Manual by
the next year’s audit season and this Committee’s long-duration courses and
intensive study courses will be raised to even higher standards.

The new kid on
the block committee is headed by Uday Sathaye and Nandita Parekh. This fits
into my annual plan, emerging area of practice. Internal Audit will find a
place in this year’s RRC. This Committee will do a lot of work in the area of
taking BCAS outside the city of Bombay. We also plan an Internal Audit RRC.

The
International Tax Committee headed by Mayur Nayak is a rock-solid performer and
always a winner. The Journal Committee is the vintage wine of our Society.
Raman Jokhakar heads this Committee and they do only two things, they improve
and innovate, they improve and innovate. They set higher standards for themselves
and the only agenda for this Committee is the digitalisation of the journals on
the net.

Seminar, Public
Relations and Membership Development Committee is headed by Narayan Pasari and
Pradip Thanawala. This Committee has a lot of work to be done. Public Relations
have been included purposely in the name this year with an intention. We will
look out for benefits for our members, like insurance at a discounted price and
other such services. RRC will improve upon its own performance last year and this
Committee will also work on taking the BCAS programmes outside the city.

The Taxation
Committee has been the most tech-savvy Committee headed by Ameet Patel. They
have pioneered the Tax-Gurukool, which has been adopted by other Committees.
They have something in store but I don’t want to disclose it right now. One
target for them is bring out the Tax Audit publication in time, before the tax
audit season.

Finally, the
Technology Committee, headed by Nitin Shingala. Only two items on the agenda
for them, develop a mobile app for the BCAS which is integrated with the back
office and seek the Committee’s support for streamlining our back office
infrastructure.

We have other
stakeholders also, and they are our staff. I have worked with them for the past
so many years and I know that they don’t have one boss, they have to reply to
250 bosses and they have to get adjusted to their style of functioning. I know
a lot needs to be done, we need to trim the excess fat and we will work in that
direction.

Before I
conclude, I would just like to say that BCAS is an organisation that is on
self-driven mode. We don’t have to do anything, it is a collective organisation
which is taken care of by itself, and only one person gets a chance to lead it
for one year. Friends, I can’t do anything alone without your support and it
will be a team effort. My success is in your hands.

I am not an
ardent fan of any poetry, I don’t read much of poetry but this is the poem I
learned in school and I still remember these lines. The poet is going through a
forest and he reaches a sweet spot where the weather is soothing, the scenery
is bewitching, making him want to stay for a while, but unfortunately, he
cannot enjoy, he has to move on to fulfil his promises. He says,

The woods
are lonely, dark and deep,

But I have
promises to keep

And miles to
go before I sleep

And miles to
go before I sleep.

Thank you.

shailesh.kwebmaker

GURU

Gurus are the fairest flowers of mankind,

they are the oceans of mercy without any motive

—Swami
Vivekananda

Why do we need a Guru? What does a Guru do?

We are ignorant and ignorance is a curse.
The Guru removes ignorance and grants knowledge. He makes us realise the power
of knowledge and the use of knowledge.

Is there only one Guru one has in life?

Have
we ever asked ourselves why we read a newspaper? We do so because we want to
know what is happening – –to gain knowledge about what is happening in the
world around us. In that sense, is the newspaper a Guru?

Again,
whilst being educated in school or college, we are taught by several teachers
and each teacher teaches us a different subject. Are all these teachers our
Gurus?

When
we join a business or profession we have a mentor(s) who teaches us how to act.
Are these mentors our Gurus?

Again,
every book we read and gather and absorb some thoughts from, in that sense – is
the author our Guru?

The answer to all these is in the
affirmative. Hence, in my view one has several Gurus and each one contributes
to removing our ignorance or adds to our knowledge.

I have personally learnt from my seniors, my
peers and my juniors. They were big contributors to my knowledge.
Mistakes made by juniors and others made me think how to deal with the mistakes
and their suggestions added to my knowledge. Both thinking and knowledge remove
ignorance.

Who needs a Guru?

The answer is, everyone – let us not
forget mother is the first Guru – she brings awareness in the child.
Napoleon says ‘The first university is the mother’s cradle’. Let us remember
that even realised souls need a Guru.

A few examples:

Adi
Shankaracharya, an evolved soul, searched for a Guru and when Govindacharya
asked ‘Who are you?’ he recited the Nirvan Shatakam – so a person who
had realised and was aware of the nature of self still needed a Guru to
complete his journey.

Paramhans
Ramakrishna, who is said to have had the darshan of Mother Kali and is said to
have exhibited in his body Buddha, Krishna, Christ and Mohammed, realised the
ultimate only when he met Totapuri.

Arjun,
when in a quandary in the Mahabharata, sought Krishna as Guru.

Ramana Maharishi says ‘Even a Guru is
ever a disciple’.

What does a Guru do!

Guru empties the seeker’s mind by removing
irrelevant thoughts and guiding him with knowledge of self and God.
He is a friend, a brother and burden bearer and shows the way. Guru is an
anchor. He is a man of peace. Guru guides the seeker to a higher state of
being.

Sadhguru Jaggi rightly says: ‘Guru is not
a crutch but a bridge’.

By God’s grace a moment comes when we ask
ourselves a simple question:

What is the purpose of life? And we seek
a mentor – we seek wisdom.

Blessed is the person who meets such a
person. My Guru’s teaching is simple ‘See God in yourself and everyone and
serve other human beings as you serve yourself. Service without expectation’.

However, there are mentors – Gurus – who go
beyond this simple spiritual teaching and who guide us even in
non-spiritual issues – the mundane demands of life. In my view one needs such a
Guru – one who guides not only when one is alive but also beyond this life. I
would conclude by quoting Osho:

‘The
more you become surrendered to the Guru,

the
more you feel that you have freedom
you never had before.’

In short we have two genres of guides –
teachers who mentor us on ‘how to live – knowledge of life’ – and Gurus
who bestow on us the wisdom of life and death.

Blessed are
those who have only one Guru who does both.

shailesh.kwebmaker

GROWING CONCERNS ABOUT GOING CONCERNS

The Indian economy is going through a
tumultuous time. Rs. 1 trillion¹
were wiped out of the markets due to various causes. A more distinctive
feature is that several pillars of the economy are in the news for the wrong
reasons. From NBFC²s, Reserve Bank of India³, SEBI⁴,
Credit Rating Agencies⁵, to Stock Exchanges, bankers⁶,
National Clearing Corporation, NSDL⁷ and auditors.

However, the reports on audits and auditors
are most distressing. The central banker banned a top audit firm; criminal
charge sheets lodged against two other top firms and partners in the IL&FS
case; MCA seeking a five-year ban; reports of an auditor leaking
price-sensitive information; MCA approving the removal of an audit firm;
auditor resignations; blaming the auditors for the stock price fall, and more.

Before we look more deeply at the audit
framework in India, auditors have been implicated in many other parts of the
world and much of this seems symptomatic. An FRC (UK) report⁸ has dealt with a number of aspects of the
audit market, including audit quality and audit failures. Notable reasons given
by the report are: a. Failure to exercise sufficient professional
scepticism or challenging the management, b. Failure to obtain
sufficient appropriate evidence, and c. Loss of independence. The FRC
report also points out perils of the precarious audit market structure with
‘too few to fail’ firms which make up the audit market (97% and 99% in the UK
and the US securities markets are audited by only four auditors). India hasn’t
reached there yet but it seems like it is on its way, ignoring structural problems
and treating symptoms superficially. The report also states that each of the
top four ‘audit’ firms reported three-fourths of their revenue from ‘non-audit’
services and faster growth in ‘non-audit’ revenue. The ‘auditors’ are actually
doing more ‘non-audit’ work and suspected of getting audit work in order to get
more lucrative ‘non-audit’ work. Coming back to India, the MCA should have done
much more and much better in presenting data on the above lines rather than
bringing out a rather hasty and flawed report⁹last year.

The root causes within the auditing
framework need examination. The problems and surrounding questions are many and
complex but not impossible to overcome if dealt with in right earnest. The
problems are written on the wall – i. Appointment of auditors (mostly by
a common management and ownership), ii. increasing concentration in the
audit market (oligopolistic audit market where market leaders begin to convey a
sense that they are the market – too big and too few to fail types), iii.
multiple regulators (SEBI, MCA, NFRA, ICAI, RBI, etc.), iv.
misunderstanding about audit (what it can do and what it cannot do), v. conflict
of interest and independence issues (audit firms are connected with group
entities looking for non-audit work), and vi. a misty reporting framework
(changing and difficult to fathom) to name a few.

The expectation and delivery gaps are
widening and blurred. Auditors, regulators and the public do not understand
them in the same sense. It seems that an auditor today is neither a watchdog
nor a bloodhound, but rather a sniffer dog. So long as an auditor has done what
the auditing standards ask of him, he cannot be sent to a doghouse. All the
same we have more questions than answers, and we need to flip that fast –
before it’s too late.

___________________________________________________________________________

1 Bloomberg Quint report published June 23, 2019
– Eleven Stocks, $14 billion erased

2 IL&FS, DHFL etc.

3 It was expected to keep an eye on systemically
important NBFC, SFIO pointing out that it should have acted faster

4 Reported to be the most powerful market
regulator in the world who could have done more in ‘algo’ scam

5 Giving credit ratings that turned out to be
worthless, ICRA CEO and MD asked to go on leave

6 PSB NPAs at Rs. 806,412 crores in March, 2019
or Rs. 8.1 billion (per PIB release of 24^thJune,.2019)

7 Allegations of shares moving out of pool
account of a broker in allied matter

8 Statutory
Audit Services Market Study, 18^th April, 2019

9 Findings and Recommendations on Regulating
Audit Firms, October, 2018

Raman Jokhakar

Editor

shailesh.kwebmaker

FINANCE (NO. 2) ACT, 2019 – ANALYSIS OF BUY-BACK TAX ON LISTED SHARES

BACKGROUND

A company
having distributable profits and reserves may choose one of two ways to return
profit to its shareholders – declare a dividend or buy-back its own shares. In
the former case, the company is liable to dividend distribution tax (DDT) u/s
115-O of the Income-tax Act, 1961 (IT Act), while in the latter case, the
taxability is in the hands of the shareholder on the capital gains as per
section 46A of the IT Act. Such capital gain on unlisted shares had been either
tax-free on account of the application of beneficial tax treaty provisions, or
the taxable amount used to be lower because of special tax treatment accorded
to capital gains under the IT Act (such as indexation benefit).

Unlisted
companies used to be under the spotlight as they opted for the buy-back route
instead of dividend declaration to avoid DDT liability and in such cases the
capital gains tax was lower than DDT due to the above-mentioned reasons. To
counter this practice, the Finance Act, 2013 introduced section 115QA in the IT
Act. This section created a charge on unlisted companies to pay additional
income tax at the rate of 20% on buy-back of shares from a shareholder. In such
cases, exemption was provided to income arising to the shareholder u/s 10(34A)
of the IT Act.

AMENDMENT BY
FINANCE (No. 2) ACT, 2019

The Memorandum
to the Finance Bill noted the instances of tax arbitrage even in case of listed
shares wherein companies resorted to buy-back of shares instead of payment of
dividend. The buy-back option was considered attractive on account of the
following:

(i) Taxability
in case of buy-back: The company did not have any liability and capital gain in
the hands of the shareholder was exempt u/s 10(38) of the IT Act. After
abolition of this exemption, section 112A of the IT Act caused a levy of 10%
tax on capital gain with effect from A.Y. 2019-20;

(ii) Taxability
in case of dividend declaration: The company was liable to DDT but the dividend
was exempt in the hands of the shareholder (except if it exceeded Rs. 10 lakhs
which was taxable at 10% as per section 115BBDA of the IT Act).

In the backdrop
of companies (including major IT companies) implementing buy-back schemes worth
Rs. 1.43 trillion in the past three years to return cash to shareholders, the
Finance Bill presented on 5^th July, 2019 introduced an
anti-avoidance measure. Section 115QA of the IT Act – tax on distributed income
to shareholders that was hitherto applicable only to buy-back of shares not
listed on a recognised stock exchange – has been made applicable to all
buy-back of shares, including of listed shares.

By a parallel
amendment, exemption is provided in section 10(34A) of the IT Act for income
arising to the shareholder on account of such buy-back of shares.

The amendments
are effective from 5^th July, 2019.

ANALYSIS

Calculation of buy-back tax

The company
shall be liable to additional income-tax (in addition to tax on its total
income – whether payable or not) at the rate of 20% on distributed income. As
per clause (ii) of Explanation to section 115QA(1) of the IT Act, the
distributed income means consideration paid on buy-back of shares, less amount
received by it for the issue of shares, determined as prescribed in Rule 40BB
of the Income tax Rules. The Rule describes various situations and
circumstances for determination of the amount received by the company. This
includes subscription-based issue, bonus issue, shares issued on conversion of
preference shares or debentures, shares issued as part of amalgamation,
demerger, etc.

For issue of
shares not covered by any of the specific methods prescribed in the Rule, the
face value of the share is deemed to be the amount received by the company as
per Rule 40BB(13). Applying this mechanism, if a shareholder has acquired
shares (face value Rs. 10) from an earlier shareholder at Rs. 100 and the
buy-back price is Rs. 500; the buy-back tax liability for the company will be
computed as Rs. 490 (500 less 10) and not on the gain of Rs. 400 (500 less 100)
in the hands of the shareholder.

In case of
buy-back of listed shares, provisions of Rule 40BB(12) will come into the
picture. This states that where the share being bought back is held in dematerialised
form and the same cannot be distinctly identified, the amount received by the
company in respect of such share shall be the amount received for the issue of
share determined in accordance with this rule on the basis of the
first-in-first-out method. If the shares have been dematerialised in different
tranches and in different orders, practical challenges will be faced in
computing buy-back tax.

Dividend or buy-back – what is more beneficial?

After this
amendment, a question arises as to whether a company is better off declaring
dividend rather than repurchasing its own shares? The pure comparison of the
rates of tax u/s 115-O of the IT Act: DDT at 20.56%, and u/s 115QA of the IT
Act: buy-back tax at 23.29%, suggest so. However, if one adds the taxation of
dividend income in the hands of the shareholder at the rate of 10% for dividend
in excess of Rs. 10 lakhs as per section 115BBDA of the IT Act, higher
surcharge of 25% / 37% on tax to the DDT tax liability, the overall outcome for
the company and the shareholder taken together gives a different perspective.
This is reflected in the following table:

The comparison
of total tax impact column shows tax arbitrage in case of the buy-back option.

Section 14A disallowance

As per section
14A of the IT Act, expenses incurred in relation to income that does not form
part of total income is not allowed as deduction. In the year of buy-back where
additional tax is paid by the company and exempt income is claimed by the
shareholder, section 14A of the IT Act may be triggered to make a disallowance
in the hands of the shareholder. One may draw reference to the Supreme Court
decision in the case of Godrej & Boyce Manufacturing Company Ltd.
(394 ITR 449). In the context of disallowance u/s 14A of the IT Act on
tax-free dividend income that was subjected to DDT u/s 115-O, the Supreme Court
had ruled in favour of making a disallowance. The underlying principle of the
decision may be extended to cases covered by section 10(34A) of the IT Act as
well in the year of buy-back to contend that although buy-back has suffered
additional tax in the hands of the company, the applicability of section 14A of
the IT Act persists in the hands of the shareholder.

Whether loss in the hands of the shareholder will be
available for set off?

If buy-back
price (say 500) is lower than the price at which the shareholder acquired the
shares from the secondary market (say 700), the shareholder will record a loss
of Rs. 200. Section 10(34A) of the IT Act provides that any ‘income’ arising to
a shareholder on account of buy-back as referred to in section 115QA of the IT
Act will not be included in total income. Therefore, whether ‘income’ will also
include loss of Rs. 200, and as such this amount is to be ignored and not
considered for carry forward and set off purposes.

The Kolkata
Tribunal in the case of United Investments [TS-379-ITAT-2019(Kol.)]
examined whether when gain derived from the sale of long-term listed shares was
exempt u/s 10(38) of the IT Act, as a corollary loss incurred therefrom was to
be ignored. The Tribunal opined that in a case where the source of income is
otherwise chargeable to tax but only a specific specie of income derived from
such source is granted exemption, then in such case the proposition that the
term ‘income’ includes loss will not be applicable. It remarked that it cannot
be said that the source, namely, transfer of long-term capital asset being
equity shares by itself is exempt from tax so as to say that any ‘income’ from
such source shall include ‘loss’ as well. The legislature could grant exemption
only where there was positive income and not where there was negative income.
Referring to CBDT Circular No. 7/2013 on section 10A, the Tribunal noted that
exemption was allowable where the income of an undertaking was positive; and
the Circular also provided that in case the undertaking incurs a loss, such
loss is not to be ignored but could be set off and / or carried forward.
Accepting the reliance on the Calcutta High Court ruling in Royal
Calcutta Turf Club (144 ITR 709), the Mumbai Tribunal in Raptakos
Brett & Co. Ltd. (69 SOT 383), allowed benefit of carry forward of
losses.

Applying the
principles of the above decision, it can be said that transfer of listed shares
in a buy-back scheme is a taxable event per se and it is only a positive
income arising to the shareholder on buy-back effected as referred to in
section 115QA of the IT Act that has been granted exemption by the legislature.
In case of loss resulting from the buy-back price being lower than the
acquisition cost, it may be considered for carry forward and set off provisions
as per the relevant provisions of the IT Act. However, litigation on this
aspect cannot be ruled out.

Re-characterisation still possible?

In the past and
now in the recent case of Cognizant Technology Solutions, the tax authorities
have sought to disregard the buy-back scheme and treat it as distribution of
dividend. The General Anti-Avoidance Rules (GAAR) effective from 1^st
April, 2017 has empowered the tax department to disregard and re-characterise
arrangements if the main purpose is to obtain tax benefit and other conditions
are satisfied.

Now that
distribution out of profits by way of dividend declaration and buy-back of
shares is chargeable to tax in the hands of the company as additional income,
will the income tax department still question the choice and manner chosen by
the company under the GAAR provisions remains to be seen. If such an attempt is
made, it would seek to ignore the very form of the transaction. The taxpayers
have recourse to CBDT Circular No. 7/2017 wherein it was clarified that GAAR
will not interplay with the right of the taxpayer to select or choose the
method of implementing a transaction.

A buy-back
scheme undertaken by a company compliant with the provisions of the Companies
Act and other regulatory frameworks may be alleged as a colourable device to
evade payment of DDT and tax on dividend income in the hands of the recipient.
The action of the tax authorities can be refuted by placing reliance on the
decision of the Mumbai Tribunal in the case of Goldman Sachs (India)
Securities (P) Ltd. (70 taxmann.com 46) which laid down that merely
because a buy-back deal results in lesser payment of taxes it cannot be termed
as a colourable device.

CONCLUDING
REMARKS

With the
immediate applicability of buy-back tax from 5^th July, 2019 and
considering that it is an additional tax outflow for the company, the buy-back
price offered by companies and the return on investment will be affected. To
save the tax, companies may use surplus funds for additional investments or
deploy them back again in business rather than distribution to shareholders.

One will have
to wait and see if the grandfathering clause is considered by the Finance
Minister to protect and safeguard listed companies whose buy-back was already
underway as on budget day i.e. 5^th July, 2019. Besides, the current
buy-back rules may need to be revisited to provide for situations that are
relevant to shares of listed companies. The rules ought to factor in a
situation where shares are acquired on a stock exchange at a higher price than
the issue price received by the company. If the acquisition price is considered
in such an instance, the buy-back tax will essentially be computed on the gain
in the hands of the shareholder (buy-back price less acquisition price).

shailesh.kwebmaker

RERA, A CRITICAL ANALYSIS

RERA (or Real Estate Regularity Authority),
introduced as a remedy against the rampant malpractices of builders and to
safeguard the interests of homebuyers by ensuring the sale of plots, apartments
or buildings in an efficient, fair and transparent manner, has had more than
two years of operation and it is time to look back and assess the strengths and
weaknesses of the legislation in its present form and application. As with any
regulatory measure at the nascent stage, particularly in an area like the real
estate sector, there were inevitably certain teething problems to be addressed
and the effectiveness lies in the way such problems have been dealt with.

NOT OPERATIONAL IN ALL STATES

The Central legislation, applicable
throughout the country (except the then state of Jammu & Kashmir), did not
find an equally enthusiastic response from several states and Union territories
which failed to act within the prescribed time in matters of framing rules,
setting up the Authorities, creating the website and establishing the Appellate
Tribunals in their respective jurisdictions.

It is a matter of common knowledge that
barring Maharashtra and a few other states, the governments did not abide by
the mandate of the Act in framing the Rules in the prescribed time. As conveyed
recently by the Centre to the Supreme Court, the process to notify the Rules in
Arunachal Pradesh, Meghalaya, Nagaland and Sikkim is still under way. Twenty
nine states / UTs have so far set up the Authority and only 22 the Appellate
Tribunal. The inaction on the part of several states for a considerably long
period of time not only distorted the pan-India nature of the Act, but also
deprived the people of those states of the intended benefits, creating unjust
differentiation.

The Centre needs to be more active in
ensuring enforcement of the Act and its timely implementation in the true
spirit of the legislation by constant monitoring.

LACK OF HARMONY BETWEEN THE ACT AND RULES

RERA, the Central Act, is not uniformly
implemented in various states because the rule-making power is vested in the
states which have framed rules of varying nature, some even inconsistent with
the substantive provisions of the Act.

Section 84 of RERA provided for the state
governments to make rules for carrying out the provisions of the Act by
notification within a period of six months of the commencement of the Act.
Although the power to frame rules was vested in the states, it was expected
that the Rules would be within the framework of the Act and as such would not
be different in substance beyond a reasonable limit.

But is it fair for certain states to go
beyond the authority to suit their own understanding of how the provisions
should be? For instance, the provision of section 4(2)(l)(D) requires 70% of
the amounts realised from time to time from the allottees to be deposited in a
separate bank account to cover the cost of construction and the land cost which
can be withdrawn from the account to cover the cost of the project, in
proportion to the percentage of completion of the project. The idea in broad
terms was to have free funds equal to the profit component embedded in the
receipts (estimated at 30% of the receipts) and to keep the balance amount
separate from other funds to be used exclusively for the cost of the
construction and the land. The withdrawal, as per the Act, is restricted to the
amount proportionate to the percentage completion of the project.

Certain states
have prescribed rules for determining the withdrawable amount which are not
consistent with the provisions of the Act. Maharashtra, for instance, permits
withdrawal of the entire land cost and the entire cost incurred up to the date
of withdrawal, leaving, in a large number of cases, hardly any amount to be
utilised for further construction. Further damage to the concept is done by the
executive order giving artificial meaning to the land cost which is a notional
cost higher than the actual land cost envisaged in the Act. The Maha-RERA, for
instance, permits withdrawal of the notional indexed cost in line with the
computation of cost of acquisition for purposes of capital gain under the
Income-tax Act which results in withdrawal of an amount several times more than
the actual land cost (Circular No. 7/2017 dated 4^thJuly, 2017).

There are other areas where such digression
is visible. Notable among these is the area of conveyancing. Section 11(4)(f)
provides for executing a registered conveyance deed of the apartment, plot or
building in favour of the allottee and the undivided proportionate title in the
common areas to the Association of Allottees or the Competent Authority. The
Rules of several states are at variance with this provision as they have chosen
to go by the prevailing / prevalent local laws, even if they are inconsistent
with the provisions of the Act. Maharashtra, for instance, goes by the pattern
laid down in MOFA and provides for conveyance of the building not to the
allottees but to the association of allottees / society / company. In case of
buildings in layouts, the structure of the building (excluding basements and
podium) is to be conveyed to the respective societies and the undivided and the
inseparable land along with basements and podiums are to be conveyed to the
apex body or Federation of all the societies formed for the purpose [Rule
9(2)]. Tamil Nadu follows its local law, i.e., The Tamil Nadu Apartment
Ownership Act,1994 and provides for conveyance of undivided share of land,
including proportionate share in the common area, directly to the respective
allottees [Rule 9(3) of Tamil Nadu Rules]. Karnataka follows Tamil Nadu and
provides for conveyance of apartment along with proportionate share in common
areas to the respective allottees.

One can hold a view that such rules are more
reasonable and pragmatic, providing for consistency in the practice so far
observed, without in any way harming the cause of the allottees. The solution
in such cases appears to be a review of the Act instead of allowing such
variance to continue. Rules being subordinate legislation are to be in
conformity with the law. Another possible solution can be to make the
provisions applicable in the absence of local laws, as has been done in section
17 which lays down the time within which the conveyance is to be made.

UNWORKABLE
OR DIFFICULT DIRECTIONS

There is one area of concern to the
promoters. In an agreement where the landowner gets his land developed by the
builder in consideration of allotment of certain units in the developed
building free of cost, both the landowner as well as the builder are regarded
as the promoters under the Act.

In such a case, is it fair to insist on both
of them to open separate bank accounts for depositing 70% of the receipt from
the allottees, creating a situation where the landowner who though not required
to incur any cost of construction, is forced to keep 70% of sale proceeds of
his share of units in the bank account till the entire project is completed? If
we examine the provision closely, it requires opening of a separate account for
the project and not for individual promoters. If the project is one in which
there are two promoters, then there should be a requirement of opening one bank
account only. Is it fair in such circumstances to ask the landowner to deposit
70% of sale proceeds in a separate bank account?

It will take a substantially long time for
contentious issues to be settled in judicial forums. In case a high-level body
is established at the Centre with the authority to issue clarifications by way
of circulars binding on all the Authorities, much of the hardship and
litigation can be avoided.

INTERPRETATIONS INCOMPATIBLE WITH THE SPIRIT
OF LAW

RERA has been introduced to safeguard the
interests of the home-buyers. The object and the purpose of the legislation is
material in the understanding of any provision which, unless contrary to any
specific provision, is to be interpreted in a manner so as to subserve the
purpose of the Act.

In view of such
an accepted canon of interpretation particularly in respect of a legislation
which is remedial in nature, meant to address the problems faced by the class
of people having no accessible remedy for the harm done to them by the class of
powerful persons, is it fair for the authorities to go by the rigidity and technicality
of words and expressions disregarding the objects and purposes of the
legislation? The decision not to entertain complaints for delayed possession
after the promoter has offered to give possession; the decision exempting the
promoter from the requirement of registration if the completion certificate is
issued within three months from the commencement of the Act; the decision not
to entertain complaints if the project is not registered; the decision not to
consider a project as ongoing even if a part-occupancy certificate is issued
before 1^stMay, 2017; these are some of the decisions which appear
to go against the avowed purpose of the legislation depriving the affected
persons of the remedy to which they are entitled for no fault of theirs.

DECISION-MAKING PROCESS

Even though the Authority is constituted of
a Chairman and two members, the decision on complaints filed by the aggrieved
allottees is taken by a single member, resulting in the same Authority taking
different views on the same issue. This introduces subjectivity in judicial
decision-making which should ideally be avoided.

One finds instances of a differing approach
in decisions by different members of the same Authority. On the basic issue,
for instance, whether RERA has application in respect of projects which are not
registered or which are exempted from registration, different decisions have
come from different members. One member has taken a decision that registration
is one of the obligations cast on the promoter, non-performance of which visits
with penal consequences under the Act. The registration is not the essential
pre-requisite for entertaining a complaint under RERA. A different view is
taken by the other member who declines to entertain the complaint of the
aggrieved person if it relates to an unregistered project. The issue has been
considered and adjudicated by the Appellate Tribunal and the jurisdictional
High Court, yet the
problem persists.

As a matter of sound judicial process, it is
advisable to introduce the Bench system of deciding judicial matters. Once a
different view is proposed to be taken by another Bench on the matter of
interpretation, the Chairman should constitute a larger Bench to decide the
matter.

PUBLICATION OF CASES DECIDED BY DIFFERENT
JUDICIAL AUTHORITIES

RERA being a
Central Act, the views taken by any Tribunal / High Court on any issue should
be a source of guidance to all the Authorities in the country. For this it is
necessary to have agencies like those bringing out AIR, Taxmann, etc., for
publishing important decisions on points of law given by different Tribunals,
High Courts and the Supreme Court so that the doctrine of precedent and Stare Decisis may be applied in relation to RERA cases also.

CONCLUSION

Overall, RERA has provided substantial relief to the
hitherto unprotected home-buyers. It has succeeded in instilling a sense of
confidence and providing an assurance that things will go as promised. In this regard,
certain states including Maharashtra have played a commendable role. With this
undeniable truth, the need is for the initial enthusiasm to continue unabated
in providing speedy resolution of disputes in the true spirit of the
legislation. The discussion above is meant to focus on certain aspects, a
meaningful consideration of which may go a long way in making RERA serve its
purpose even better.

shailesh.kwebmaker

MANDATED CSR AND IMPRISONMENT: A FIT CASE FOR RECONSIDERATION

Corporate Social Responsibility (CSR) is in
the news with the passing of the Companies Amendment Act, 2019 because it has
made lapses in complying with CSR spends an offence subject to imprisonment for
a maximum period of three years¹. The penal provision for
imprisonment replaces the earlier requirement to comply with CSR spends or
explain the reason why a company had not spent the mandated amount on CSR. This
change was brought in after witnessing five years’ track record of implementing
mandated CSR. Hence it is appropriate that we evaluate and take stock of the
idea behind Mandated CSR in the backdrop of India Inc’s track record on
implementing CSR spends in the last five years and evaluate the fairness of the
current punishment accorded for lapses in CSR spends in the overall context of
the penal provisions prescribed under the Companies Act, 2013.

India is the first and probably only country
till date to mandate CSR spends by large corporates. It was part of the
Companies Act, 2013 which was enacted to replace the 1956 Act and was seen as a
major measure to promote ease of doing business and corporate activity that
would accelerate the pace of India’s economic growth. Probably to balance the
inequality created by private sector-led economic growth, the new Act required
large companies, defined by their net-worth, turnover or profits beyond the
defined threshold level, to spend 2% of the average profits of the last three
years on specific activities identified in schedule VII of the Act.

__________________________________________________________________

1 135 (5)
The Board of every company referred to in sub-section (1), shall ensure
that the company spends, in every financial year, at least two per cent of the
average net profits of the company made during the three immediately preceding
financial years, or where the company has not completed the period of three
financial years since its incorporation, during such immediately preceding
financial years, in pursuance of its Corporate Social Responsibility Policy:

Provided that the
company shall give preference to the local area and areas around it where it
operates, for spending the amount earmarked for Corporate Social Responsibility
activities:

Provided further
that if the company fails to spend such amount, the Board shall, in its report
made under clause (o) of sub-section (3) of section 134, specify
the reasons for not spending the amount and, unless the unspent amount relates
to any ongoing project referred to in sub-section (6), transfer such
unspent amount to a Fund specified in Schedule VII, within a period of six
months of the expiry of the financial year.

Explanation—For the
purposes of this section “net profit” shall not include such sums as may be
prescribed and shall be calculated in accordance with the provisions of section
198.

(6) Any amount remaining
unspent under sub-section (5), pursuant to any ongoing project,
fulfilling such conditions as may be prescribed, undertaken by a company in
pursuance of its Corporate Social Responsibility Policy, shall be transferred
by the company within a period of thirty days from the end of the financial
year to a special account to be opened by the company in that behalf for that
financial year in any scheduled bank to be called the Unspent Corporate Social
Responsibility Account, and such amount shall be spent by the company in
pursuance of its obligation towards the Corporate Social Responsibility Policy
within a period of three financial years from the date of such transfer,
failing which, the company shall transfer the same to a fund specified in
schedule VII, within a period of thirty days from the date of completion of the
third financial year.

(7) If a company
contravenes the provisions of sub-section (5) or sub-section (6),
the company shall be punishable with fine which shall not be less than fifty
thousand rupees but which may extend to twenty-five lakh rupees and every officer of such company who is in default
shall be punishable with imprisonment for a term which may extend to three
years or with fine which shall not be less than fifty thousand rupees but
which may extend to five lakh rupees, or with both.

CSR RATIONALE – THE THREE VIEWPOINTS

The concept of CSR emerged in economies
where there was exclusive focus on corporate business responsibility. In
contrast, in social democratic societies in Northern Europe, especially the
Nordic countries, the concept of CSR is quite nascent and is focused more on
sustainability and innovations as the basic social security needs of health,
education and old-age relief are provided by the state. Even in continental
Europe, in countries like France and Germany, where some form of state
socialism prevails, CSR has limited appeal. Companies in the private sector of
these economies implement labour laws which are quite comprehensive and pay
their taxes which fund social security programmes for the rest of the society.

The idea of CSR has flourished only in
liberal market economies such as the United States where the private sector
dominates healthcare and education, catering only to the needs of the society
that can afford to use their service. The reason for this is not too difficult
to fathom. The primary business responsibility of a company in these economies
is restricted to earning a profit by conducting its affairs legally and the
social security system in place is not comprehensive enough to cover all the
vulnerable sections of the society. Further, some of these social concerns were
not addressed by the government despite the visible and pressing needs as it
was seen by some to infringe on the personal freedom of individuals, or seen by
some others to be discretionary for which tax-payers’ money should not be used.

Over time, three distinct views emerged to
justify CSR in these liberal economies. Initially, CSR spending was seen as an
optional marketing expense, essential for building a corporate brand and
goodwill among the public at large who were seen as potential customers or
employees in the long run. In the second stage, the pressure to spend on CSR
increased in companies operating in certain sectors like mining and energy that
used natural resources and caused noticeable pollution / environmental hazards.

But then a new rationale emerged, with CSR
being seen through the lens of the social contract theory. Using this theory,
CSR spending was justified as the fee paid by the polluting firms to society in
return for their right to carry on business. This view seems to have gained
credibility as firms with high CSR spends were found in highly polluting
sectors, or sectors with large negative externalities, such as mining, tobacco
and oil exploration.

Around the end of the second millennium, a
third view emerged. It was an interesting viewpoint, where CSR was seen as
businesses serving the base of the pyramid. This idea gained traction in
parallel with the idea of social enterprises gaining visibility, especially in
areas like micro-finance. Depending upon whom you talk to and which part of the
world you are in, all the three views can be heard.

MANDATED CSR – A
PRO-CON ANALYSIS

The idea of mandated CSR introduced by the
Companies Act, 2013 emerged in the backdrop of the prevailing concepts of CSR
expenditure seen as brand investment or as a social contract with the society
to compensate for the negative effects of business, or as catering to the needs
of the base of the pyramid, or as a variant of social enterprise. In this
context, mandated CSR was a new idea not found elsewhere in the world. Shorn of
its voluntary ‘mask’, mandated CSR is a form of taxation, where the tax,
instead of being paid to the exchequer, was now in the hands of the taxpayer to
be spent on pre-defined purposes. Instead of a legal process coercing the
company to spend with the threat of penalty for defaults in spending, the 2013
mandate used the principle of social pressure of ‘Comply or Explain’, a
technique using social standing and reputation as leverage to get companies to
spend on CSR.

Advocates of the mandated CSR approach
hailed it for three specific reasons:

(i) Companies would be more effective than
government in spending the money as they would bring in the speed and
efficiency of the corporate world in the selection, implementation and
monitoring of the CSR spends. Especially on the monitoring front, there was
huge expectation of corporate experience bringing in new techniques and methods
of monitoring that would help the social sector.

(ii) Absence of the bureaucracy and
discretion available in the corporate world would enable innovative projects to
be taken up in the social sector funded by the corporates. Once these projects
succeeded, they could be used by the government for scaling up and reaching
larger segments of the society.

(iii) Companies would cater to the needs of
specially deserving segments of the population and meet the specific needs of
their location that may not be visible to the larger government machinery.

Opponents of the mandated CSR school, in
addition to questioning the ‘corporate efficiency’ theory, also raised the
issue of intent where some corporates instead of allocating incremental budgets
for CSR spends may be reclassifying their current spends or placing a social
envelop for their business spends on marketing and pre-recruitment training
expenses to meet the mandate. Further, they also questioned the desire of
corporates to spend time and effort in building the competency required to
manage social projects.

While both sides had their merits, only the
track record of India Inc. in CSR spends could settle the issue one way or the
other. So what does the five-year track record of India Inc. show?

INDIA INC.’S CSR
PERFORMANCE – THE TRACK RECORD

In the first year of mandated CSR, if we
take Nifty 50 as representative of India Inc., the performance reflected
teething troubles as is to be expected of any new enactment, especially one
that involves discretionary spends. Against a mandated spend of Rs. 5,046
crores, reflecting 2% of the profits of the Nifty 50 companies, the actual
spend was at 79%, amounting to Rs. 3,989 crores². Two of the Nifty
50 entities, State Bank of India and Bank of Baroda, are not regulated by the
Companies Act, 2013 and hence were not required to specify their mandated
spends on CSR.

__________________________________________-

2 CimplyFive’s India Secretarial Practice 2015,
Nifty 50 Annual Report Analysis, December 2015

Of the remaining 48 companies, 16 spent in
excess of the mandate, including three companies where the mandated spends on
CSR was negative due to lack of profits. The remaining 32 companies had a
shortfall in their spends, with 30 of them explaining the reason for their
inability to spend. Only two companies offered no explanation for not spending
the required amount on CSR. A further analysis revealed that 12 companies had
stated that being the first year, they were not able to spend as they were
building their capacity to spend.

Table 1: Comparison of CSR spends by Nifty 50
Companies in the first two years of mandate

Financial year

CSR amount mandated

Rs. crores

Amount spent

Rs. crores

% spent of mandated amount

Companies not spending mandated amount

2014-15

5,046

3,989

79%

32 (64%)

2015-16

5,478

5,082

93%

25 (50%)

In the second
year of implementation, we see a marked improvement in CSR spends compared to
the first year as depicted in Table 1. The mandated amount of CSR spends
increased by 8.5% to Rs. 5,478 crores and the amount spent on CSR activities
increased by 27% to Rs. 5,082 crores. Even the amount spent as percentage of
the mandate increased from 79% to 93%, an increase of 14%.³ Companies not spending the mandated amount
too decreased from 32 to 25 and only one company did not disclose the reason
for not spending the mandated amount.

The steady improvement in compliance becomes
more evident when we look at the last two years. In 2017-18, the CSR spend as a
percentage of mandate was 98⁴
and in the last financial year 2018-19, the spend as a percentage of
mandate was at 104. However, the number of companies with shortfall in CSR
spends in 2018-19 at ten remained at the same level as in 2017-18.

The performance of India Inc., as
represented by the Nifty 50 companies in the five-year period, reflects that
the objective of CSR mandate in getting companies to spend on social activities
is achieved as evidenced by Nifty 50 companies, as they spent 104% of the
mandated amount.

____________________________________________________

3 CimplyFive’s India Secretarial Practice 2016,
Nifty 50 Annual Reports Analysis, November 2016

4 CimplyFive’s India Secretarial Practice 2018,
A Study of Nifty 50 Companies, March 2019

Table 2: CSR spends of the Nifty 50 Companies
in last two years

Financial year

CSR amount mandated

Rs. crores

Amount spent

Rs. crores

% spent of mandated amount

Companies not spending mandated amount

2017-18

6,434

6,300

98%

10 (20%)

2018-19

6,858

7,109

104%

10 (20%)

The Indian experience of using ‘comply or
explain’ is at par with the international experience seen in Europe where it
takes three to four years for a new regulation to be widely adopted and
implemented. While the experience of Indian corporates outside the Nifty 50
companies could be different, there is no data that is analysed and presented
to show that. Given this analysis, was there a need to change the penal
provision to enforce CSR spends by Indian corporates to the extreme level of
imprisoning the officers in default for a maximum period of three years? How
does this punishment compare with penalties for other defaults in company law?

PENALTY IN CORPORATE
LAW

Conceptually, punishment or penalty can have
two distinct objectives:

(a) Compensatory, i.e., to punish the
wrongdoers by taking away from them the benefit accruing to them from their
wrongdoing. Most often this is in the form of monetary penalties; or

(b) Deterrent and preventive, i.e., act as a
disincentive to the wrongdoer and all other potential wrongdoers by imposing a cost on them that is prohibitive and dissuades them from
committing the wrong. Since the objective is to be a deterrent and preventive,
this takes the form of monetary penalties, where the amount recovered is more
than the benefit obtained by the wrongdoer and / or limiting the personal
freedom of the wrongdoer, i.e., imprisonment.

The Companies Act, 2013, consisting of 470
sections, has penalties both in the nature of compensatory and
deterrent-cum-preventive measures. The Act has 101 sections with monetary
penalties for non-compliance and 56 sections that have imprisonment as penalty
combined with fine, as monetary penalty.⁵ While monetary penalties can be levied on
either the company or the officers in default, imprisonment is a penalty
applied only to the officers in default.

__________________________________________________

5 CimplyFive’s Report on the Cost of Compliance
and Penalty for Non-compliance under the Companies Act, 2013, December 2017

Analysing the penalty provisions that
provide for imprisonment in the Companies Act, 2013 we can classify them into
six distinct categories based on their value as a deterrent, as detailed in
Table 3:

Table 3: Classification of penalty provisions
for imprisonment based on their value as a deterrent

Category	Quantum of imprisonment	Illustrative types of wrongdoing
I	Which may extend up to 6 months	If company issues shares at a discount (section 53)
II	Which may extend up to 1 year	If a company fails to comply with the orders of the Tribunal regarding rectification of registers of members (section 59)
III	Which may extend up to 2 years	Tampering with minutes (section 118)
IV	Which may extend up to 3 years	If a company violates the provisions of buyback of securities (section 68) If a company violates the provisions of buyback of securities (section 69) Default in complying with the order of the Tribunal to redeem debentures, pay interest, etc. (section 71)
V	Which may extend up to 7 years	If company fails to repay deposit, or interest thereof, within the time specified (section 74)
VI	Which may extend up to 10 years	Incorporation of a company providing false or incorrect information (section 7, attracting penalty under section 447)

Category

Quantum of imprisonment

Illustrative types of wrongdoing

Which may extend up to 6 months

If company issues shares at a discount (section 53)

Which may extend up to 1 year

If a company fails to comply with the orders of the Tribunal
regarding rectification of registers of members (section 59)

III

Which may extend up to 2 years

Tampering with minutes (section 118)

Which may extend up to 3 years

If a company violates the provisions of buyback of securities
(section 68)

If a company violates the provisions of buyback of securities
(section 69)

Default in complying with the order of the Tribunal to redeem
debentures, pay interest, etc. (section 71)

Which may extend up to 7 years

If company fails to repay deposit, or interest thereof,
within the time specified (section 74)

Which may extend up to 10 years

Incorporation of a company providing false or incorrect
information (section 7, attracting penalty under section 447)

Seen in this backdrop, lapses in complying
with the CSR requirements on spending / transferring the amount to specified
accounts with imprisonment up to three years equates it to a category IV
offence, which is higher than tampering with the minutes of meetings of the
company.

Further, an analysis of Nifty 50 companies
that have short-spent on the mandated amount reveals that in some companies,
the Profit After Tax may not be backed by Operating Cash flows providing them
the liquidity to spend. At the Nifty 50 level, Operating Cash flows at Rs. 3,13,638 crores
are 90% of Profit After Tax at Rs. 3,48,751 crores. For certain companies that
have short-spent on CSR, Operating Cash flow as a percentage of Profit After
Tax drops to 16. Given this anomaly of Operating Cash flows being lower than
Profit After Tax in many companies due to their business model of selling on
credit or having a long working capital cycle, the penal provision of
imprisonment for non-compliance which could be the result of a business reality
needs a review.

Given the fact that charity cannot be
mandated or legislated, this mandate to prescribe imprisonment for lapses in
CSR spends, which the world over is optional for corporates, needs to be
seriously reconsidered. The regulators, by swiftly
amending the law to remove this aberration, would visibly signal a conducive
corporate environment to promote economic growth and employment generation.

PS: After this article was written but
before publication, the government has responded to implement the report of
high-level committee on CSR which has recommended that violations should be
treated as civil offences and made liable to monetary fines.

This is a welcome step and will go a long
way in the Indian companies feeling the responsive nature of the regulator to
critical feedback.

shailesh.kwebmaker

RELATED PARTY TRANSACTIONS: LESSONS FROM CASE STUDIES

This is a sequel to the article published
in the BCAJ of August, 2019: ‘De-layering Related Party Transactions through
Internal Audit’ by CA Ashutosh Pednekar

This article (a sequel) gives practical
approaches to identification of Related Parties (RPs), examining the legitimacy
of Related Party Transactions (RPTs) and such other matters that internal
auditors could integrate in their audits. Conflict of interest and RPTs have
become a very important part of audits of companies. The author offers case
studies that could inform the reader about some principles, techniques and
tools to uncover the substance of transactions where RPs are involved

The way an organisation deals with its
related parties speaks volumes about the culture and integrity of the
decision-makers, i.e., the management. To an Internal Auditor, reviewing the
dealings of a company with its related parties can provide an understanding of
its culture and beliefs, its core values and transparency.

There are various pronouncements and
regulations promulgated for guiding and monitoring identification and
disclosures of RPs and RPTs. There are governance mechanisms that place an
onerous responsibility on the Audit Committee of ensuring that all RPTs are at
arm’s length pricing. Taxation laws and transfer pricing audit requirements
further reduce the possibility of arbitrariness in the commercial terms agreed
for RPTs. What, then, can the Internal Auditor’s review of RPs and RPTs
contribute that is not already covered by the various disclosure, approval and
reporting protocols?

CASE 1: WHO IS A
RELATED PARTY? SUBSTANCE OVER FORM?

Background

Ms Smart is the Internal Auditor of a large
listed company. As part of the internal audit, she came across a transaction
where the company had awarded a three-year exclusive contract to a PR agency
called Connexions under which 70% of the contract value was paid upfront and
the balance 30% was to be paid in three equal instalments – the agreement also
stated that in case of premature termination of the agreement by the company,
Connexions would not be required to refund any amount already paid to it. There
were no past commercial transactions between the company and Connexions.

An
unusual transaction

Ms Smart found this transaction unusual and
uncharacteristic of the company. The terms of the contract seemed one-sided,
favouring the PR agency. Hence, she inquired about the vendor and found that
the agency was owned by three partners, one of whom was a woman whose name
appeared somewhat familiar.

A
smart search

Ms Smart engaged with social media platforms
like LinkedIn and Facebook to find out more about the partners / owners of the
PR agency. And she found that the woman partner was none other than the fiancée
of the Managing Director’s son. She also came across news items and YouTube
videos showing the lavish engagement ceremony of the MD’s son with the woman in
question.

Is
a fiancée a related party? In matters of doubt, err on the safe side

Ms Smart felt that while the PR Agency was
not strictly an RP under any regulations, the substance of the transaction made
it an RPT. She brought this to the notice of the Audit Committee and explained
why the transaction might need approval akin to the approval required for an
RPT to ensure good governance and transparency.

Next, Ms Smart
explained that the regulations define the ambit and the intent of the law. In
case of RPTs, the intent is to prevent the abuse of minority shareholders or
other stakeholders by decisions taken by the controlling shareholders favouring
their RPs. In cases where a counter party does not strictly meet the definition
of an RP, but for all practical purposes is perceived as an RP, it is better to
treat the transaction with such a party as an RPT.

Audit
Committee verdict

The Audit
Committee agreed to take a wider view of the policy related to RPs, and advised
the management to report transactions with potential RPs to the Audit
Committee. In the present case, based on the facts presented, the Audit
Committee found the transaction to be not at arm’s length and not transparent
and, hence, advised that necessary steps be taken to revise the contract.

CASE 2: EXAMINING THE
NEED / LEGITIMACY OF AN RPT

Internal
Audit mandate for review of RPTs

Ms Sceptic, the Internal Auditor of a
company dealing in industrial products, was asked by the Audit Committee to
undertake a special review of related party transactions of a listed entity.

Internal
Audit findings

Ms Sceptic went through the policy and the
entire process of identification and approval of RPTs. She was satisfied with
the contents of the policy and the process adopted for establishing fair price
for RPTs.

But in her
detailed review of reported RPTs she came across the following two transactions
that caught her attention:

(i) Purchase of three paintings from the
spouse of one of the Independent Directors, from an exhibition held at a
well-known art gallery. The total sum paid for these paintings was Rs.
84,00,000. The value of the paintings was as per the valuation certificate and
was in line with the price of other paintings sold at the exhibition. In the
same month, the company had paid interest on late payment of GST and TDS due to
a liquidity crunch that it had been facing for some months.

(ii) Brokerage, amounting to Rs. 40,00,000
(being 1% of property value, this being the norm in the broking industry) on a
large property purchase transaction was credited to Amanda Services in which a
director’s daughter is a partner. Amanda Services has an impressive website
projecting the entity as a real estate broking firm. The brokerage remained
unpaid for three months after the transaction of purchase of property was
concluded.

On inquiry, Ms Sceptic found that the
brokerage could not be paid as Amanda Services did not have a GST registration.
She also found that the GST registration was applied for almost two months
after the property purchase transaction was concluded. This suggested that
Amanda Services may not be an established player in the real estate broking
business.

In both the above cases, due disclosures
were made and approvals were in place. Arm’s length pricing was also
established. However, it appeared that in the first case the need to purchase
the paintings was not established, whereas in the second case there was a
reason to doubt as to whether Amanda Services had indeed provided broking
services for the property transaction.

The
conclusion

Ms Sceptic presented her findings, with
corroborative details, to the Audit Committee, clearly pointing out that before
determining the reasonableness of pricing, it is important to establish the
legitimacy of the need and the actual delivery of services. The Audit Committee
acknowledged that the review of RPs and RPTs must include validation of the
underlying legitimacy of the RPTs.

CASE 3: PROVISION OF FREE
FACILITIES

Background

Ms Curious is the Chief Internal Auditor of
a listed company where the promoters are from a single family and hold about
40% of the equity shares. The company operates out of its corporate office in a
metro city and rents five floors of the said building.

On a day when the internal audit was going
on, Ms Curious was told that there was no place for the Internal Audit team to
sit (this is not a surprise) for a few days as certain branch managers were
visiting and they needed to be provided working space. Hence, it was suggested
that the internal audit be rescheduled and the team assigned to a branch or a
depot audit for a few days.

Chance
discovery

Ms Curious, being curious by nature and keen
to complete the internal audit on hand expeditiously, walked around the five
floors trying to find space for her team to occupy temporarily. She came across
a part of the office with a glass door
leading to an enclosed smaller office space. She found a group of about 15
people working there whom she had not interacted with before but had seen
around in the company cafeteria at lunch time. This appeared strange, as the
Internal Audit scope had covered all key areas of the company over the past few
years since she was appointed as the Chief Internal Auditor.

Research
and analysis – from doubt to a confirmed finding

On exchanging courtesies, she learned that
these people were employees of the family office of the promoters, managing
entities dealing with personal investments of the promoter family. She also
found that the family office had been occupying the space for several years.

What
next? Communicating with those charged with governance

Ms Curious ran a search to find out if any
recovery was being made towards the rent or utilities from any related party.
She also looked up the disclosures for remuneration of directors and related
party transactions to see if there was any approval / disclosure for use of corporate
office premises for the private use of the promoters, free of cost. When her
search did not yield any positive results, it became clear to her that this was
an inappropriate action by the promoters that had perhaps not been disclosed to
the Audit Committee members and, hence, never been subjected to any scrutiny or
debate.

She considered various options to bring this
issue to the notice of the management. After mulling over the options, she
sought a meeting with the Audit Committee Chairman, expressed her concern,
handed over a confidential note giving details and requested him to take it up
with the management and the other Audit Committee members.

CASE 4: ALLOWING RP TO
TERMINATE AN ONEROUS COMMITMENT

Background

Ms No Nonsense is the internal auditor of a
corporate conglomerate comprising of a flagship listed company known as XYZ
Limited (XYZ), several subsidiaries and associate entities. The listed company
held large office premises in excess of its requirements.

XYZ had leased out some of its office
premises to an associate company in which it held 49% stake and the promoter
family held 51%. The lease was given on rent and other terms that were
established to be at arm’s length. Offices in the same building were also
leased out to an unrelated party at the same time, on the same rates and terms.
Both the leases were for a period of nine years, with a lock-in period of five
years and an escalation clause increasing the rent by 8% at the end of two
years.

Two years after entering into these leases, the
real estate market nosedived and rental rates came down drastically.
Consequently, both the parties requested premature termination of the lease.
XYZ did not permit the unrelated party to terminate the lease without paying
the liquidated charges stated in the lease agreement and issued legal notices
to that effect. However, for the RP, XYZ allowed the foreclosure without
charging the dues as per the agreement. The MD approved the foreclosure
decision but requested the Audit Committee for approval, this being an RPT.

The
Internal Auditor – Putting things in perspective

Ms No Nonsense, the Internal Auditor, was
required to review the RPTs on a quarterly basis and report to the Audit
Committee on the same. In the present case, she apprised the Audit Committee
that the RPT transaction (of waiver of escalation clause and permitting a
foreclosure of the lease without any penalties) was not in the interest of XYZ
and the treatment given to the RP was significantly favourable compared to an
exactly similar transaction undertaken with an unrelated counter party. In her
opinion, this RPT was a case of favouring the RP against the interest of XYZ
Limited.

Constraints
of the Audit Committee

When the Audit Committee is asked to approve
RPTs, at times the information given is incomplete and misleading. Comparable
transactions with unrelated parties are not always presented to the AC. Thus
approvals given by it may be based on incomplete facts. Besides, the attention
given at the time of entering into an RPT is much more compared to the
attention given to terminations, rollovers or extensions. Having an objective
review prior to giving approval may help the Audit Committee to grant approval
based on full facts and details.

LESSONS FROM THE CASE
STUDIES

The case studies presented above contain
several important lessons, both for the Internal Auditors and the Audit
Committee. A summary of these lessons is presented hereunder:

(a) Going
beyond the confines of definitions: In identifying an RP and an RPT,
one needs to go beyond the confines of the regulatory definitions and apply the
‘substance over form’ principle by looking at the spirit of the regulations.

(b) Unmasking: Special attention may be paid to unravel:

(1) Arrangements for providing free usage of
assets, facilities and resources to RPs;

(2) Unusual, uncharacteristic arrangements
that do not reflect usual contractual acumen, as RPTs may be masked therein;

(3) Terminations and modifications of
approved RP transactions / contracts on terms favourable to the RP.

(c) Questioning
purpose and legitimacy: Review of RPTs needs to go beyond the
disclosures and reporting protocols and must extend to questioning the
legitimacy and the purpose of entering into such transactions.

(d) Going beyond the obvious: Internal Auditors may periodically consider special audits like an
asset usage review, people deployment review, etc., to identify potential
redundancies and misuse, including violation of regulations pertaining to RPs.

(e) Engaging
with the AC: The Audit Committee must create opportunities for direct,
periodic interactions between the auditors and the Audit Committee members in
the normal course. Internal Auditors need to maintain a line of communication
open with the Audit Committee members, to be able to escalate issues directly
relating to governance matters. Reporting on issues related to RPs and RPTs is
sensitive and requires tactful communication.

SHOULD INTERNAL AUDIT
SCOPE INCLUDE REVIEW OF RPTS?

The cases discussed above are very simple
and straightforward. As organisations become larger and the complexity, volume
and value of RPTs increase, it becomes difficult for the Audit Committee to
ensure that:

(I) All RPs and RPTs have been duly
identified;

(II) Adequate
processes and technology-based initiatives have been employed for
identification of all RPs and RPTs;

(III) Dealings not resulting in financial
transactions are also reported to the Audit Committee;

(IV) The facts and details required for a
fair assessment of the necessity for RPTs and the arm’s length pricing thereof
have been presented to them;

(V) Entities that are not strictly RPs but
are likely to be perceived as such are also subjected to similar scrutiny as
RPTs; and

(VI) The tendency of the executive
management to circumvent due scrutiny of RPTs is identified and escalated in a
timely manner.

With onerous responsibilities cast on the
Audit Committee with respect to related party dealings and disclosures, it has
become imperative for the Audit Committee to put the RP-related processes and
transactions through the objective scrutiny of specialist professionals.
Internal Auditors, with their curiosity, scepticism, smartness and
no-nonsense approach, are well suited to give due assurance to the Audit
Committee and, where required, give early alerts with respect to cases of
abuse, inappropriateness, misuse or fraudulent conduct.

By extending the Internal Audit scope to
RPTs, the Internal Auditors are empowered to gain necessary access to such transactions
and through this, gain relevant insights into the culture and ethics of the
Management. Such insights make the overall Internal Audit more meaningful and
conversations with the Audit Committee more relevant.

To conclude, Internal Audit of processes
pertaining to Related Parties and Transactions is not just a compliance review
– it is an audit of integrity and culture, of the tone at the top, of
convergence between stated values and demonstrated actions. When looked at in
this light, this audit assumes great importance: it calls for great maturity,
sensitivity and experience from the Internal Auditors.

If
you have integrity, nothing else matters. If you don’t have integrity, nothing
else matters.

– Alan K. Simpson

shailesh.kwebmaker

HIRING FOR TALENT – PROCESSES AND TECHNOLOGY

If one were to keep processes and technology
aside, then recruitment is all about people – and, guess what? Inherently, most
people are hilarious! Nothing like the pressure of a job interview to bring out
the most awkward, silly and mystifying behaviour in us. So, while we often
celebrate the victories – perfect referrals, nailing your LinkedIn search on
the first try, the candidate saying yes as soon as they are offered the job –
let’s take some time to get to the basics.

RECRUITMENT AND
SELECTION

Many a time I have noticed even the best
using recruitment and selection interchangeably. In very simple terms,
recruitment is the process of finding and hiring the best-qualified candidate
(from within or outside of an organisation) for a job opening, in a timely and
cost-effective manner. The recruitment process includes analysing the
requirements of a job, attracting employees to that job, screening and selecting
applicants, hiring and integrating the new employee in the organisation.

Hiring for the right talent is incomplete
without a thorough job analysis before recruiting someone and a periodic
job evaluation later. Job analysis is a family of procedures to identify the
content of a job in terms of activities involved and attributes or job
requirements needed to perform the activities. Job analysis provides
information about organisations which helps to determine which employees are
the best fit for specific jobs. Through job analysis, we can understand what
the important tasks of the job are, how they are carried out and the necessary
human qualities needed to complete the job successfully.

A job
evaluation is a
systematic way of determining the value / worth of a job in relation to other
jobs in an organisation. It tries to make a systematic comparison between jobs
to assess their relative worth for the purpose of establishing a rational
pay structure.

Job evaluation
needs to be differentiated from job analysis. Every job evaluation method
requires at least some basic job analysis in order to provide factual
information about the jobs concerned. Thus, job evaluation begins with job
analysis and ends at that point where the worth of a job is ascertained for
achieving pay equity between jobs and different roles.

JOB DESCRIPTION AND
SKILL NEEDS

In the light of changes in environmental
conditions (technology, products, services, etc.), jobs need to be examined
closely. For example, the traditional clerical functions have undergone a rapid
change in sectors like banking, insurance and railways after computerisation.
New job descriptions need to be written and the skill needs of new jobs
need to be duly incorporated in the evaluation process. Otherwise, employees
may feel that all the relevant job factors – based on which their pay has been
determined – have not been evaluated properly.

COST OF BAD HIRING

Misrepresentation
is the way employers end up making bad hires. It is not that you go and
deliberately hire the worst candidate. As per a study conducted by global human
resource consultancy CareerBuilder, 88% companies in Russia said they were
affected by bad hiring last year, followed by 87% in Brazil and China, and 84%
in India.

The study further said that three in every
ten Indian companies (29%) reported that a single bad hire – someone who turned
out not to be a good fit for the job or did not perform well – cost the company
more than Rs. 20 lakhs (USD 37,150) on an average. Apart from these study results,
there are many other aspects which get affected in an organisation because of a
bad hire, such as productivity, employee morale, increased turnover and the
financial costs of replacement.

CHARTERED ACCOUNTANTS –
DEMAND VS. SUPPLY

After looking at the generic process and
impacts of hiring right, let’s take a step backward and look at the scenario of
chartered accountant professionals in India.

In a country of 125 crore citizens and 6.80
crore taxpayers in 2017-18, close to three lakh CAs serve as the finance
guides. As of 2018, there are 2.90 lakh CAs in India of whom only 1.30 lakhs
are in full-time practice – that means about 44% of the total number of CAs.

Growing
industry

The
demand for CAs in India has been on the rise because more businesses are being
established and the government has been making policies and regulations to
monitor the market. As of January, 2019, more than one crore taxpayers have
registered in the GST regime. However, there are not many professionals to
guide
these taxpayers.

There is an immediate need to tap the talent
and to skill them in advanced tax calculations. Training in Artificial
Intelligence to participate in the growing automation of auditing process is
also needed.

The demand is not just because of the change
in the economy but also because of the crucial job roles that CAs have been
playing, catering to, for instance, Internal Audit, Tax Audit, tax planning,
cost planning, due diligence, audit under various state and Central
legislations, government audit, management audit, etc. Around 98 lakh
businesses have been registered under the GST regime and every business
requires a professional to manage the accounts- related matters. ‘Under the GST
regime all the taxpayers whose annual turnover is above Rs. 2 crores will
require to have a GST audit carried out by CAs’.

Lack
of professionals

India produces a large number of engineers
and doctors, despite the fact that there are no jobs for skilled students. But
even after having a long-term scope of professional security, the accounting
sector faces a crunch of trained professionals. ‘The recent push and incentives
being provided for startups, where students get full
control of their businesses, is another reason why commerce students are
looking beyond chartered accountancy’.

The struggle during the exams and low
stipends at entry-level jobs and limited job opportunities are some of the
reasons that have pushed students away from pursuing the professional field of
chartered accountancy. The crisis here is also that demand is ever increasing,
but the supply is not at par because of the salaries when compared to MBA and
other niche degrees.

The problem also lies in the curriculum
which largely is theoretical and not in sync with the industry requirement.
‘The rigorous practical exposure during the course of study is missing, which
makes most of the CAs feel that they are not ready for the corporate world,’
says Raghav Bhargava, Director, Taxmann.

Low
pass percentage

While
there is no glamour associated with CA as a career, the low pass percentage is
yet another reason that the number of professionals is not high. The pass
percentage for the May, 2018 final CA exams was recorded at 14% as compared to
7.63% in May, 2019. Due to the challenging nature of the industry, the vast
syllabus and the absence of a strong, formal setup of classes, there is a high
dropout rate which leads to the low pass percentage.

ICAI has a uniform level of scaling as per the
demand. The number of students passing the CA exams depends on the demand
calculation through ICAI’s survey. Moreover, there is no formal setup for CA
education and students have to depend on coaching centres. Aspirants from Tier
II and Tier III cities have limited chances to qualify for the CA entrance exams
because quality coaching is not available.

The
secret

We all know the theories of demand and
supply and I truly believe that a prestigious course like CA through the
Institute has adopted those theories very well. Hence, not everyone becomes a
CA and those who do, end up commanding a premium given the demand-supply
dynamics. Hiring for the niche role performed by CAs is very difficult and
those with additional skill sets in forensics, fraud, complex structuring deals
come at a premium.

TALENT VS. PEOPLE

While all of the above holds true, the
constant challenge that organisations face is hiring the right talent in their
workforce. The solution is the ever-evolving recruitment strategies, tools and
disruptions. There is a change in the spectrum of activities that were followed
a decade back and now, leading to better hiring, and we are not yet there!
However, many factors, including CSR by organisations to social media, are
playing a big part now. Let’s look at the age-old hiring style vs. the
situation now.

The
legacy recruitment

The recruitment process has remained
somewhat resilient to the changes in technology and the social revolution of
the new generation. Over the last two decades, recruitment was about publishing
ads in leading classifieds, both print media and websites, placing candidates
for interviews, comparing them with scores on common selection criteria and
arriving at a decision.

However, the time taken to hire then and now
is different, now being much less. The systems and tools without the modern AI
and analytics had a rework to be done for every new role sourcing. The early
2000s already had some job portals but these were sparsely used, so the
database of prospective employees was also individually controlled by each firm
and was limited. LinkedIn came into the picture by 2009-10, breaching the gap
between the employees but still keeping it formal.

The candidates did not have any idea about
the internal culture, work scenarios and access to some facts of their
prospective new employer before joining the firm until ‘Glass Door’ or ‘Hush’
arrived recently.

All in all, both the employer and employee
were at a higher risk of finding wrong matches for themselves because of lack
of information, although the time spent in hiring and getting hired was higher.

The
new-age hiring

The hiring process has transformed
dramatically over the years, due in large part to technological advancements.

Beyond the rise of the internet, tools like
video interviewing and interview scheduling software have helped to streamline
the hiring process, saving both time and money and making an employer’s life much
easier.

But there are some other, more subtle
differences between how people acquire talent now versus a decade ago. Here is
how the hiring process has changed over time:

Reach
is much more expansive

Before social media and the internet, a
person looking to expand his team had to hope that a qualified professional saw
his job posting in the local newspaper or trade magazine. Their reach was
somewhat limited when it came to recruiting and employers felt that they were
talking to the same candidates over and over when it came time to fill a
vacancy – or worse, choosing less-than-qualified individuals for open roles,
simply because there was no one else available.

The internet has truly revolutionised
recruiting. There are so many more touch points available to an employer
looking to fill an open role. From LinkedIn to your company’s website to
Twitter, Facebook networking groups and beyond, it’s never been easier to
access a deep pool of qualified candidates.

In some ways this might feel overwhelming,
as it means you’re sorting through more resumes than ever before, but it also
greatly increases your chances of finding someone who’s the perfect fit for the
role in question.

If you don’t like the applications you’re
getting from those in your immediate area, you can go beyond your city and even
your state until you find the ideal candidate.

Drastic improvements in interviewing
technology

Video interviewing has become a dramatic
time and money saver for those looking to hire. Instead of having to fly a
candidate in for an interview or rely on the phone to get a sense of what the
person is all about, the employer can now utilise video interviewing technology
for the process. This enables him to see and hear the professional without having to pay for
airfare and hotel costs. It’s much easier to schedule interviews. Thanks to the
arrival of interview scheduling software on the scene, employers are now able
to take the legwork out of bringing a professional in for an interview. This
enables them to shift their attention to preparing for the interview and making
the best hiring choice possible for the business.

An
increased focus on cultural fit

From an employer’s perspective, experience
and education matter, but they’re also taking a deeper look at who that
candidate is as an individual.

Those in charge of hiring have realised that
you can have the most qualified and experienced candidate available, but if the
person’s attitude is going to cause tension among clients or with veteran
employees, it’s probably best to look elsewhere when hiring.

They need to be in search of someone who
will add to the team in a positive way, not just someone who is competent
enough to get the job done. One person directly contributes to the morale of
the entire company, so choosing someone who will fit in well is essential.

Technical skill can be taught, the right
outlook simply can’t be

Greater
emphasis on employer branding

With the rise of the internet, it has become
easier than ever for job-seekers to gather information about the companies to
which they’re applying.

What kinds of clients does this company
typically work with? Based on pictures, blog posts, tweets and homepage
content, what kind of atmosphere does the office seem to exude? This is
something employers must constantly be mindful of and work to monitor. Your
online presence can either attract or deter talent, so make sure you’re using
these resources wisely.

Everyone within the company, especially
those tasked with interfacing with the public on behalf of the business, should
be aware of the organisation’s vision and values.

Being creative,
firms are using social media and their websites to show off that creativity and
attract job-seekers who want to be in a place where their ideas are allowed to
blossom.

Candidates
run the show

Today, job-seeking is much more tailored to
the candidate’s experience, particularly when a hiring manager is vying for
top-tier talent. Hiring managers have realised that if you want the attention
of a valuable would-be employee, you can’t make them bend over backwards to
move through your hiring process.

This is why allowing them to do a video
interview when it’s conducive to their schedule has become a popular option.Instead of forcing a candidate to take time
off from work or make up an excuse about why they’re stepping out of the office
for two hours, they’re able to record an interview from the comfort of their
own home at a time that works for them. This shows that the hiring manager
respects their time and sends a subtle signal about what it would be like to
work for that company.

Additionally, many hiring managers have
become focused on moving through the talent acquisition process as quickly as
possible. They also understand the importance of keeping all candidates
informed as they go.

Years ago, you could wait months to hear
back about whether you landed a second or third round interview. If you didn’t
get the job, you might never find out about it at all. This put your job search
process into a constant, frustrating limbo.

Now, people tasked with hiring realise the
importance of being transparent with applicants. They want to find the best
candidate for the open role as quickly as possible, and when that person is
selected, they understand they owe those who weren’t chosen the courtesy of an
email or phone call so they can continue with their job search.

SUMMARY

To sum it all up, we can say that chartered
accountant hiring is a meticulous process of getting the right individual for
the right job. The contributors to this are the whole socio-economic conditions
created by the government, the educationists and the organisation.

Though a little tough with the numbers, we
surely will get there soon with all the advancements in technology – education
and India’s growth story. As I sign off, here is one for the road – this
article was written by a Bot (Robot), cannot believe it? Right? Well, he is
named the Ghost Rider! Did you just believe me? Ask yourself how you would
react when a Bot has a telephonic interview with you and you still think it’s a
human.

shailesh.kwebmaker

HIGHLIGHTS OF THE COMPANIES (AMENDMENT) ACT, 2019

BACKGROUND

The Companies Act, 2013 (CA 2013) was enacted with a view to consolidate and amend the law relating to companies and it is now six years since its notification. However, it was observed that a large numbers of cases concerning compoundable offences are pending in the trial courts. Various settlement schemes were introduced in the past (in 2000, 2010 and 2014) to reduce the pendency of cases. The Vaish Committee constituted in 2005 even recommended withdrawal of cases where larger public interest was not involved. It was noted at that time that pendency every year was steadily increasing by about 2,000 cases, the average period of disposal of cases was five years and the average cost awarded per case to the government was alarming – Rs 573¹.

It was further noted that under CA 2013 there are 18 instances where defaults are subject to civil liability by levying penalties through the adjudication mechanism. These broadly relate to technical non-compliances. It was then felt that this list was not exhaustive and there are other defaults which are also procedural / technical in nature and these can be rectified by levy of penalty instead of prosecution in the courts. This would incentivise enhanced compliance. In this backdrop, a committee was constituted in July, 2018 under the chairmanship of Injeti Srinivas (at present Secretary in the MCA).

The terms of reference of the committee were:

(i) Examine the nature of all acts categorised as compoundable offences (those which are punishable with fine only or with fine or imprisonment, or both) and recommend whether they can be re-categorised as acts which attract civil liabilities and thus be liable for penalty;

(ii) To review non-compoundable offences and recommend whether they can be re-categorised as compoundable offences;

(iii) Review the existing mechanism of levy of penalty under CA 2013 and suggest improvements therein;

(iv) To lay down the broad contours of an in-house adjudicatory mechanism wherein penalties can be levied in a non-discretionary manner;

(v) Suggest changes in the law and matters incidental thereto.

The said committee, after taking the views of several stakeholders, submitted its report in August, 2018. However, in view of the urgency, the Companies (Amendment) Ordinance, 2018 was promulgated on 2^nd November, 2018. To replace the aforesaid Ordinance, a bill, namely, the Companies (Amendment) Bill, 2018, was introduced in the Lok Sabha and passed in the said House on 4^th January, 2019. However, the Bill could not be taken up for consideration in the Rajya Sabha. In order to give continued effect to the Companies (Amendment) Ordinance, 2018, the President promulgated the Companies (Amendment) Ordinance, 2019 and the Companies (Amendment) Second Ordinance, 2019 on 12^th January, 2019 and 21^st February, 2019, respectively. The Companies (Amendment) Bill, 2019 was passed by the Rajya Sabha on 30^th July, 2019 and by the Lok Sabha on 27^th July, 2019.

Besides the terms of reference which are listed above, the objective of the committee was to unclog the trial courts of routine cases so that cases of more serious nature could be pursued with enhanced rigour. The committee had noted that as on 30^th June, 2018, the total cases pending was as under:

Regional Directors	Compoundable	Non-Compoundable
All 7 Regional Directors	32,602*	1,055
Pending applications for withdrawal	6,391	0
Total	38,993	1,055
*Eastern Region (out of the total above)	18,292	268

The committee had classified the nature of defaults under CA 2013 and after detailed analysis it was noticed that compoundable offences under the CA 2013 could be classified as under:

Categories	Type of offence under CA 2013	No. of offences	Recommendation and rationale
I	Non-compliance of the orders of statutory authorities and courts, etc.	15	Defiance will not be considered to be procedural lapse and shall continue with criminal action. Status quo be maintained
II	Those resulting from non-maintenance of certain records in registered office of the company	4	The defaults involve public interest therefore the same were not brought under the regime of in-house adjudication
III	Defaults on account of non-disclosures of interest of persons to the company, which vitiates the records of the company	3	Any non-disclosure of interest of persons in the company shall result in serious implications to the public and hence should not be brought under in-house adjudication by levying penalties
IV	Defaults related to corporate governance norms	5	Offences under such category are technical and can be penalised by initiating in-house adjudication proceedings. Hence, such offences should be shifted to in-house adjudication
V	Technical defaults relating to intimation of certain information by filing forms with ROC or in sending of notices to the stakeholders	13	11 out of these 13 offences should be brought under in-house adjudication
VI	Defaults involving substantial violations which may affect the going concern nature of the company or are contrary to larger public interest or otherwise involve serious implications in relation to the stakeholder	29	These defaults are substantial violations which directly affect the status of the company, therefore involve large public interest. Hence these cannot be brought under the regime of in-house adjudication
VII	Default related to liquidation proceedings	9	Offences under these sections shall not be replaced with penalty as the same are placed before the NCLT and the Tribunal shall be the decision-making authority. Hence there shall be no change
VIII	Defaults not specifically punishable under any provision but made punishable through an omnibus clause	3	Due to the wide-ranging nature of defaults and unintended consequences, should not be brought under the in-house adjudication regime
	Total	81

(A) Amendments carried out to CA 2013 vide Companies Amendment Act, 2019

Based on recommendations of the committee² (refer para 1.5 of Chapter I of the report), the following offences are re-categorised as defaults carrying civil liabilities which would be subject to an in-house adjudication mechanism. Amendments made along with the pre-amendment punishment in each case are as under:

Clause of the Bill	Section amended/ inserted	Nature of default	Before	Now
9	Section 53(3) Fine or imprisonment or both	Prohibition of issue of shares at a discount	Fine or imprisonment or both	Non-compliance shall result in the company and officer in default being liable to a penalty of amount raised or Rs 5 lakhs whichever is less. Besides, amount to be refunded with interest @ 12% per annum
10	Section 64(2) Notice to be given to Registrar for alteration of share capital (Form SH 7)	Failure / delay in filing notice for alteration of share capital (alteration includes changes in authorised capital, etc.)	Fine only	Non-compliance shall result in the company and officer in default being liable to a penalty of Rs 1,000 per day or Rs. 5 lakhs, whichever is less
14	Section 90 Register of significant beneficial owners in a company (Form BEN 2 and related forms)	Failure / delay in making a declaration to the company and company has to maintain a register	Fine only	If any person fails to make a declaration as required, he shall be punishable with imprisonment for a term which may extend to one year or with fine which shall not be less than Rs. 1 lakh but which may extend to Rs. 10 lakhs, or with both, and where the failure is a continuing one, with a further fine which may extend to Rs. 1,000 for every day after the first during which the failure continues. If a company, required to maintain register (and file the information) or required to take necessary steps under sub-section (4A) fails to do so or denies inspection as provided therein, the company and every officer of the company who is in default shall be punishable with fine which shall not be less than Rs. 10 lakhs but which may extend to Rs. 50 lakhs, and where the failure is a continuing one, with a further fine which may extend to Rs. 1,000 for every day after the first during which the failure continues. If any person wilfully furnishes any false or incorrect information or suppresses any material information of which he is aware in the declaration made under this section, he shall be liable to action under section 447
15	Section 92(5) Annual return (Form MGT 7)	Failure / delay in filing annual return	Fine or imprisonment or both	Non-compliance shall result in the company and its every officer who is in default to be liable to a penalty of Rs. 50,000 and in case of continuing failure, with further penalty of Rs. 100 for each day during which such failure continues, subject to a maximum of Rs. 5 lakhs
16	Section 102(5) Statement to be annexed to notice (explanatory statement)	Attachment of a statement of special business in a notice calling for general meeting	Fine only	Non-compliance with the section shall result in every promoter, director, manager or other key managerial personnel who is in default being liable to a penalty of Rs. 50,000 or five times the amount of benefit accruing to the promoter, director, manager or other key managerial personnel or any of his relatives, whichever is higher
17	Section 105(3) Proxies	Default in providing a declaration regarding appointment of proxy in a notice calling for general meeting	Fine only	Non-compliance shall result in every officer in default being liable to a penalty of Rs 5,000
18	Section 117(2) Resolutions and agreements to be filed (Form MGT 14)	Failure / delay in filing certain resolutions	Fine only	Non-compliance shall result in the company being liable to a penalty of Rs. 1 lakh and, in case of continuing failure, with further penalty of Rs. 500 for each day after the first during which such failure continues, subject to a maximum of Rs. 25 lakhs, and every officer of the company who is in default, including liquidator of the company, if any, shall be liable to a penalty of Rs. 50,000 and in case of continuing failure, with further penalty of Rs. 500 for each day after the first during which such failure continues, subject to a maximum of Rs. 5 lakhs
19	Section 121(3) Report on annual general meeting (Form MGT 15 applicable to listed companies)	Failure / delay in filing report on AGM by public listed company	Fine only	Non-compliance shall result in the company being liable to a penalty of Rs. 1 lakh, and in case of continuing failure with a further penalty of Rs. 500 for each day after the first during which such failure continues, subject to a maximum of Rs. 5 lakhs, and every officer of the company who is in default shall be liable to a penalty which shall not be less than Rs. 25,000, and in case of continuing failure, with a further penalty of Rs. 500 for each day after the first during which such failure continues, subject to a maximum of Rs. 1 lakh
21	Section 135	Failure / delay in complying with CSR (Corporate Social Responsibility)	Fine or imprisonment or both	If a company contravenes the provisions, the company shall be punishable with fine which shall not be less than Rs. 50,000 but which may extend to Rs. 25 lakhs, and every officer of such company who is in default shall be punishable with imprisonment for a term which may extend to three years or with fine which shall not be less than Rs. 50,000 but which may extend to Rs. 5 lakhs, or with both
22	Section 137(3) Copy of financial statement to be filed with Registrar (Form AOC 4)	Failure / delay in filing financial statement	Fine or imprisonment or both	Non-compliance shall result in: (i) the company being liable to a penalty of Rs. 1,000 for every day during which the failure continues but which shall not be more than Rs. 10 lakhs, instead of being punishable with fine; and (ii) the managing director and the chief financial officer of the company, if any, and, in the absence of the managing director and the chief financial officer, any other director who is charged by the board of directors with the responsibility of complying with the provisions of section 137 and, in the absence of any such director, all the directors of the company, being liable to a penalty of Rs. 1 lakh, and in case of continuing failure, with further penalty of Rs. 100 for each day after the first during which such failure continues, subject to a maximum of Rs. 5 lakhs
23	Section 140(3) Removal, resignation of auditor and giving of special notice (Form ADT2 and ADT3)	Failure / delay in filing statement by auditor after resignation	Fine only	Non-compliance shall result in the auditor being liable to a penalty, he or it shall be liable to a penalty of Rs. 50,000 or an amount equal to the remuneration of the auditor, whichever is less, and in case of continuing failure, with further penalty of Rs. 500 for each day after the first during which such failure continues, subject to a maximum of Rs. 5 lakhs
24	Section 157(2) Company to inform Director Identification Number to Registrar (Form DIR 3C)	Failure / delay by company in informing DIN of director	Fine only	Non-compliance shall result in the company in default being liable to a penalty of Rs. 25,000 and in case of continuing failure, with further penalty of Rs. 100 for each day after the first during which such failure continues, subject to a maximum of Rs. 1 lakh, and every officer of the company who is in default shall be liable to a penalty of not less than Rs. 25,000 and in case of continuing failure, with further penalty of Rs. 100 for each day after the first during which such failure continues, subject to a maximum of Rs. 1 lakh
25	Section 159 Punishment for contravention – in respect of DIN	Contraventions related to DIN	Fine or imprisonment or both	Non-compliance shall result in any individual or director of a company in default being liable to a penalty, which may extend to Rs. 50,000, and where the default is a continuing one, with a further penalty which may extend to Rs. 500 for each day after the first during which such default continues
27	Section 165(6) Number of directorships	Section 165(6) number of directorships	Fine only	If a person accepts appointment as a director in contravention, such person shall be liable to a penalty of Rs. 5,000 for each day after the first during which such contravention continues
28	Section 191(5) Payment to director for loss of office, etc., in connection with transfer of undertaking, property or shares	Payment to director not to be made on loss of office	Fine only	Non-compliance shall result in such director being liable to a penalty of Rs. 1 lakh
29	Section 197(15) Overall maximum managerial remuneration and managerial remuneration in case of absence or inadequacy of profits	Managerial remuneration	Fine only	Non-compliance shall result in any person in default being liable to a penalty of Rs. 1 lakh and where any default has been made by a company, the company shall be liable to a penalty of Rs. 5 lakhs
30	Section 203(5) Appointment of key managerial personnel	Communication of appointment of KMPs in certain class of companies	Fine only	Non-compliance shall result in the company who is in default being liable to a penalty of Rs. 5 lakhs and every director and key managerial personnel of the company who is in default shall be liable to a penalty of Rs. 50,000, and where the default is a continuing one, with a further penalty of Rs. 1,000 for each day after the first during which such default continues, but not exceeding Rs. 5 lakhs
31	Section 238(3) Registration of the offer of scheme involving transfer of shares	Registration of the offer of scheme involving transfer of shares	Fine only	Non-compliance shall result in the director being liable to a penalty of Rs. 1 lakh

Note: In the process of re-categorisation of the offences and making them liable for civil liabilities, some unintended hardships are likely to be caused, especially to the smaller companies who do not have much professional assistance available. In such cases, it would have been better if penalty was imposed linked to slabs of paid-up capital instead of flat penalties.

(B) Serious offences: Pay more or suffer more

In case of repeated defaults, the habituated defaulter will now have to pay twice. To achieve the said objective, the Ordinance has modified sub-sections (3) and (8) of section 454 and also introduced a new section 454A as follows:

Section	Title	Post-Ordinance impact
454(3)	Adjudication of penalties	Opportunity be given to make good the default. Not to initiate action unless such opportunity is given
454(8)	Adjudication of penalties	Default would occur when the company or the officer in default would fail to comply with the order of the adjudicating officer or RD as the case may be
454A	Penalty for repeated default	Under this newly-inserted section it is provided that in case a penalty has been imposed on a person under the provisions of CA 2013 and the person commits the same default within a period of three years from the date of order imposing such penalty, he shall be liable for the second and every subsequent default for an amount equal to twice the amount provided for such default under the relevant provision of CA 2013

(C) De-clogging the NCLT: More powers to Regional Directors

Section	Title	Post-Ordinance impact
441(1)(b)	Compounding of certain offences	Power of Regional Director to compound offence punishable increased up to Rs. 25,00,000 Pre-amendment, where the maximum amount of fine which may be imposed for such offence did not exceed Rs. 5 lakhs, such offence was compounded by the Regional Director or any officer authorised by the Central Government Through the amendment, where the maximum amount of fine which may be imposed for such offence does not exceed Rs. 25 lakhs, such offence shall be compounded by the Regional Director or any officer authorised by the Central Government
441(6)(a)	Compounding of certain offences	Section 441(6)(a), which requires the permission of the Special Court for compounding of offences, being a redundant provision, is omitted

Section

Title

Post-Ordinance impact

441(1)(b)

Compounding of certain offences

Power of Regional Director to compound offence punishable increased up to
Rs. 25,00,000

Pre-amendment, where the maximum amount of fine which may be imposed for such offence did not exceed Rs. 5 lakhs, such offence was compounded by the Regional Director or any officer authorised by the Central Government

Through the amendment, where the maximum amount of fine which may be imposed for such offence does not exceed Rs. 25 lakhs, such offence shall be compounded by the Regional Director or any officer authorised by the Central Government

441(6)(a)

Compounding of certain offences

Section 441(6)(a), which requires the permission of the Special Court for compounding of offences, being a redundant provision, is omitted

(D) Other Amendments

Vesting in the Central Government the power to approve the alteration in the financial year of a company u/s 2(41):

Section before amendment

After amendment

Remarks

First Proviso:

In case of associate companies incorporated outside India and required to follow different financial years, such companies were required to approach the Tribunal

First Proviso:

After amendment this power is now given to Central Government

Post-amendment, holding company or a subsidiary or associate company of a company incorporated outside India can apply to the Central Government for a different financial year.

Application pending before the Tribunal shall be
disposed of by the Tribunal

Requirements related to Commencement of Business (newly-inserted section 10A):

Section before amendment

After amendment

Remark

–

(1) A company incorporated after the commencement of the Companies (Amendment) Ordinance, 2018 and having a share capital shall not commence any business or exercise any borrowing powers unless:

(a) a declaration is filed by a director within a period of one hundred and eighty days of the date of incorporation of the company in such form and verified in such manner as may be prescribed, with the Registrar that every subscriber
to the memorandum has paid the value of the shares agreed to be taken by him on the date of making of such
declaration;

and

(b) the company has filed with the Registrar a verification of its registered office as provided in sub-section (2) of section 12

(2) If any default is made in complying with the requirements of this section, the company shall be liable to a penalty of Rs. 50,000 and every officer who is in default shall be liable to a penalty of Rs. 1,000 for each day during which such default continues, but not exceeding an amount of Rs. 1 lakh

Re-introduction of section 11 omitted under the Companies (Amendment) Act, 2015 (after doing away with the requirements of minimum paid-up capital) to provide for a declaration by a company having share capital before it commences its business or exercises borrowing power

Non-compliance of section 11 by an officer in default shall result in liability to a penalty instead of fine

Inspection of Registered Office of the Company and consequent removal of the name of the company (section 12):

Section before amendment	After amendment	Remark
	If the Registrar has reasonable cause to believe that the company is not carrying on any business or operations, he may cause a physical verification of the registered office of the company in such manner as may be prescribed, and if any	This provision is introduced to curb shell companies
–	default is found to be made in complying with the requirements he may, without prejudice to the provisions, initiate action for the removal of the name of the company from the register of companies

Vesting in the Central Government the power to approve cases of conversion of public companies into private companies (section 14):

Section before amendment

After amendment

Remark

Third Proviso:

Every alteration of the articles under this section and a copy of the order of the Tribunal approving the alteration as per sub-section (1) shall be filed with the Registrar, together with a printed copy of the altered articles, within a period of fifteen days

Second Proviso:

Provided further that any alteration having the effect of conversion of a public company into a private company shall not be valid unless it is approved by an order of the Central Government on an application made in such form and manner as may be prescribed

Third Proviso:

Every alteration of the articles under this section and a copy of the order of the Central Government approving the alteration as per sub-section (1) shall be filed with the Registrar, together with a printed copy of the altered articles, within a period of fifteen days

Any application pending before the Tribunal shall be disposed of by the Tribunal in accordance with the provisions applicable to it before these amendments.

The power has been shifted from Tribunal to Central Government

Registration of charges (Section 77):

Clause 11 of the Bill seeks to amend the first and second proviso of sub-section (1) of section 77 of the Act to provide that the Registrar may, on the application made by a company, allow registration of charge, in case of charges created before the commencement of the Companies (Amendment) Act, 2019, within a period of 300 days, or in case of charges created after the commencement of the said Act, within 60 days, on payment of additional fees. The additional period of 60 days within which the charges are required to be registered is also provided. In such case, an ad valorem fee will be charged which will be prescribed later.

Corporate Social Responsibility (Section 135):

The Bill seeks to amend sub-section (5) of section 135 and insert sub-sections (6), (7) and (8) in the said section of the Act to provide, inter alia, for (a) carrying forward the unspent amounts to a special account to be spent within three financial years and transfer thereafter to the fund specified in Schedule VII, in case of an ongoing project; and (b) transferring the unspent amounts to the fund specified under schedule VII, in other cases.

DISQUALIFICATION OF DIRECTORS (SECTION 164)

Section before amendment

After amendment

Remark

–

Insertion of Clause (i):

He has not complied with the provisions of sub-section (1) of section 165

A new clause (i) after clause (h) in section 164(1) inserted, whereby a person shall be subject to disqualification if he accepts directorships exceeding the maximum number of directorships provided in section 165

CONCLUSION

The Companies (Amendment) Bill, 2019 was introduced to replace the Companies (Amendment) Second Ordinance, 2019 with certain other amendments which were considered necessary to ensure more accountability and better enforcement to strengthen the corporate governance norms and compliance management in the corporate sector.

shailesh.kwebmaker

Article 12 of India-UAE DTAA; Article 12 of India-Germany DTAA; Article 12 of India-Singapore DTAA; sections 9 and 195 of the Act – Since hiring of simulator by itself has no purpose, fee paid for simulator is not royalty – Payment to foreign companies for flight simulation training was in the nature of FTS – In absence of FTS article in India-UAE DTAA, it was to be treated as business income which, in absence of PE of foreign company in India, was not taxable – TDS obligation cannot be fastened on the assessee because of retrospective amendment if such obligation was not there at the time of payment

22.
Kingfisher Airlines Ltd. vs. DDIT ITA No.: 86 & 87/Bang./2011 and 143
& 144/Bang./2011 A.Ys.: 2007-08 & 2008-09 Date of order: 17^th July, 2019; Members: N.V. Vasudevan (V.P.) and Jason P.
Boaz (A.M.) Counsel for Assessee / Revenue: None /
Harinder Kumar

Article 12 of India-UAE DTAA; Article 12 of
India-Germany DTAA; Article 12 of India-Singapore DTAA; sections 9 and 195 of
the Act – Since hiring of simulator by itself has no purpose, fee paid for
simulator is not royalty – Payment to foreign companies for flight simulation
training was in the nature of FTS – In absence of FTS article in India-UAE
DTAA, it was to be treated as business income which, in absence of PE of foreign
company in India, was not taxable – TDS obligation cannot be fastened on the
assessee because of retrospective amendment if such obligation was not there at
the time of payment

FACTS

The assessee was an Indian company in the
business of running an airline. During the relevant years, it had deputed its
pilots and cockpit crew to non-resident companies located in Dubai (UAE Co),
Germany (German Co) and Singapore (Sing Co) for training on flight simulators.
The assessee had made payments to the three foreign companies towards charges
for use of simulators and for training of its personnel. The assessee had not
deducted tax from the payments made to non-residents.

According to the AO, the main purpose of the
assessee was to lease the simulator, which also included charges of trainers.
Hence, the payment was in the nature of ‘royalty’ u/s 9(1)(vi) of the Act. In
respect of payments made to the three foreign companies, the AO concluded as
follows:

In respect of the UAE Co, since the payment
was for use of equipment and also for imparting information concerning
industrial, commercial or scientific experience, knowledge or skill, it
constituted ‘royalty’ under Article 12 of the India-UAE DTAA.

As for the German Co, it was required to
make available the simulator to the assessee for training. Hence, the payment
was ‘royalty’ under Article 12(3) of the India-Germany DTAA. Besides, the
charges were for use of simulator and for imparting information concerning
industrial, commercial or scientific experience, knowledge or skill. Therefore,
the AO further concluded that the payment was also covered under Article 12(4)
as FTS. Accordingly, they were chargeable to taxin India.

In respect of the Sing Co, the payment was
for use of simulator and for training. The trainers were mainly involved in
imparting information to the personnel of the assessee. Accordingly, the
payments were in the nature of ‘royalties’ under Article 12(3), and FTS under
Article 12(4), of the India-Singapore DTAA. Therefore, they were chargeable to
tax in India.

Thus, the assessee was required to deduct
tax from the all the payments made to non-resident companies.

The CIT(A) directed the AO to exclude
payments made for use of simulators and to regard only the payments made for
training as FTS. CIT(A) held that as the India-UAE DTAA did not have any
article defining or dealing with FTS, and since the UAE Co had received payment
in the course of its business, the receipt was its business income; further,
even assuming that any income had arisen to the UAE Co in India, since the UAE
Co did not have a PE in India, in terms of Article 7(1) of the India-UAE DTAA,
such income could be taxed only in the UAE. This view was supported by the ITAT
Bangalore decision in ABB FZ-LLC vs. ITO (IT) Ward-1(1) Bangalore, [2016]
75 taxmann.com 83 (Bangalore – Trib.) in the context of the India-UAE
DTAA.

In respect of
the payments made to the German Co and the Sing Co, relying on the AAR decision
in Inter Tek Testing Services India (Pvt.) Ltd. [2008] 307 ITR 418 (AAR),
the CIT(A) concluded that they were in the nature of FTS. Thereafter, referring
to the retrospective amendment to section 9 regarding deeming of income u/s
9(1)(v), (vi) and (vii), the CIT(A) held that the payment was taxable in India.
Further, insertion of Explanation 2 to section 195 of the Act made it
obligatory for the assessee to deduct tax.

HELD

Payment for simulator

Flight
simulator is an essential part of training. Merely because charges for simulator
are separately quantified on an hourly basis did not mean that the assessee had
hired the same or made payment for a right to use the same.

Without imparting training by the
instructors, hiring of the simulator on its own is of no purpose. Hence, the
charges paid by the assessee for use of simulator were ‘royalty’.

Payment to UAE Co.

In the case of the UAE Co, the question of
payment being FTS did not arise since the India-UAE DTAA does not have an
article relating to FTS.

It is settled position of law that in the
absence of an article in a DTAA regarding a particular item of income, the same
should not be regarded as residuary income but income from business. In the
absence of the PE of a non-resident in India, business income cannot be taxed
in India.

Retrospective amendment

The CIT(A) had upheld the order of the AO
only on the ground of retrospective amendment to section 9 in 2010 and to
section 195 in 2012.

The law is well settled that TDS obligation
cannot be fastened on a person on the basis of a retrospective amendment to the
law, which was not in force at the time when the payments were made. Since at
the time when the assessee made payments to the non-resident there was no TDS
obligation on him, it was not possible for him to foresee that by a
retrospective amendment to the law a TDS obligation would be fastened on him.

shailesh.kwebmaker

Sections 5 and 9 of the Act – As insurance compensation received by foreign parent company from foreign insurer was for protection of its financial interest in Indian subsidiary, it was not taxable in hands of the Indian subsidiary, although compensation was paid pursuant to fire damage to assets and stock of the Indian subsidiary

21.
TS-439-ITAT-2019 (Del.) M/s. Adidas India Marketing vs. IT Officer
(P) Ltd. ITA No.: 1431/Del/2015 A.Y.: 2011-12 Date of order: 2^nd July, 2019;

Sections 5 and 9 of the Act – As insurance
compensation received by foreign parent company from foreign insurer was for
protection of its financial interest in Indian subsidiary, it was not taxable
in hands of the Indian subsidiary, although compensation was paid pursuant to
fire damage to assets and stock of the Indian subsidiary

FACTS

The assessee was an Indian company engaged
in the business of sourcing, distribution and marketing of products in India
under a brand name owned by its overseas group company. A German company (F Co)
was the ultimate parent / holding company of the assessee. The assessee had
insured its fixed assets and stocks with an Indian insurer. F Co had insured
its financial interest in its worldwide subsidiary companies (including in
India) under a global insurance policy (GIP) with a foreign insurer. The
assessee had a fire incident against which it received compensation from the
Indian insurer during the relevant year. In respect of loss incurred by the
assessee, F Co also received insurance compensation under GIP in Germany from
the foreign insurer towards loss in economic value of its financial interest in
the assessee. The compensation received was reduced by the amount of
compensation received by the assessee from the Indian insurer. Further, F Co
had paid taxes in Germany on the compensation received under GIP.

The AO contended that the insurance
compensation received by F Co was in respect of loss of stock of the assessee
and that the email correspondence between the assessee and F Co indicated that
all receipts from insurance, relating to physical loss, business interruption
and mitigation cost, belonged to the assessee. Thus, overseas compensation
received by F Co had a direct business relationship with the business
activities of the assessee and hence the same should be taxed in India in the
hands of the assessee.

The DRP also
held that insurance compensation was taxable in the hands of the assessee as
the profit foregone on the lost stock and the loss suffered on other assets
were part and parcel of the business of the assessee in India.

The assessee had contended that

The insurance compensation received by the
assessee and F Co were under two separate and distinct contracts of insurance.
The contracts were with unrelated third-party insurers. The respective insured
persons (claimants) had separately paid the premium without any cross-charge.

While the insurance policy taken by the
assessee exclusively covered risk arising out of loss of stock and fixed assets
owned by it, the GIP exclusively covered the financial interest of F Co in the
assessee.

The privity of the insurance contract of the
Indian insurer was with the assessee and that of the foreign insurer was with F
Co. Further, the assessee was not a contracting party to the GIP.

Income ‘accrues’ to the assessee only when
the assessee acquires the right to receive it. Since there was no actual or
constructive receipt by the assessee, compensation could not be taxed in India
in its hands. Moreover, no income accrued to the assessee as the assessee had
not acquired any unconditional and absolute right to receive claim of
compensation under GIP.

F Co had undertaken the GIP with the foreign
insurer for all its investments worldwide, including in India.

HELD

Insurance policy between the assessee and
the Indian insurer was to secure stock-in-trade, which is a tangible asset.
However, GIP between F Co and foreign insurer was for securing investment made,
or financial interest, in subsidiaries which is an intangible asset. Thus, the
interest insured by the assessee and that by F Co were two different interests.

The insurance contracts entered by the
assessee and F Co were separate and independent since: (i) there were two
different claimants; (ii) claimants had separately paid the premium; (iii) no
part of the premium on GIP was allocated to the assessee; and (iv) the privity
of contract was with different parties.

As the assessee did not have any right or
obligation in the GIP and it was not a party to it, the assessee did not have
any right to receive the claim of insurance. The same was also not vested in
the assessee to be regarded as having accrued in the hands of the assessee.
Reliance was placed on the Supreme Court’s decision in the case of ED
Sassoon [26 ITR 27 (SC)].

The claim under GIP was in respect of
insured financial interest of F Co in its worldwide subsidiaries. The foreign
insurer had paid compensation for diminution in financial interest. Merely
because the computation of the claim was with reference to loss by fire of the
stock, or profit that could have been earned if such stock was sold, cannot be
construed to mean that the claim was in respect of loss of tangible property in
the form of stock of the assessee. The claim was in respect of the intangible
asset in the form of financial interest of F Co. Hence, the claim cannot be
said to have any ‘business connection’ in India.

The insured interest of F Co cannot be said
to be through or from any property in India or through or from any asset or
source of income in India. F Co had entered into a contract in Germany for
insuring the intangible assets in the form of financial interest in its
subsidiaries. This was quite distinct from the physical stock-in-trade of the
assessee that was lost in fire. Thus, the claim received by F Co could not be
treated as income deemed to accrue or arise in the hands of the assessee in
India.Further, the email correspondence was merely to explore the modes of
transfer of money from F Co to the assessee for restoring the financial
interest of F Co in the assessee. The same cannot determine the tax liability.
Such correspondence was related to application of money but did not indicate in
whose hands the money was taxable.

The GIP was taken to cover the contingent
losses that may or may not arise in future. Further, as F Co had actually paid
premium in respect of GIP from time to time and also paid tax in Germany in
relation to the insurance claim, there was no colourable device adopted by the
assessee for evading taxes in India.

shailesh.kwebmaker

Sections 5, 9, 40(a)(i) and 195 of the Act; Article 7 of India-USA DTAA – As services were rendered outside India and payment was also made outside India, receipts of the foreign company were not within the scope of ‘total income’ in section 5(2) – Fee received for merely referring and introducing clients is business income which, in absence of PE in India, would not be chargeable in India – Besides, the services were not in the nature of managerial, technical or consultancy services

20.
[2019] 107 taxmann.com 363 (Mum – Trib.) Knight Frank (India) (P) Ltd. vs. ACIT ITA No.: 2842 (Mum.) of 2017 A.Y.: 2012-13 Date of order: 12^th June, 2019;

Sections 5, 9, 40(a)(i) and 195 of the Act;
Article 7 of India-USA DTAA – As services were rendered outside India and
payment was also made outside India, receipts of the foreign company were not
within the scope of ‘total income’ in section 5(2) – Fee received for merely
referring and introducing clients is business income which, in absence of PE in
India, would not be chargeable in India – Besides, the services were not in the
nature of managerial, technical or consultancy services

FACTS

The assessee
was engaged in the business of rendering international real estate advisory and
property management services. During the course of the relevant year, the
assessee had paid referral fees to an American company (US Co) for introduction
of clients to the assessee. According to the assessee, the services rendered by
the US Co did not ‘make available’ any technical knowledge, experience, skill,
knowhow or processes to the assessee. Therefore, they were not in the nature of
‘Fees for included services’ in terms of Article 12 of the India-USA DTAA.
Since they were business profits of the US Co, in the absence of a PE in India
they could not be brought to tax in India.

However, the predecessor of the AO had, in
an earlier year, held that after retrospective amendment and insertion of
Explanation to section 9(2) of the Act, the income of a non-resident was deemed
to accrue or arise in India u/s 9(1)(v), (vi) or (vii)irrespective of whether
the non-resident had a place of business or business connection in India or
whether he had rendered services in India, and hence, the referral fee was taxable
in India. Following the order of his predecessor, the AO disallowed the fee u/s
40(a)(i) of the Act. The CIT(A) also followed the view held by his predecessor
CIT(A) and dismissed the appeal.

HELD

Sections 5 and 9 (post-2010 amendment)

Under section 5(2), income taxable in India
of a non-resident includes income received or deemed to be received in India
and income which has accrued or arisen, or is deemed to accrue or arise in
India.

Since the referral fee was paid outside
India, it was not received or deemed to be received in India. As regards
accrual, place of accrual would be relevant. Since the US Co had rendered the
services outside India, referral fee did not accrue or arise in India.

Section 9(1) in its clauses (i) to (vii)
deals with ‘income deemed to accrue or arise in India’. Clauses (ii) [salary
earned in India], (iii) [salary payable by government], and (iv) [dividend] are
not relevant in case of the US Co. Of the seven clauses, only the limb in
respect of ‘…directly or indirectly, through or from any business connection in
India…’ of clause (i) is relevant because the US Co had rendered services in
the course of its business. Explanation 1(a) to section 9(i) provides that if
all operations of a business are not carried out in India, only the income
reasonably attributable to the operations carried out in India shall be
taxable.

Since the US Co had rendered all its
services outside India, no part of referral fee could be attributed to any
operation in India. Hence, there was no income deemed to accrue or arise in
India. And, since the CIT(A) had based his conclusion on Explanation to section
9(2), which mentions clauses (v), (vi) and (vii), their applicability should be
examined. As clause (v) is in respect of ‘interest’, it is not relevant.
Similarly, clause (vi) deals with ‘royalty’, which is also not the case. Hence,
what needs to be examined is whether, in terms of clause (vii), the services
rendered were in the nature of managerial services, technical services or
consultancy services.

Managerial services

The US Co was referring or introducing
clients to the assessee. It did not provide any managerial advice or services.
Therefore, referral fee cannot be said to have been received for managerial
services.

Technical services

The US Co had not performed any services
which required special skills or knowledge relating to a technical field.
Therefore, referral fee cannot be said to have been received for technical
services.

Consultancy services

The US Co was using its skill and knowledge for
its own benefit and merely referring or introducing clients to the assessee. It
had not provided any consultation or advise to the assessee. Therefore,
referral fee cannot be said to have been received for consultancy services.

Make available

The service of referring or introducing a
client did not ‘make available’ any technical knowledge, experience, skill,
knowhow or processes to the assessee. Therefore, the receipt was not ‘Fees for
included services’ in terms of Article 12 of the India-USA DTAA.

Disallowance under section 40(a)(i)

As referral fee was business income of the
US Co, it was covered under Article 7 of the India-USA DTAA. And since the US
Co did not have a PE in India, referral fee was not chargeable to tax in India.
Hence, the assessee was not obligated to deduct tax at source u/s 195 from the
referral fee. Consequently, no disallowance u/s 40(a)(i) could be made.

shailesh.kwebmaker

Article 7, India-Malaysia DTAA; Article 7, India-UK DTAA – Compensation paid for contractual default, being business profit, was not taxable in India if recipient had no PE in India – Rebate given for quality issues effectively being discount in sale price, was not taxable; even otherwise, rebate being business profit, was not taxable in India if recipient had no PE in India

19.
[2019] 108 taxmann.com 79 (Vizag. – Trib.) 3F Industries Ltd. vs. ACIT, Circle-1, Eluru ITA No.: 01 (Viz.) of 2015 A.Y.: 2007-08 Date of order: 17^th July, 2019;

Article 7, India-Malaysia DTAA; Article 7,
India-UK DTAA – Compensation paid for contractual default, being business
profit, was not taxable in India if recipient had no PE in India – Rebate given
for quality issues effectively being discount in sale price, was not taxable;
even otherwise, rebate being business profit, was not taxable in India if
recipient had no PE in India

FACTS

The assessee was an Indian company engaged
in trading of certain products. The assessee procured the products from
suppliers in India and exported the same to foreign customers. Among others, it
had entered into export contracts with a Malaysian company (Malay Co) and a UK
company (UK Co). In respect of the contract with the Malay Co, as the price in
the Indian market was substantially higher the assessee could not procure the
products and did not fulfil the contract. Hence, the Malay Co claimed
compensation towards the losses suffered because of default by the assessee. To
maintain its business reputation and relationship with the Malay Co, the
assessee agreed upon the amount of compensation and paid up. In respect of its
contract with the UK Co, there were certain quality issues. Hence, the UK Co
claimed price rebate. Again, to maintain its business reputation and
relationship with the UK Co, the assessee agreed to a rebate.

The AO completed the assessment u/s 143(3)
of the Act. Subsequently, CIT undertook revision of the order u/s 263 and held
that as payment was made to a foreign company and no tax was deducted u/s 195
of the Act, the assessment was erroneous and prejudicial to the interest of the
Revenue. He directed the AO to examine disallowance u/s 40(a)(i) of the Act.
The AO proposed disallowance, which the DRP upheld.

HELD

Compensation for contractual default

The transaction of export was a business
transaction. Compensation was paid because of failure of the assessee to supply
the products. Thus, the payment was to compensate the Malay Co for the loss
suffered by it because of non-fulfilment of contract by the assessee.

Therefore, the receipt was business income
in the hands of the Malay Co. Further, the Malay Co did not have a PE in India.
In terms of Article 7 of the India-Malaysia DTAA, business income of the Malay
Co would be taxable only in Malaysia unless it had a PE in India. But since it
did not have a PE in India, the business income was not chargeable to tax in
India. Therefore, the question of disallowance u/s 40(a)(i) of the Act did not
arise.

Quality rebate

Quality rebate was given because of certain
quality issues. The perusal of the documents showed that the quality rebate
was, effectively, a discount in sale price. Hence, there was no question of
TDS.

Even otherwise, quality rebate was in the
nature of business profit for the UK Co. In terms of Article 7 of the India-UK
DTAA, the business income of the UK Co would be taxable only in the UK unless
it had a PE in India. But since it did not have a PE in India, the business
income was not chargeable to tax in India. Therefore, the question of
disallowance u/s 40(a)(i) of the Act did not arise.

shailesh.kwebmaker

Section 271(1)(c) – Imposition of penalty on account of inadvertent and bona fide error on the part of the assessee would be unwarranted

15.
Rasai Properties Pvt. Ltd. vs. DCITITAT Mumbai: ShamimYahya (AM) and
Ravish Sood (JM) ITA No. 770/Mum./2018 A.Y.: 2013-14 Date of order: 28^th June, 2019; Counsel for Assessee / Revenue: Nilesh Kumar
Bavaliya / D.G. Pansari

Section 271(1)(c) – Imposition of penalty
on account of inadvertent and bona fide error on the part of the
assessee would be unwarranted

FACTS

For the assessment year under consideration,
the assessee filed its return of income declaring total income of Rs.
80,19,650. In the schedule of Block of Assets, there was a disclosure of a sum
of Rs. 67,00,000 against caption ‘Deductions’ under immovable properties.

On being queried about the nature of the
aforesaid deduction, the assessee submitted that the same pertained to certain
properties which were sold during the year under consideration. The AO called
upon the assessee to explain why it had not offered the income from the sale of
the aforementioned properties under the head income from ‘Long-Term Capital
Gain’ (LTCG). In response, the assessee offered long-term capital gain of Rs.
19,45,176 and also made a disallowance of Rs. 93,453 towards excess claim of
municipal taxes.

In the assessment order, the AO initiated
penalty proceedings u/s 271(1)(c) for furnishing of inaccurate particulars of
income and concealment of income in the context of the aforesaid addition /
disallowance. Subsequently, the AO being of the view that the assessee had
filed inaccurate particulars of income within the meaning of 271(1)(c) r.w.
Explanation 1, imposed a penalty of Rs. 6,29,936.

Aggrieved, the assessee preferred an appeal
to the CIT(A) who deleted the penalty with reference to the disallowance of Rs.
93,453 but confirmed it with reference to addition of long-term capital gain
which was offered for taxation in the course of the assessment proceedings.

Aggrieved, the assessee preferred an appeal
to the Tribunal where it was contended that the LTCG on the sale of three shops
had, on account of a bona fide mistake on the part of the assessee, had
not been shown in the return of income.

The fact that the assessee had never
intended to withhold sale of the property under consideration could safely be
gathered from a perusal of the chart of the tangible fixed assets that formed
part of its balance sheet for the year under consideration, wherein a deduction
of Rs. 67,00,000 was disclosed by the assessee.

Besides, on learning of his mistake, the
assessee had immediately worked out the LTCG on the sale of the aforementioned
properties and had offered the same for tax in the course of the assessment
proceedings.

HELD

The Tribunal noted that while the assessee
had admittedly failed to offer the LTCG on the sale of three shops for tax in
its return of income for the year under consideration, at the same time, the
‘chart’ of the ‘block of assets’ of tangible fixed assets, forming part of the
balance sheet of the assessee as ‘Note No. 6’ to the financial statements for
the year ended 31^st March, 2013 clearly reveals that the assessee
had duly disclosed the deduction of Rs. 67,00,000 from the block of fixed
assets. The Tribunal also found that the assessee in the course of the
assessment proceedings on learning about its aforesaid inadvertent omission and
not offering the LTCG on the sale of the aforesaid shops, had worked out its
income under the said head and offered the same for tax.

The Tribunal held that:

(a) when the assessee had disclosed the
deduction of Rs. 67,00,000 pertaining to sale of the aforesaid three shops from
the ‘block of assets’ in its balance sheet for the year under consideration,
therefore, there is substantial force in its claim that the failure to offer
LTCG on the sale of the said shops had inadvertently been omitted to be shown
in the return of income for the year under consideration;

(b) imposition of penalty u/s 271(1)(c)
would be unwarranted in a case where the assessee had committed an inadvertent
and bona fide error and had not intended or attempted to either conceal
its income or furnish inaccurate particulars;

(c) its aforesaid view is fortified by the
judgement of the Supreme Court in the case of PriceWaterHouse Coopers
Pvt. Ltd. vs. CIT(2012) 348 ITR 306;

(d) imposition of penalty u/s 271(1)(c)
would be unwarranted on account of the aforesaid inadvertent and bona fide
error on the part of the assessee.

The Tribunal set aside the order of the
CIT(A) and deleted the penalty imposed by the AO u/s 271(1)(c). The appeal
filed by the assessee was allowed.

shailesh.kwebmaker

Section 254(2) – If the appeal against the order of the Tribunal has already been admitted and a substantial question of law has been framed by the Hon’ble High Court, the Tribunal cannot proceed with the Miscellaneous Application u/s 254(2) of the Act

14.
Ratanlal C. Bafna vs. JCIT ITAT Pune; Members: Anil Chaturvedi (AM) and
Vikas Awasthy (JM) MA No. 97/Pune/2018 in ITA No. 204/Pune/2012 A.Y.: 2008-09 Date of order: 15^thMarch, 2019; Counsel for Assessee / Revenue: Sunil Ganoo
/ Ashok Babu

Section 254(2)
– If the appeal against the order of the Tribunal has already been admitted and
a substantial question of law has been framed by the Hon’ble High Court, the
Tribunal cannot proceed with the Miscellaneous Application u/s 254(2) of the
Act

FACTS

For the captioned assessment year, the
assessee preferred an application u/s 254(2) against the order of the Tribunal
in ITA No. 204/Pune/2012 for A.Y. 2008-09 on the ground that while adjudicating
the said appeal the Tribunal had not adjudicated ground No. 12 of the appeal,
although the same was argued before the Bench.

Aggrieved by the order of the Tribunal in
ITA No. 204/Pune/2012 for A.Y. 2008-09, the assessee had preferred an appeal to
the Bombay High Court which was admitted by the Court vide order dated 26^th
November, 2018 (in ITA No. 471 and 475 of 2016) for consideration of
substantial question of law.

Since the present M.A. was the second M.A.
against the impugned order of the Tribunal, the Bench raised a query as to
whether a second M.A. is maintainable since the first M.A. against the same
order has been dismissed by the Tribunal. In response, the assessee submitted
that the second M.A. is maintainable because it is on an issue which was not a
subject matter of the first M.A. For this proposition, reliance was placed on
the decision of the Kerala High Court in CIT vs. Aiswarya Trading Company
(2011) 323 ITR 521, the decision of the Allahabad High Court in Hiralal
Suratwala vs. CIT 56 ITR Page 339 (All.) and the decision
of the Gujarat High Court in CIT vs. Smt. Vasantben H. Sheth (2015) 372
ITR 536 (Guj.).

At the time of hearing, the assessee relied
on the decision of the Bombay High Court in R.W. Promotions Private
Limited (W.P. No. 2238/2014) decided on 8^thApril, 2015 to
support its contention that even though the assessee has filed an appeal
against the order of the Tribunal, the Tribunal can still entertain an
application u/s 254(2) of the Act seeking rectification of the order passed by
it. Relying on this decision, it was contended that since ground No. 12 of the
appeal has not been adjudicated, the Tribunal can recall the order to decide
the said ground.

HELD

The Tribunal observed that it is a settled
law that the judgement must be read as a whole and the observations made in a
judgement are to be read in the context in which they are made; for this
proposition it relied on the decision of the Bombay High Court in Goa
Carbon Ltd. vs. CIT (2011) 332 ITR 209 (Bom.).

It observed
that the slightest change in the facts changes the factual scenario and makes
one case distinguishable from the other. It observed that the Kolkata Bench of
the Tribunal in Subhlakshmi Vanijya (P) Ltd. vs. CIT (2015) 60
taxmann.com 60 (Kolkata – Trib.) has noted as under:

‘13.d It is a well settled legal position
that every case depends on its own facts. Even a slightest change in the
factual scenario alters the entire conspectus of the matter and makes one case
distinguishable from another. The crux of the matter is that the ratio of any
judgement cannot be seen divorced from its facts.’

The Tribunal noted that in the case of R.W.
Promotions Pvt. Ltd. (Supra), the assessee had filed an appeal u/s 260A
of the Act before the High Court but the appeal was yet to be admitted. It was
in such a fact pattern that the Court held that the Tribunal has power to
entertain an application u/s 254(2) of the Act for rectification of mistake. In
the present case, however, it is not a case where the assessee has merely filed
an appeal before the High Court but it is a case where the High Court has
admitted the appeal for consideration after framing substantial question of
law. On account of this difference in
the facts, the Tribunal held that the facts in the case of R.W.
Promotions (Supra) and the present case are distinguishable.

The Tribunal noted that the Gujarat High
Court in the case of CIT vs. Muni Seva Ashram (2013) 38 taxmann.com 110
(Guj.) has held that when an appeal has been filed before the High Court,
the appeal is admitted and substantial question of law has been framed in the
said appeal, then the Tribunal cannot recall the order.

The Tribunal held that since the appeal
against the order of the Tribunal has already been admitted and a substantial
question of law has been framed by the High Court, the Tribunal cannot proceed
with the miscellaneous application u/s 254(2) of the Act.

Hence, the Tribunal dismissed the
miscellaneous application u/s 254(2) of the Act seeking rectification in the
order of the Tribunal as being not maintainable.

shailesh.kwebmaker

Section 50C – Third proviso to section 50C inserted w.e.f. 1st April, 2019 providing for a safe harbour of 5%, is retrospective in operation and will apply since date of introduction of section 50C, i.e., w.e.f. 1st April, 2003, since the proviso is curative and removes an incongruity and avoids undue hardship to assessees

13.
Chandra Prakash Jhunjhunwala vs. DCIT (Kol.) Members: A.T. Varkey (JM) and Dr. A.L. Saini
(AM) ITA No. 2351/Kol./2017 A.Y.: 2014-15 Date of order: 9^th August, 2019; Counsel for Assesssee / Revenue: Manoj
Kataruka / Robin Chowdhury

Section 50C – Third proviso to section 50C
inserted w.e.f. 1^st April, 2019 providing for a safe harbour of 5%,
is retrospective in operation and will apply since date of introduction of
section 50C, i.e., w.e.f. 1^st April, 2003, since the proviso is
curative and removes an incongruity and avoids undue hardship to assessees

FACTS

The assessee in his return of income
declared total income to be Nil and claimed current year’s loss to be Rs. 1,19,46,383. In the course of assessment proceedings, the AO noticed that
the assessee had on 14^th December, 2013 transferred his property at
Pretoria Street, Kolkata for a consideration of Rs. 3,15,00,000 and had
declared long-term capital gain of Rs. 1,22,63,576 on transfer thereof. The
stamp duty value (SDV) of this property was Rs. 3,27,01,950. In response to the
show cause notice issued by the AO as to why the SDV should not be adopted as
full value of consideration, the assessee asked the AO to make a reference to
the DVO to ascertain the fair market value of the property. Accordingly, the
reference was made but the DVO did not submit his report within the specified
time and the AO completed the assessment by adopting SDV to be the full value
of consideration.

Aggrieved, the assessee preferred an appeal
to the CIT(A) who confirmed the action of the AO. The assessee then preferred
an appeal to the Tribunal.

HELD

The Tribunal observed that:

(i) the fundamental purpose of introducing
section 50C was to counter suppression of sale consideration on sale of
immovable properties, and this section was introduced in the light of the
widespread belief that sale transactions of land and buildings are often
undervalued resulting in leakage of legitimate tax revenues;

(ii) the variation between SDV and the sale
consideration arises because of many factors;

(iii) Stamp duty value and the sale
consideration, these two values represent the values at two different points
of time;

(iv) in order to minimise hardship in case
of genuine transactions in the real estate sector, it was proposed by the
Finance Act, 2018 that no adjustments shall be made in a case where the
variation between the SDV and the sale consideration is not more than 5% of the
sale consideration. This amendment is with effect from 1^stApril,
2019 and applies to assessment year 2019-20 and subsequent years;

(v) the co-ordinate Bench of the ITAT
Mumbai, in the case of John Fowler (India) Ltd. in ITA No.
7545/Mum./2014, for AY 2010-11, order dated 25.1.2017 held that if the
difference between valuation adopted by the Stamp Valuation Authority and
declared by the assessee is less than 10%, the same should be ignored and no
adjustments shall be made.

The Tribunal noted that the amendment made
by the Finance Act, 2018 is introduced only with prospective effect from 1^st
April, 2019. It noted that the observations in the memorandum explaining the
provisions of the Finance Bill, 2018 make it abundantly clear that the
amendment is made to remove an incongruity, resulting in undue hardship to the
assessee. Relying on the decision of the Delhi High Court in the case of CIT
vs. Ansal Landmark Township (P) Ltd., the Tribunal held that once it is
not in dispute that a statutory amendment is made to remove an apparent
incongruity, such an amendment has to be treated as effective from the date on
which the law containing such an undue hardship or incongruity was introduced.

The Tribunal held that the insertion of the
third proviso to section 50C of the Act is declaratory and curative in nature.
The third proviso relates to computation of value of property and hence is not
a substantive amendment, it is only a procedural amendment and therefore the
co-ordinate Benches of ITAT used to ignore the variation of up to 10%, and
hence the said amendment should be retrospective. The third proviso to section
50C should be treated as curative in nature with retrospective effect from 1^stApril, 2003,. i.e., the date from which section 50C was introduced.

Since the difference between the SDV and the
consideration was less than 5%, the Tribunal deleted the addition made by the
AO and confirmed by the CIT(A).

This ground of
the appeal filed by the assessee was allowed.

shailesh.kwebmaker

Section 56(2)(vii) – The amount received by the assessee from the HUF, being its member, is a capital receipt in his hands and is not exigible to income tax If the decisions passed by the higher authorities are not followed by the lower authorities, there will be chaos resulting in never-ending litigation and multiplication of cases

12.
Pankil Garg vs. PCIT ITAT Chandigarh; Members: Sanjay Garg (JM)
and Ms Annapurna Gupta (AM) ITA No.: 773/Chd./2018 A.Y.: 2011-12 Date of order: 3^rd August, 2019; Counsel for Assessee / Revenue: K.R. Chhabra
/ G.S. Phani Kishore

Section 56(2)(vii) – The amount received by
the assessee from the HUF, being its member, is a capital receipt in his hands
and is not exigible to income tax

If the decisions passed by the higher
authorities are not followed by the lower authorities, there will be chaos
resulting in never-ending litigation and multiplication of cases

FACTS

For the assessment year under consideration,
the AO completed the assessment of total income of the assessee u/s 143(3) of
the Act by accepting returned income of Rs. 14,32,982. Subsequently, the AO
issued a notice u/s 147 on the ground that the assessee has received a gift of
Rs. 5,90,000 from his HUF and since the amount of gift was in excess of Rs.
50,000, the same was taxable u/s 56(2)(vii) of the Act.

In the course of reassessment proceedings,
the assessee contended that the amount received by him from his HUF was not
taxable and relied upon the decision of the Rajkot Bench of the Tribunal in Vineetkumar
Raghavjibhai Bhalodia vs. ITO [(2011) 46 SOT 97 (Rajkot)] which was
followed by the Hyderabad Bench (SMC) of the Tribunal in Biravel I.
Bhaskar vs. ITO [ITA No. 398/Hyd./2015; A.Y. 2008-09; order dated 17^th
June, 2015] wherein it has been held that HUF being a group of
relatives, a gift by it to an individual is nothing but a gift from a group of
relatives; and further, as per the exclusions provided in clause 56(2)(vii) of
the Act, a gift from a relative is not exigible to taxation; hence, the gift
received by the assessee from the HUF is not taxable. The AO accepted the
contention of the assessee and accepted the returned income in an order passed
u/s 147 r.w.s. 143(3) of the Act.

Subsequently, the Ld. PCIT, invoking
jurisdiction u/s 263 of the Act, set aside the AO’s order and held that the HUF
does not fall in the definition of relative in case of an individual as provided
in Explanation to clause (vii) to section 56(2) as substituted by the Finance
Act, 2012 with retrospective effect from 1^st October, 2009. Though
the definition of a ‘relative’ in case of an HUF has been extended to include
any member of the HUF, yet, in the said extended definition, the converse case
is not included. In the case of an individual, the HUF has not been mentioned
in the list of relatives.

The PCIT, thus, formed a view that though a
gift from a member to the HUF was not exigible to taxation as per the
provisions of section 56(2)(vii) of the Act, a gift by the HUF to a member
exceeding a sum of Rs. 50,000 was taxable.

The PCIT also held that the decisions of the
Rajkot and the Hyderabad Benches of the Tribunal relied upon by the assessee were
not in consonance with the statutory provisions of sections 56(2)(vii) and
10(2) of the Act and, thus, the AO had made a mistake in not taking recourse to
the clear and unambiguous provisions of section 56(2)(vii) of the Act and in
unduly placing reliance on judicial decisions which were not in accordance with
the provisions of law.

The order passed by the AO was held by the
PCIT to be erroneous and prejudicial to the interest of Revenue and was set aside. The AO was directed to make assessment afresh.

Aggrieved, the assessee preferred an appeal
to the Tribunal.

HELD

The Tribunal noted that the AO had duly
applied his mind to the issue and followed the decisions of the co-ordinate
Benches of the Tribunal; hence, the order of the AO cannot be held to be
erroneous and, therefore, the PCIT wrongly exercised jurisdiction u/s 263 of
the Act and the same cannot be held to be justified and is liable to be set
aside on this score alone.

The Tribunal held that the PCIT neither had
any power nor any justification to say that the AO should not have placed
reliance on the judicial decisions of the Tribunal. The Tribunal held that if
such a course is allowed to subsist, then there will be no certainty and
finality to the litigation. If the decisions passed by the higher authorities
are not followed by the lower authorities, there will be chaos resulting in
never-ending litigation and multiplication of cases. The Tribunal held that the
impugned order of the PCIT is not sustainable as per law.

On merits, the Tribunal, after discussing
the concept of HUF and the provisions of sections 56(2)(vii) and 10(2), held
that any amount received by a member of the HUF, even out of the capital or
estate of the HUF cannot be said to be income of the member exigible to
taxation. Since a member has a pre-existing right in the property of the HUF,
it cannot be said to be a gift without consideration by the HUF or by other
members of the HUF to the recipient member. The Tribunal observed that
provisions of section 56(2)(vii) are not attracted when an individual member
receives any sum either during the subsistence of the HUF for his needs or on
partition of the HUF in lieu of his share in the joint family property.
However, the converse is not true, that is, in case an individual member throws
his self-acquired property into the common pool of an HUF. The HUF or its
members do not have any pre-existing right in the self-acquired property of a
member. If an individual member throws his own / self-acquired property in the
common pool, it will be an income of the HUF; however, the same will be exempt
from taxation as the individual members of an HUF have been included in the
meaning of relative as provided in the Explanation to section 56(2)(vii) of the
Act. It is because of this salient feature of the HUF that in case of an
individual the HUF has not been included in the definition of relative in
Explanation to section 56(2)(vii), whereas in the case of an HUF, members of
the HUF find mention in the definition of relative for the purpose of the said
section.

In view of the above discussion, the amount
received by the assessee from the HUF, being its member, is a capital receipt
in his hands and is not exigible to income tax.

The Tribunal allowed the appeal of the
assessee.

shailesh.kwebmaker

Section 194J, section 40(a)(ia) – Payment made by film exhibitor to distributor is neither royalty nor FTS and is not covered by section 194J and, consequently, does not attract disallowance u/s 40(a)(ia)

29.
[2019] 71 ITR 332 (Ahd. – Trib.) ITO vs. Eyelex Films Pvt. Ltd. ITA No.: 1808 (Ahd.) of 2017 & 388
(Ahd.) of 2018 A.Ys.: 2013-14 and 2014-15 Date of order: 7^th March, 2019;

Section 194J, section 40(a)(ia) – Payment
made by film exhibitor to distributor is neither royalty nor FTS and is not
covered by section 194J and, consequently, does not attract disallowance u/s
40(a)(ia)

FACTS

The assessee was an exhibitor of films. It
purchased cinematographic films from the distributors for exhibition in cinema
houses. The revenue earned from box office collections was shared with the
distributors as a consideration for purchase of films. The assessee had not
deducted tax at source on the said payments under the belief that the payment
does not fall under any of the provisions mandating TDS. However, the AO
categorised the said payments as royalty u/s 194J and, in turn, disallowed the
said payments u/s 40(a)(ia).

Aggrieved, the assessee preferred an appeal
to the CIT(A) who allowed the appeal. In turn, the aggrieved Revenue filed an
appeal before the Tribunal.

HELD

The Tribunal discussed the observations made
by the CIT(A) and concurred with its view which was as under:

Section 194J defines royalty in Explanation
2 to section 9(1)(vi). As per the said definition, the consideration for sale /
distribution or exhibition of cinematographic films has been excluded. The
payment made by the appellant could not be included under the definition of
royalty u/s 9 of the Act, and therefore the provisions of section 194J were not
applicable. Payments made by the assessee to the distributors were nothing but
the procurement charges, meaning purchases of the rights of exhibition for a
certain period as per the terms and conditions of the contract.

The CIT(A) had even discussed the
applicability of section 194C as well as section 9(1)(vii) of the Act and concluded that even section 194C was not applicable as the impugned
payment was not for carrying out any work.

shailesh.kwebmaker

CBDT circular dated 8th August, 2019 – The relaxation in monetary limits for departmental appeals vide CBDT circular dated 8th August, 2019 shall be applicable to the pending appeals in addition to the appeals to be filed henceforth

28.
[2019] 108 taxmann.com 211 (Ahd. – Trib.) ITO vs. Dinesh Madhavlal Patel ITA No.: 1398/Ahd./2004 A.Y.: 1998-99 Date of order: 14^th August, 2019;

CBDT circular dated 8^th August,
2019 – The relaxation in monetary limits for departmental appeals vide CBDT
circular dated 8^th August, 2019 shall be applicable to the pending
appeals in addition to the appeals to be filed henceforth

FACTS

The Tribunal vide its order disposed of the
present appeal and 627 other appeals filed by various AOs challenging the
correctness of the orders passed by CIT(A) and also cross-objections filed by
the assessees against the said appeals of the Revenue supporting the orders of
the CIT(A). The tax effect in each of these appeals is less than Rs. 50 lakhs.

The Tribunal noted that vide CBDT circular
dated 8^th August, 2019 the income tax department has further
liberalised its policy for not filing appeals against the decisions of the
appellate authorities in favour of the taxpayers where the tax involved is
below certain threshold limits, and announced its policy decision not to file,
or press, the appeals before the Tribunal against appellate orders favourable
to the assessees – in cases in which the overall tax effect, excluding interest
except when interest itself is in dispute, is Rs. 50 lakhs or less.

Following the said circular, the Tribunal
sought to dismiss all the appeals. However, while dismissing the appeals, the
DR pointed out that the said circular is not clearly retrospective because in
para 4 it says, “(t)he said modifications shall come into effect from the
date of issue of this circular”. Relying on this, the argument sought to be
made was that the limits mentioned in the circular dated 8^thAugust,
2019 will apply only to appeals to be filed after the date of the said
circular. The representatives of the assessees, however, argued that the
circular must be held to have retrospective application and must equally apply
to the pending appeals as well. It was submitted that the said circular is not
a standalone one but is required to be read with old circular No. 3 of 2018 which it seeks to modify.

HELD

The Tribunal did not have even the slightest
hesitation in holding that the concession extended by the CBDT not only applies
to the appeals to be filed in future but is also equally applicable to the
appeals pending disposal as of now. The Tribunal observed that the circular
dated 8^th August, 2019 is not a standalone circular but has to be read
in conjunction with the CBDT circular No. 3 of 2018 (and subsequent amendment
thereto) and all it does is to replace paragraph Nos. 3 and 5 of the said
circular.

It observed that all other portions of the
circular No. 3 of 2018 have remained intact and that includes paragraph 13
thereof. Having noted the contents of paragraph 13 of the said circular No. 3
of 2018, the Tribunal held that the relaxation in monetary limits for
departmental appeals vide CBDT circular dated 8^th August, 2019 shall
be applicable to the pending appeals in addition to the appeals to be filed
henceforth.

The Tribunal
dismissed all the appeals as withdrawn. As the appeals filed by the Revenue
were found to be non-maintainable and as all the related cross-objections of
the assessees arose only as a result of those appeals and merely supported the
order of the CIT(A), the cross-objections filed by them were also dismissed as
infructuous.

shailesh.kwebmaker

INSIDER TRADING – LESSONS FROM A RECENT DECISION

BACKGROUND

SEBI had levied a penalty of Rs. 40 crores
for insider trading on the promoters against a profit of about Rs. 14 crores.
Recently, SAT confirmed this hefty penalty. The case proves how SEBI is able to
unravel facts to the last transaction and establish relations between several
parties involved in insider trading. The case also establishes SEBI’s intention
to act tough in such cases by levying stiff penalties on promoters acting
through associates. However, the case also has some grey areas. The issues are
as follows:

(i) When can price-sensitive information be
said to have arisen, particularly in case of complex transactions?

(ii) Whether purchase on negotiated terms of
a large quantity of shares from a person can be said to be a case of insider
trading?

(iii) How are the profits of insider trading
calculated – profits actually made, or should an attempt be made to quantify
the impact of price-sensitive information on the price?

(iv) Should profits made by insider trading
be disgorged and handed over to the party who may have suffered a loss?

The present case was about a tender with
electricity bodies where it may be difficult even for the management to be 100%
sure and whether initial success necessarily means ‘confirmed outcome’.

BASIC FACTS OF THE CASE

The case concerns dealings in the shares of
ICSA (India) Limited. The findings were that the promoters (consisting of
husband and wife and certain companies belonging to their group) purchased,
through certain persons, 15.86 lakh shares in February, 2009. These shares were
purchased when certain price-sensitive information was not made public.
According to SEBI’s order the price-sensitive information related to the
company being successful bidders to large contracts aggregating to Rs. 464.17
crores with various electricity bodies. The purchase price was approx. Rs. 75
per share. The shares were sold at a significant profit of about Rs. 14 crores.

The transactions were routed through persons
who could be described as ‘associates’. These associates were funded by the
promoters’ group for purchasing the shares. The shares so purchased were either
transferred to the promoter entities or sold in the market and the sale
proceeds transferred to the promoters.

SEBI’s penalty also included a penalty for
giving misleading information about the relations between the promoters and the associates and making misleading disclosures relating to
shares pledged by the promoters / associates.

The penalty of Rs. 40 crores levied for such
insider trading, etc., has been upheld by SAT.

SEBI’s order is dated 15^th
October, 2015. The SAT order is dated 12^th July, 2019 (Appeal No.
509 of 2015).

ALLEGATIONS

SEBI alleged
that there was price-sensitive information related to the company being
successful bidders of contracts with certain electricity bodies amounting to
Rs. 464 crores. Under the SEBI (Prohibition of Insider Trading) Regulations,
1992 (Insider Trading Regulations), insiders are prohibited from dealing in
shares of the company while having access to or being in possession of
unpublished price-sensitive information. The promoters and their group entities
were alleged to be aware of this price-sensitive information and indulged in
the purchase of a large quantity of shares before publishing this information.

The purchasers were funded by the promoter’s
group entities. The shares so acquired were either sold by the associates or
transferred to group companies. The profit made was also transferred to group
companies.

SEBI further alleged that incorrect
information was given about shares pledged by the group companies and associates.

DEFENCE BY THE PROMOTERS

The promoters denied that they had financed the
purchase of shares or that the various transactions through the associates
amounted to insider trading. They stated that only a preliminary outcome had
been received in respect of the bids when the shares were purchased and at that
stage one could not be certain that the contracts would be granted to the
company. They explained the whole process of grant of bids, including
preliminary acceptance and certain processes thereafter, and that until final
award took place, ‘price-sensitive information’ could not be said to
have arisen.

They also stated that a large foreign
shareholder had desired to sell the shares and that to avoid a negative impact
on the market his shares were purchased. It was also stated that the reason for
making purchases through the associates was that if the promoters had
themselves purchased the shares, a negative image would have been created
giving an impression of promoters increasing their holding in the company.

They also denied that they had given
misleading disclosures relating to promoters or of the relations between the
parties.

RULING BY SEBI

SEBI presented detailed facts of
transactions including how funds were transferred by group entities of the
promoters to the associates. It was also shown how shares were sold and monies
transferred or shares were simply transferred to the promoter entities.

SEBI also established how the promoter
himself was very closely involved with the contract bidding, and hence it was
clear that he was aware of the progress regarding receiving the contract.

On facts, too, from the data provided by the
promoters, it was shown that largely, once the preliminary bids were
successful, an eventual successful outcome was fairly certain. However, even
otherwise, the information at that stage was too price-sensitive.

The promoters were also held guilty of
providing misleading information of relations between the parties. Further,
SEBI held that the promoters had given misleading information relating to
pledging of shares by promoters.

Penalties were thus levied on various
entities involved. For ‘insider trading’, a penalty of Rs. 40 crores was levied
on the promoters and group entities / associates. For providing misleading
information, a penalty of Rs. 20 lakhs was levied on the promoters and one
associate. For giving misleading disclosure of promoter holdings, an aggregate
penalty of Rs. 38 lakhs was levied.

RULING BY SAT

The Securities Appellate Tribunal (SAT)
after extensively considering the arguments and the facts held that

(a) On the matter of price-sensitive
information, on facts, that is, after considering comparable cases and their
earlier rulings, the nature of bids and the awarding process, even the preliminary
outcome of a bid amounted to price-sensitive information and promoters’ dealing
in shares was in violation of the Insider Trading Regulations.

(b) On the amount of penalty, SAT noted that
SEBI had powers to levy penalty up to three times the gains made. Thus, the
penalty levied of Rs. 40 crores on profits on insider trading of Rs. 14 crores
was within the limit prescribed under law.

However, SAT reversed both the penalties
levied relating to providing of misleading information regarding associates’
pledging of shares.

OBSERVATIONS AND COMMENTS

The case presents some interesting aspects –
regarding how trades are done and how meticulous is SEBI’s investigation.
Despite there being some grey areas, the ruling should place promoters on guard
and about the dilemma they face whilst dealing in the shares of a company.

The manner in which trading was done was
curious and perhaps added to the complexity of the case. The promoters did not
themselves purchase the shares but provided finance to associates who acted (as
held by SEBI / SAT) more or less as a front / representatives. They used the
funds to buy the shares and then transferred the shares / sales proceeds to the
promoters. Hence, penalty was levied jointly and severally on all the concerned
parties. A side-effect of this was that even the associates, who may have been
parties of small means, were made liable to ensure payment of penalty.

The amount of penalty is fairly huge. The
profits made were Rs. 14 crores. The maximum possible penalty was Rs. 42
crores, i.e., three times the profits. Thus, by levying a penalty of Rs. 40
crores, the maximum limit of the penalty was almost touched. And SAT had no
hesitation in upholding it.

The grey area is about the time when
price-sensitive information can be said to have arisen. Both the SEBI and the
SAT orders deal with this aspect in detail. However, the dilemma remains as to
at what stage can a company and insiders be held to be confident that the
orders would be received. The matter becomes even more complex since companies
are required to share material information at the appropriate stage. The
dilemma is this: share too early and you may be held to be providing
misleading information if eventually the bid is rejected; share too late and
you may be accused of withholding and delaying release of price-sensitive /
material information. Considering that such analyses are always in hindsight,
the dilemma is compounded.

However, at least one aspect is clear – that
insiders should act with caution. Refraining from trading during this period
would be a wise decision because the Insider Trading Regulations themselves
provide for mandatory closure of the trading window for the period when such
information is ripening. For example, a long period of trading window closure
is mandated during the time when financial results of a company are being
finalised. Importantly, even preliminary success in bids is price-sensitive
information.

The next question is – should the person who
has suffered because of such insider trading be compensated? Insider trading is
often said to be a victimless crime. However, in some cases the victim may be
obvious. In the present case, can it be said that the foreign seller who sold a
large quantity of shares would not have sold the shares if he was aware that a
large order was virtually possible? In such a case, should not the profits made
by the promoters be disgorged and handed over to the seller?

This is the one question that often comes up
also in cases of frauds and price manipulation, etc. In the author’s view, this
is one area where both the law and practice lack clarity.

Finally, compliments are due to SEBI for the
meticulous gathering and analysis of information. White-collar violations are
often said to be sophisticated. Insider trading cases are even more notorious
for the sheer difficulty in proving guilt. In this case, though the
transactions were routed through associates, SEBI analysed the data and brought
out the whole linkages of relations and financial dealings between the parties.
This ought to serve as a lesson to promoters, especially in view of the hefty
penalty levied.

shailesh.kwebmaker

CHALO KASHMIR

About eight to ten
days back I was on my morning walk when I saw a luxury bus standing near the
joggers’ park. To my surprise I saw a few CA friends in the bus – Shah, Mehta,
Desai, Joshi, Kamat, Agarwal!

I wondered where all
of them were going together.

I asked: Are Ranchhodbhai, where are all of you going?

Shah: Kashmir!

I: Some seminar? Or RRC? But who has organised RRC in this tax and
audit season?

Shah: No RRC. No conference. Just on a visit.

I was even more
shocked. All CAs leaving in the month of August for a visit to Kashmir!?
Surely, they were crazy!

Q: You mean, there are all CAs in the bus?

A: No, only eight to ten of us.

Q: But what makes you visit Kashmir all of a sudden?

A: Now Article 370 is deleted.

Q: So what? How does it matter to us?

A: We are exploring business and professional opportunities there.

Q: (CAs becoming so proactive was another surprise to me!)

I said, but the
situation is not normal there. Terrorists are still active.

A: We are now not afraid of terrorists. We don’t mind fighting with
them!

I could not believe
what I was hearing! I checked up whether I was in a dream! A chartered
accountant – making such a bold and courageous statement? In my dictionary, the
antonym of CA was ‘a courageous person’.

Q: But why are you leaving the established things over here?

A: Kya settled hai?

Every year, New
Law! New Tax! New Regulation! New Accounting Standard! New Notice! New Penalty!
New Authority!

We felt the
terrorism by guns and bombs is much less disastrous than the tax and other
regulators’ terrorism over here!

Q: Oh! But life will be difficult there!

A: Idhar bhi kaunsa comfort hai? CA’s life is the most
miserable one! No one respects him. No one cares for him!

Q: Why? You have your own profession!

A: Own profession gaya paani mein! Kaun hamari sunata hai? We
have bosses everywhere and we are answerable to all. Ghar me biwi! In
office, our staff, our articles, clients – all are our bosses! You need to be
in their good books, always.

And in Government
Departments, the less said the better! As for the Government, you are only a
slave!

I saw considerable
truth in what they were saying. I wished I could join them; but as a typical CA
I lacked the courage to make up my mind!

I wished them good
luck, bid farewell to them and came back envying them.

But just the day
before yesterday, I met Mr. Shah. He said they are now in a dilemma because the
first two buildings they saw there were the Income tax Office and the GST
office!

And the report was
that even the terrorists were afraid of attacking those two buildings!

shailesh.kwebmaker

CAN A GIFT BE TAKEN BACK?

Introduction

A gift is a transfer of
property, movable or immovable, made voluntarily and without consideration by a
donor to a donee. But can a gift which has been made be taken back by the
donor? In other words, can a gift be revoked? There have been several instances
where parents have gifted their house to their children and then the children
have not taken care of their parents or ill-treated them. In such cases, the parents
wonder whether they can take back the gift which they have made on grounds of
ill-treatment. The position in this respect is not so simple and the law is
very clear on when a gift can be revoked.

LAW ON GIFTS

The Transfer of Property
Act, 1882 deals with gifts of property, both immovable and movable. Section
122 of the Act defines a gift as the transfer of certain existing movable or
immovable property made voluntarily and without consideration by a donor to a
donee. The gift must be accepted by or on behalf of the donee during the
lifetime of the donor and while he is still capable of giving. If the donee
dies before acceptance, then the gift is void. In Asokan vs.
Lakshmikutty, CA 5942/2007 (SC), the Supreme Court held that in order
to constitute a valid gift, acceptance thereof is essential. The Act does not
prescribe any particular mode of acceptance. It is the circumstances of the
transaction which would be relevant for determining the question. There may be
various means to prove acceptance of a gift. The gift deed may be handed over
to a donee, which in a given situation may also amount to a valid acceptance.
The fact that possession had been given to the donee also raises a presumption
of acceptance.

This section is clear that
it applies to gifts of movable properties, too. A gift is also a transfer of
property and hence, all the provisions pertaining to transfer of property under
the Act are applicable to it. Further, the absence of consideration is the
hallmark of a gift. What is consideration has not been defined under this Act
and hence, one would have to refer to the Indian Contract Act, 1872. Section
2(d) of that Act defines ‘consideration’ as follows – when, at the desire of
one person, the other person has done or abstained from doing something, such
act or abstinence or promise is called a consideration for the promise.

HOW ARE GIFTS TO BE MADE?

Section 123 of the Act
answers this question in two parts. The first part deals with gifts of
immovable property, while the second deals with gifts of movable property.
Insofar as the gifts of immovable property are concerned, section 123 makes
transfer by a registered instrument mandatory. This is evident from the use of
the words ‘transfer must be effected’. However, the second part of
section 123 dealing with gifts of movable property, simply requires that a gift
of movable property may be effected either by a registered instrument signed as
aforesaid or ‘by delivery’.

The difference in the two
provisions lies in the fact that insofar as the transfer of movable property by
way of gift is concerned, the same can be effected by a registered instrument
or by delivery. Such transfer in the case of immovable property requires a
registered instrument but the provision does not make delivery of possession of
the immovable property gifted as an additional requirement for the gift to be
valid and effective. This view has been upheld by the Supreme Court in Renikuntla
Rajamma (D) By Lr. vs. K. Sarwanamma (2014) 9 SCC 456.

REVOCATION OF GIFTS

Section 126 of the Transfer
of Property Act provides that a gift may be revoked in certain circumstances.
The donor and the donee may agree that on the occurrence of a certain specified
event that does not depend on the will of the donor, the gift shall be revoked.
Further, it is necessary that the condition should be express and also
specified at the time of making the gift. A condition cannot be imposed
subsequent to giving the gift. In Asokan vs. Lakshmikutty (Supra),
the Supreme Court has held that once a gift is complete, the same cannot be
rescinded. For any reason whatsoever, the subsequent conduct of a donee cannot
be a ground for rescission of a valid gift.

However,
it is necessary that the event for revocation is not dependent upon the wishes
of the donor. Thus, revocation cannot be on the mere whims and fancies of the
donor. For instance, after gifting the donor cannot say that he made a mistake
and now he has had a change of mind and wants to revoke the gift. A gift is a
completed contract and hence unless there are specific conditions precedent
which have been expressly specified, there cannot be a revocation. It is quite
interesting to note that while a gift is a completed contract, there cannot be
a contract for making a gift since it would be void for absence of
consideration. For instance, a donor cannot enter into an agreement with a
donee under which he agrees to make a gift but he can execute a gift deed
stating that he has made a gift. The distinction is indeed fine! It needs to be
noted that a gift which has been obtained by fraud, misrepresentation,
coercion, duress, etc., would not be a gift since it is not a contract at all.
It is void ab initio.

DECISIONS ON THIS ISSUE

In Jagmeet
Kaur Pannu, Jammu vs. Ranjit Kaur Pannu AIR 2016 P&H 210, the
Punjab and Haryana High Court considered whether a mother could revoke a gift
of her house in favour of her daughter on the grounds of misbehaviour and
abusive language. The mother had filed a petition with the Tribunal under the
Maintenance and Welfare of Parents and Senior Citizens Act, 2007 which had set
aside the gift deed executed by the mother. It held that the deed was voidable
at the mother’s instance. The daughter appealed to the High Court which set
aside the Tribunal’s order. The High Court considered the gift deed which had
stated that the gift was made voluntarily, without any pressure and out of
natural love and affection which the mother bore towards the daughter. There
were no preconditions attached to the gift.

The
High Court held that the provisions of section 126 of the Transfer of Property
Act would apply since this was an important provision which laid down a rule of
public policy that a person who transferred a right to the property could not
set down his own volition as a basis for a revocation. If there was any
condition allowing for a document to be revoked or cancelled at the donor’s own
will, then that condition would be treated as void. The Court held that there
have been decisions of several courts which have held that if a gift deed was
clear and operated to transfer the right of property to another but it also
contained an expression of desire by the donor that the donee will maintain the
donor, then such expression in the gift deed must be treated as a pious wish of
the donor and the sheer fact that the donee did not fulfil the condition could
not vitiate the gift.

Again,
in the case of Syamala Raja Kumari vs. Alla Seetharavamma 2017 AIR (Hyd)
86 a similar issue before the High Court was whether a gift which was
made without any pre-conditions could be subsequently revoked. The donor
executed a gift deed in favour of his daughters out of love and affection. He
retained a life-interest benefit and after him, his wife retained a life-interest
under the said document. However, there were no conditions imposed by the donor
for gifting the property in favour of the donees. All it mentioned was that he
and his wife would have a life-interest benefit. Subsequently, the donor
executed a revocation deed stating that he wanted to cancel the gift since his
daughters were not taking care of him and his wife and were not even visiting
them. The Court set aside the revocation of the gift. It held that once a valid
unconditional gift was given by the donor and was accepted by the donees, the
same could not be revoked for any reason. The Court held that the donees would
get absolute rights in respect of the property. By executing the gift deed, the
donor had divested his right in the property and now he could not unilaterally
execute any revocation deed for revoking the gift deed executed by him in
favour of the plaintiffs.

Similarly,
in the case of Sheel Arora vs. Madan Mohan Bajaj, 2007 (6) Bom CR 633,
the donor executed a registered gift deed of a flat in favour of a donee.
Subsequently, the donor unilaterally executed a revocation deed cancelling the
gift. The Bombay High Court held that after lodging the duly executed gift deed
for registration, there was a unilateral attempt on the part of the donor to
revoke the said gift deed. Section 126 of the Transfer of Property Act provides
that the revocation of gift can be done only in cases specified under the
section and the same requires participation of the donee. In the case on hand, there was no participation of the donee
in an effort on the part of the donor to revoke the said gift deed. On the
contrary, unilateral effort on the part of the donor by execution of a deed of
revocation itself disclosed that the donor had clearly accepted the legal consequences
which were to follow on account of the execution of a valid gift deed and
presentation of the same for registration.

However,
in the case of S. Sarojini Amma vs. Velayudhan Pillai Sreekumar 2018 (14)
SCALE 339, the Supreme Court considered a gift where, in expectation
that the donee would look after the donor and her husband, she executed a gift
deed. The gift deed clearly stated that the gift would take effect after the
death of the donor and her husband. Subsequently, the donor filed a deed of
cancellation of the gift deed. The Supreme Court observed that a conditional
gift became complete on the compliance of the conditions mentioned in the deed.
Hence, it allowed the revocation.

GIFTS MADE RESERVING INTEREST
FOR DONOR

One other mode of making a gift is a gift where the donor reserves an
interest for himself. For instance, a father may gift his flat to his son but
reserve a life-interest benefit for himself and his wife. Thus, although the
son would become the owner of the flat immediately, he would have an overriding
obligation to allow his parents to reside in the flat during their lifetime.
Thus, as long as they are alive, he would not be able to sell / lease or
otherwise transfer the flat or prevent them from staying in the flat. This issue
of whether a donor can reserve an interest for himself was a controversial one
and even the Supreme Court had opined for and against the same.

Ultimately,
a larger bench of the Supreme Court in Renikuntla Rajamma (D) By Lr. vs.
K. Sarwanamma (Supra) dealt with this matter. In this case, the issue
was that since the donor had retained to herself the right to use the property
and to receive rents during her lifetime whether such a reservation or
retention rendered the gift invalid? The Supreme Court upheld the validity of
such a gift and held that what was retained was only the right to use the
property during the lifetime of the donor which did not in any way affect the
transfer of ownership in favour of the donee by the donor. Thus, such a gift
reserving an interest could be a via media to making an absolute gift and then
being at the mercy of the donee. However, the gift deed should be drafted very
carefully else it would fail to serve the purpose.

CONCLUSION

‘Donor beware of how you gift, for a gift once given cannot be easily
revoked!’ If there are any
doubts or concerns in the mind of the donor then he should refrain from making
an absolute unconditional gift or consider whether to avoid the gift at all.
This is all the more true in the case of old parents who gift away their family
homes and then try to claim the same back since they are being ill-treated by
their children. They should be forewarned that it would not be easy to revoke
such a gift. In all matters of estate and succession planning, due thought must
be given to all possible and probable scenarios and playing safe is better than
being sorry!

shailesh.kwebmaker

RECENT IMPORTANT DEVELOPMENTS – PART II

In Part I of the article published in July,
we covered some of the important developments in India relating to
International Tax. In this Part II of the article, we cover recent major
developments in the area of International Taxation and the work being done at
OECD and UN in various other related fields. It is in continuation of our
endeavour to update readers on major International Tax developments at regular
intervals. The news items included here come from various sources and the OECD
and UN websites.

(A) DEVELOPMENTS IN INDIA RELATING TO
INTERNATIONAL TAX

Ratification by India of the Multilateral
Convention to implement tax treaty-related measures to prevent Base Erosion and
Profit Shifting (Press release dated 2^ndJuly, 2019 issued by CBDT,
Ministry of Finance)

India has ratified the Multilateral
Convention to implement tax treaty-related measures to prevent Base Erosion and
Profit Shifting (MLI), which was signed by the Hon’ble Finance Minister in
Paris on 7^th June, 2017 along with representatives of more than 65
countries. On 25^thJune, 2019 India deposited the Instrument of
Ratification to OECD, Paris, along with its final position in terms of Covered
Tax Agreements (CTAs), reservations, options and notifications under the MLI,
as a result of which MLI will come into force for India on 1^st
October, 2019 and its provisions will have effect on India’s DTAAs from FY
2020-21 onwards.

(B) OECD DEVELOPMENTS

(I) OECD
announces progress made in addressing harmful tax practices (BEPS Action 5)
(Source: OECD News Report dated 29^thJanuary, 2019)

The OECD has
released a new publication, Harmful Tax Practices – 2018 Progress Report on
Preferential Regimes, which contains results demonstrating that
jurisdictions have delivered on their commitment to comply with the standard on
harmful tax practices, including ensuring that preferential regimes align
taxation with substance.

The assessment of
preferential tax regimes is part of ongoing implementation of Action 5 under
the OECD/G20 BEPS Project. The assessments are conducted by the Forum on
Harmful Tax Practices (FHTP), comprising of the more than 120 member
jurisdictions of the Inclusive Framework. The latest assessment by the FHTP has
yielded new conclusions on 57 regimes, including:

44 regimes where
jurisdictions have delivered on their commitment to make legislative changes to
abolish or amend the regime (Antigua and Barbuda, Barbados, Belize, Botswana, Costa
Rica, Curaçao, France, Jordan, Macau (China), Malaysia, Panama, Saint Lucia,
Saint Vincent and the Grenadines, the Seychelles, Spain, Thailand and Uruguay).

As a result, all IP regimes
that were identified in the 2015 BEPS Action 5 report are now ‘not harmful’ and
consistent with the nexus approach, following the recent legislative amendments
passed by France and Spain.

Three new or replacement
regimes were found ‘not harmful’ as they have been specifically designed to
meet Action 5 standard (Barbados, Curaçao and Panama).

Four other regimes have been
found to be out of scope or not operational (Malaysia, the Seychelles and the
two regimes of Thailand), and two further commitments were given to make
legislative changes to abolish or amend a regime (Malaysia and Trinidad &
Tobago).

One regime has been found
potentially harmful but not actually harmful (Montserrat).

Three regimes have been
found potentially harmful (Thailand).

The FHTP has
reviewed 255 regimes to date since the start of the BEPS Project, and the
cumulative picture of the Action 5 regime review process is as follows:

The report also
delivers on the Action 5 mandate for considering revisions or additions to the
FHTP framework, including updating the criteria and guidance used in assessing
preferential regimes and the resumption of application of the substantial
activities factor to no, or only nominal, tax jurisdictions. The report
concludes in setting out the next key steps for the FHTP in continuing to
address harmful tax practices.

(II) New
Beneficial Ownership Toolkit will help tax administrations tackle tax evasion
more effectively (Source: OECD News Report dated 20^th March, 2019)

The first ever beneficial
ownership toolkit was released today in the context of the OECD’s
Global Integrity and Anti-Corruption Forum. The toolkit, prepared by the
Secretariat of the OECD’s Global Forum on Transparency and Exchange of
Information for Tax Purposes in partnership with the Inter-American
Development Bank, is intended to help governments implement the Global Forum’s
standards on ensuring that law enforcement officials have access to reliable
information on who the ultimate beneficial owners are behind a company or other
legal entity so that criminals can no longer hide their illicit activities
behind opaque legal structures.

The toolkit was
developed to support Global Forum members and in particular developing
countries because the current beneficial ownership standard does not provide a
specific method for implementing it. To assist policy makers in assessing
different implementation options, the toolkit contains policy considerations
that Global Forum members can use in implementing the legal and supervisory
frameworks to identify, collect and maintain the necessary beneficial ownership
information.

‘Transparency of
beneficial ownership information is essential to deterring, detecting and
disrupting tax evasion and other financial crimes. The Global Forum’s standard
on beneficial ownership offers jurisdictions flexibility in how they implement
the standard to take account of different legal systems and cultures. However,
that flexibility can pose challenges particularly to developing countries,’
said Pascal Saint-Amans, Head of the OECD’s Centre for Tax Policy and
Administration. ‘This new toolkit is an invaluable new resource to help
them find the best approach.’

The toolkit covers
a variety of important issues regarding beneficial ownership, including:

the concepts of beneficial
owners and ownership, the criteria used to identify them, the importance of the
matter for transparency in the financial and non-financial sectors;

technical aspects of
beneficial ownership requirements, distinguishing between legal persons and
legal arrangements (such as trusts) and measures being taken internationally to
ensure the availability of information on beneficial ownership, (such as)
a series of checklists that may be useful in pursuing a specific beneficial
ownership framework;

ways in which the principles
on beneficial ownership can play out in practice in Global Forum EOIR peer
reviews;

why beneficial ownership
information is also a crucial component of the automatic exchange of
information regimes being adopted by jurisdictions around the world.

With 154 members, a
majority of whom are developing countries, the Global Forum has been heavily
engaged in providing technical assistance on the new beneficial ownership
requirements, often with the support of partner organisations including the
IDB. The Toolkit offers another means to further equip members to comply with
the international tax transparency standards.

The Toolkit is the
first practical guide freely available for countries implementing the
international tax transparency standards. It will be frequently updated to
incorporate new lessons learned from the second-round EOIR peer reviews
conducted by the Global Forum, as well as best practices seen and developed by
supporting organisations.

(III)
International community agrees on a road-map for resolving the tax challenges
arising from digitalisation of the economy (Source: OECD News Report dated 31^st
May, 2019)

The international
community has agreed on a road-map for resolving the tax challenges arising
from the digitalisation of the economy, and committed to continue working
towards a consensus-based long-term solution by the end of 2020, the OECD
announced on 31^stMay, 2019

The 129 members of
the OECD/G20 Inclusive Framework on Base Erosion and Profit Shifting (BEPS)
adopted a Programme of Work laying out a process for reaching a new global
agreement for taxing multinational enterprises.

The document, which
calls for intensifying international discussions around two main pillars, was
approved during the 28-29 May plenary meeting of the Inclusive Framework, which
brought together 289 delegates from 99 member countries and jurisdictions and
ten observer organisations. It was presented by OECD Secretary-General Angel
Gurría to G20 Finance Ministers for endorsement during their 8-9 June
ministerial meeting in Fukuoka, Japan.

Drawing on analysis
from a Policy Note published in January, 2019 and informed by a public
consultation held in March, 2019, the Programme of Work will explore the
technical issues to be resolved through the two main pillars. The first pillar
will explore potential solutions for determining where tax should be paid and
on what basis (‘nexus’), as well as what portion of profits could or should be
taxed in the jurisdictions where clients or users are located (‘profit
allocation’).

The second pillar
will explore the design of a system to ensure that multinational enterprises –
in the digital economy and beyond – pay a minimum level of tax. This pillar
would provide countries with a new tool to protect their tax base from profit
shifting to low / no-tax jurisdictions and is intended to address remaining
issues identified by the OECD/G20 BEPS initiative.

In 2015, the OECD
estimated revenue losses from BEPS of up to USD 240 billion, equivalent to 10% of
global corporate tax revenues, and created the Inclusive Forum to co-ordinate
international measures to fight BEPS and improve the international tax rules.

‘Important progress
has been made through the adoption of this new Programme of Work, but there is
still a tremendous amount of work to do as we seek to reach, by the end of
2020, a unified long-term solution to the tax challenges posed by
digitalisation of the economy,’ Mr Gurría said. ‘Today’s broad agreement on the
technical roadmap must be followed by strong political support towards a
solution that maintains, reinforces and improves the international tax system.
The health of all our economies depends on it.’

The Inclusive
Framework agreed that the technical work must be complemented by an impact
assessment of how the proposals will affect government revenue, growth and
investment. While countries have organised a series of working groups to
address the technical issues, they also recognise that political agreement on a
comprehensive and unified solution should be reached as soon as possible,
ideally before the year-end, to ensure adequate time for completion of the work
during 2020.

(IV)
Implementation of tax transparency initiative delivering concrete and
impressive results (Source: OECD News Report dated 7^th June, 2019)

International
efforts to improve transparency via automatic exchange of information on
financial accounts are improving tax compliance and delivering concrete results
for governments worldwide, according to new data released on 7^th
June, 2019 by the OECD.

More than 90
jurisdictions participating in a global transparency initiative under the
OECD’s Common Reporting Standard (CRS) since 2018 have now exchanged
information on 47 million offshore accounts, with a total value of around EUR
4.9 trillion. The Automatic Exchange of Information (AEOI) initiative –
activated through 4,500 bilateral relationships – marks the largest exchange of
tax information in history, as well as the culmination of more than two decades
of international efforts to counter tax evasion.

‘The international
community has brought about an unprecedented level of transparency in tax
matters which will bring concrete results for government revenues and services
in the years to come,’ according to OECD Secretary-General Angel Gurria,
unveiling the new data prior to a meeting of G20 finance ministers in Fukuoka,
Japan. ‘The transparency initiatives we have designed and implemented through
the G20 have uncovered a deep pool of offshore funds that can now be effectively
taxed by authorities worldwide. Continuing analysis of cross-border financial
activity is already demonstrating the extent that international standards on
automatic exchange of information have strengthened tax compliance and we
expect to see even stronger results moving forward,’ Mr Gurria said.

Voluntary
disclosure of offshore accounts, financial assets and income in the run-up to
full implementation of the AEOI initiative resulted in more than EUR 95 billion
in additional revenue (tax, interest and penalties) for OECD and G20 countries
over the 2009-2019 period. This cumulative amount is up by EUR 2 billion since
the last reporting by OECD in November, 2018.

Preliminary OECD
analysis drawing on a methodology used in previous studies shows the very substantial
impact AEOI is having on bank deposits in international financial centres
(IFCs). Deposits held by companies or individuals in more than 40 key IFCs
increased substantially over the 2000 to 2008 period, reaching a peak of USD
1.6 trillion by mid-2008.

These deposits have
fallen by 34% over the past ten years, representing a decline of USD 551
billion, as countries adhered to tighter transparency standards. A large part
of that decline is due to the onset of the AEOI initiative, which accounts for
about two-thirds of the decrease. Specifically, AEOI has led to a decline of 20
to 25% in the bank deposits in IFCs, according to preliminary data. The
complete study is expected to be published later this year.

‘These impressive
results are only the first stock-taking of our collective efforts,’ Mr Gurria
said. ‘Even more tax revenue is expected as countries continue to process the
information received through data-matching and other investigation tools. We
really are moving closer to a world where there is nowhere left to hide.’

(V) Money
Laundering and Terrorist Financing Awareness Handbook for Tax Examiners and Tax
Auditors

The OECD in June,
2019 released an update of its 2009 Money Laundering Awareness Handbook for
Tax Examiners and Tax Auditors. This update enhances the 2009 publication
with additional chapters such as ‘Indicators on Charities and Foreign Legal
Entities’ and ‘Indicators on Cryptocurrencies’ relating to money laundering. In
a separate chapter, the increasing threat
of terrorism is addressed by including indicators of terrorist financing.

The purpose of the Money
Laundering and Terrorist Financing Awareness Handbook for Tax Examiners and Tax
Auditors is to raise the awareness level of tax examiners and tax auditors
regarding money laundering and terrorist financing. As such, the primary
audience for this Handbook are tax examiners and tax auditors who may come
across indicators of unusual or suspicious transactions or activities in the
normal course of tax reviews or audits and report to an appropriate authority.
While this Handbook is not intended to detail criminal investigation methods,
it does describe the nature and context of money laundering and terrorist
financing activities, so that tax examiners and tax auditors, and by extension
tax administrations, are able to better understand how their contributions can
assist in the fight against serious crimes.

While the aim of
this Handbook is to raise the awareness of the tax examiners and tax auditors
about the possible implications of transactions or activities related to money
laundering and terrorist financing, the Handbook is not meant to replace
domestic policies or procedures. Tax examiners and tax auditors will need to
carry out their duties in accordance with the policies and procedures in force
in their country.

(VI) G20 Osaka Leaders’ Declaration

The leaders of the
G20 met in Osaka, Japan on 28-29 June, 2019 to make united efforts to address
major global economic challenges. They stated in their declaration that they
will work together to foster global economic growth while harnessing the power
of technological innovation, in particular digitalisation, and its application
for the benefit of all.

In the declaration,
para 16, relating to tax, stated as follows:

‘16. We will
continue our co-operation for a globally fair, sustainable, and modern
international tax system, and welcome international co-operation to advance
pro-growth tax policies. We reaffirm the importance of the worldwide
implementation of the G20/OECD Base Erosion and Profit Shifting (BEPS) package
and enhanced tax certainty. We welcome the recent progress on addressing the
tax challenges arising from digitalisation and endorse the ambitious work
programme that consists of a two-pillar approach, developed by the Inclusive
Framework on BEPS. We will redouble our efforts for a consensus-based
solution with a final report by 2020. We welcome the recent achievements on tax
transparency, including the progress on automatic exchange of information for
tax purposes. We also welcome an updated list of jurisdictions that have not
satisfactorily implemented the internationally agreed tax transparency
standards. We look forward to a further update by the OECD of the list that
takes into account all of the strengthened criteria. Defensive measures will be
considered against listed jurisdictions. The 2015 OECD report inventories
available measures in this regard. We call on all jurisdictions to sign and
ratify the Multilateral Convention on Mutual Administrative Assistance in Tax
Matters. We reiterate our support for tax capacity building in developing
countries.’

(VII) OECD expands transfer pricing country
profiles to cover 55 countries

The OECD has just
released new transfer pricing country profiles for Chile, Finland and Italy,
bringing the total number of countries covered to 55. In addition, the OECD has
updated the information contained in the country profiles for Colombia and
Israel.

These country
profiles reflect the current state of legislation and practice in each country
regarding the application of the arm’s-length principle and other key transfer
pricing aspects. They include information on the arm’s-length principle,
transfer pricing methods, comparability analysis, intangible property,
intra-group services, cost contribution agreements, transfer pricing
documentation, administrative approaches to avoiding and resolving disputes,
safe harbours and other implementation measures as well as to what extent the
specific national rules follow the OECD Transfer Pricing Guidelines.

The transfer
pricing country profiles are published to increase transparency in this area
and reflect the revisions to the Transfer Pricing Guidelines resulting from the
2015 Reports on Actions 8-10 Aligning Transfer Pricing Outcomes with Value
Creation and Action 13 Transfer Pricing Documentation and Country-by-Country
Reporting of the OECD/G20 Project on Base Erosion and Profit Shifting
(BEPS), in addition to changes incorporating the revised guidance on safe
harbours approved in 2013 and consistency changes made to the rest of the
OECD Transfer Pricing Guidelines.

A. UN
DEVELOPMENTS

(VIII) Manual
for the Negotiation of Bilateral Tax Treaties between Developed and Developing
Countries, 2019

The United Nations Manual for the Negotiation of Bilateral Tax Treaties
between Developed and Developing Countries (2019) is a compact training tool
for beginners with limited experience in tax-treaty negotiations. It seeks to
provide practical guidance to tax-treaty negotiators in developing countries,
in particular those who negotiate based on the United Nations Model Double
Taxation Convention between Developed and Developing Countries. It deals with
all the basic aspects of tax-treaty negotiations and it is focused on the
realities and stages of capacity development of developing countries.

The core of the Manual is contained in Section III which
introduces the different Articles of the United Nations Model Double Taxation
Convention between Developed and Developing Countries (United Nations Model
Convention). This section is not intended to replace the Commentaries thereon,
which remain the final authority on issues of interpretation, but rather to
provide a simple tool for familiarising less experienced negotiators with the
provisions of each Article.

We sincerely hope that the reader would find the above developments to
be interesting and useful.

shailesh.kwebmaker

UNINSTALLED MATERIALS AND IMPACT ON REVENUE RECOGNITION

BACKGROUND

Contract Co (CoCo) enters
into a contract with a customer to refurbish a 40-storey building and install
new lifts for a total consideration of INR 1,62,000. The promised refurbishment
service, including the installation of the lifts, is a single performance
obligation satisfied over time. The refurbishment will be performed over a three-year
period. The total revenue is expected to be as follows:

TOTAL EXPECTED REVENUE

INR

Transaction
price

1,62,000

Expected
costs

Lifts

81,000

Other
costs

54,000

Total
expected costs

1,35,000

Expected
gross margin

27,000

The contract costs incurred
over the three-year period are as follows:

CONTRACT COSTS OVER THREE YEARS

Year 1

Year 2

Year 3

Total

INR

Other
costs incurred

18,000

54,000

Cost
of lifts delivered to site but not yet installed at year-end

81,000

–

81,000

Total
costs incurred

99,000

18,000

1,35,000

At the end of Year 1,
included in the total costs of INR 99,000 are the costs incurred to purchase
the lifts worth INR 81,000. These lifts had been delivered at the site at the
end of Year 1 but had not yet been installed. The lifts were procured from a third-party
supplier and CoCo was not involved in either the designing or the manufacture
of the lifts. These lifts were installed at the end of Year 2. CoCo recognises
revenue over time, applying an input method based on costs incurred. Assume
that in arriving at the agreed transaction price, CoCo had applied the
following mark-up to its costs:

COST MARK-UP BY THE COMPANY

Cost

Mark-up

Transaction

Price

Gross Margin

INR

Cost
of lifts

81,000

7,200

88,200

8.2

Other
costs

54,000

19,800

73,800

26.8

Total

1,35,000

27,000

1,62,000

16.7

CoCo has determined that it
acts as a principal in accordance with Ind AS 115.B34-B38, because it obtains
control of the lifts before they are transferred to the customer.

QUERY 1

CoCo uses an input method
based on costs incurred. How should it determine the amount of revenue, profit
and gross margin to be recognised in its financial statements for Year 1, Year
2 and Year 3?

YEAR 1

The general principle of
over time revenue recognition in Ind AS 115 is that the pattern of revenue
recognition should reflect the entity’s performance in transferring control of
goods and services to the customer (see Ind AS 115.39). Paragraph B19 of Ind AS
115 notes that when an input method is used, an entity should exclude the
effects of any inputs that do not reflect the entity’s performance to date. It
specifically requires that revenue is only recognised to the extent of costs
incurred if:

(a) the goods are not
distinct; (b) the customer is expected to obtain control of the goods
significantly before receiving services relating to the goods; (c) the cost of
the transferred goods is significant relative to the total expected costs to
completely satisfy the performance obligation; and (d) the entity procures the
goods from a third party and is not significantly involved in designing and
manufacturing the same (but the entity is acting as a principal in accordance
with paragraphs B34-B38).

Therefore, CoCo excludes
the cost of the lifts from the cost-to-cost calculation in Year 1 because the
cost of the lifts is not proportionate to CoCo’s measure of progress towards
performing the refurbishment. Paragraph B19 is met because:

(i) The
lifts are not distinct. The refurbishment and installation of the lifts represents
one single performance obligation;

(ii) The
customer obtains control of the lifts when they arrive on its premises at the
end of Year 1, but installation of the lifts is only performed at the end of
Year 2;

(iii) The
costs of the lifts are significant relative to the total expected costs of the
refurbishment; and

(iv) The
lifts were procured from a third party and CoCo is not involved in designing or
manufacturing the lifts.

CoCo
therefore adjusts the measure of its progress towards completion and excludes
the uninstalled lifts from the costs incurred when determining the entity’s
performance to date:

DETERMINING THE ENTITY’S PERFORMANCE

INR

Total costs incurred to date:

99,000

Less: uninstalled lifts

(81,000)

18,000

CoCo then
calculates the percentage of performance completed to date:

INR 18,000
other costs (excluding lifts) / INR 54,000 total other costs (excluding lifts)
= 33.33% complete. CoCo recognises revenue to the extent of the adjusted costs
incurred and does not recognise a profit margin for the uninstalled lifts:

PROFIT MARGIN RECOGNISED

Year 1

INR

Total transaction price

1,62,000

Less: Cost of lifts

(81,000)

Adjusted revenue (excluding lifts)

81,000

% of performance completed to date

33%

Revenue for the period (excluding lifts)

27,000

Revenue recognised for cost of lifts

81,000

Total revenue for the period

1,08,000

Less: Costs for the period

(99,000)

Profit for the period

9,000

Profit margin (profit / total revenue)

8.33%

The above
accounting is clearly in accordance with Ind AS 115 and there are no
interpretation issues. However, the accounting in the following years is not
clear under Ind AS 115, which is the subject of this discussion.

YEARS 2 & 3

At the end
of Year 2 the lifts have been installed and an additional INR 18,000 of costs
has been incurred. Ind AS 115 does not contain specific guidance on the
accounting for the previously uninstalled materials that have now been
installed. Possible approaches for the accounting in the remaining years are:

View 1
– Continue to exclude the cost of the lifts from the cost-to-cost calculation
in the remaining periods of the contract;

View 2 –
Include the cost of the lifts in the cost-to-cost calculation once the lifts
have been installed and use a contract-wide profit margin;

View 3
– The cost-to-cost calculation would continue to exclude the cost of the lifts;
however, once the lifts have been installed, an applicable profit margin on the
lifts would be recognised as revenue;

View 4 – Since Ind AS 115 is not specific in its requirements,
Views 1, 2 or 3 might be acceptable depending on the facts and circumstances.
It is necessary to consider whether the approach selected meets the overall
principle in Ind AS 115.39 that the amount of revenue should ‘depict an
entity’s performance in transferring control of goods or services promised to a
customer’. This principle once selected should be applied consistently.

View 1
– Continue to exclude the cost of the lifts from the cost-to-cost calculation
in the remaining periods of the contract;

Under this
approach, no profit margin would be recognised for the installed lift. The
profit margin derived from the lifts is instead shifted to the other services
in the contract as costs for those services are incurred.

COSTS INCURRED TO DATE

Year 1

Year 2

Year 3

INR

Total costs incurred to date

99,000

1,17,000

1,35,000

Less: Cost of lifts delivered but not installed at end of Year 1

(81,000)

Adjusted costs incurred to date (excl. lifts)

18,000

36,000

54,000

% of performance completed to date

33%

67%

100%

Revenue recognised to date (excl. lifts)

27,000

54,000

81,000

Revenue recognised for cost of lifts

81,000

Cumulative revenue recognised to date

1,08,000

1,35,000

1,62,000

REVENUE FOR THREE YEARS

Year 1

Year 2

Year 3

Total

INR

Revenue for the period (excluding lifts)

27,000

81,000

Add: Revenue for cost of lifts

81,000

Revenue for the period

1,08,000

27,000

1,62,000

Less: Costs for the period

(99,000)

(18,000)

(1,35,000)

Profit for the period

9,000

27,000

Profit margin

33%

17%

Arguments for View 1:

Under B19(b)
only one accounting treatment applies to goods that meet the conditions set out
in B19(b). B19(b) does not distinguish goods that have been installed from
those that have not yet been installed. As per para B19(b), a faithful
depiction of an entity’s performance might be to recognise revenue at an amount
equal to the cost of goods used to satisfy a performance obligation if the
entity expects at contract inception that certain conditions are met.

The Basis
for Conclusions to IFRS 15 notes that the aim of the adjustment is to reflect
the same profit or loss and margin as if the customer had supplied those goods
themselves for the entity to install or use in the construction activity.
Paragraph BC172 of IFRS 15 notes: For goods that meet the conditions in paragraph
B19(b) of IFRS 15, recognising revenue to the extent of the costs of those
goods ensures that the depiction of the entity’s profit (or margin) in the
contract is similar to the profit (or margin) that the entity would recognise
if the customer had supplied those goods themselves for the entity to install
or use in the construction activity [IFRS 15.BC172]. If the customer had
supplied the lifts itself, then CoCo would not have recognised any profit or
margin on the lifts.

Per
paragraph IE98 from Illustrative Example 19, the adjustment to cost-to-cost can
be read to be applied throughout the entire life of the contract, in
accordance with paragraph B19 of Ind AS 115, the entity adjusts its measure of
progress to exclude the costs to procure the elevators from the measure of
costs incurred and from the transaction price. The entity recognises
revenue for the transfer of the elevators in an amount equal to the costs to
procure the elevators (i.e., at a zero margin).

Arguments against View 1:

View 1 does not reflect the
reality of the transaction as an entity would typically charge a margin for
procurement (the extent of the margin would likely depend on whether the item
is generic or of a specialised nature – a higher margin is likely to be applied
for items that are specialised in nature or that are harder to source), and
would not recognise a profit margin on the item when it is installed. Rather,
the margin is being shifted to the other services in the contract as costs for those
services are incurred. However, such margins may not be material when the
entity is procuring a generic item and is not involved in its design.

View 1 would
result in a different cumulative amount of revenue being recognised using the
same input method at the end of Year 2 when there has been a significant delay
between delivery and installation compared to when there is no delay – even
though the same amount of work has been performed at the end of Year 2. This is
because B19(b)(ii) would not be met because the customer does not obtain
control of the goods significantly before receiving the services.

View 2
– Include the cost of the lifts in the cost-to-cost calculation once the lifts
have been installed.

Under this approach, once the lifts have been installed, the cost of the
lifts would be included in cost-to-cost calculations.

COST-TO COST CALCULATIONS

Year 1

Year 2

Year 3

INR

Total costs incurred to date

99,000

1,17,000

1,35,000

Less: cost of lifts delivered but not yet installed

(81,000)

N/A

Costs incurred to date

18,000

1,17,000

1,35,000

% of POCM to date (rounded off)

33%

87%

100%

Revenue recognised to date

27,000

1,40,400

1,62,000

Revenue recognised for cost of lifts

81,000

N/A

Cumulative revenue recognised to date

1,08,000

1,40,400

1,62,000

Year 1

Year 2

Year 3

Total

INR

Revenue for the period

27,000

32,400

21,600

81,000

Add: Revenue for costs of lifts

81,000

N/A

81,000

Revenue for the period

1,08,000

32,400

21,600

1,62,000

Less: Costs for the period

(99,000)

(18,000)

(1,35,000)

Profit for the period

9,000

14,400

3,600

27,000

Profit margin

44%

17%

Arguments for View 2:

The
guidance in Illustrative Example 19 and the Basis for Conclusions to IFRS 15
focuses on the situation before the goods are installed, so the adjustment to
the cost-to-cost calculation only applies on goods that have been delivered but
not yet installed.

The
relevant extracts from the section for ‘Uninstalled materials’ in the Basis for
Conclusions are as follows:

BC171 of IFRS 15 states: The boards observed that if a customer
obtains control of the goods before they are installed by an entity… The boards
noted that recognising a contract-wide profit margin before the goods are
installed could overstate the measure of the entity’s performance and,
therefore, revenue would be overstated… [emphasis added].

BC172: The
boards noted that the adjustment to the cost-to-cost measure of progress for
uninstalled materials… (emphasis added).

BC174: …Although
the outcome of applying paragraph B19(b) of 1FRS 15 is that some goods or
services that are part of a single performance obligation attract a margin, while any uninstalled materials attract only a zero margin…

Arguments against View 2

When the
profit margin applicable to the procured item(s) is significantly different
from the profit margin attributable to other goods and services to be provided
in accordance with the contract, the application of a contract-wide profit
margin will overstate the amount of revenue and profit that is attributed to
the procured item(s). This is not consistent with the underlying principle in
Ind AS 115.39, which is that the amount of revenue recognised should ‘depict an
entity’s performance in transferring control of goods or services promised to a
customer’ (i.e., the satisfaction of an entity’s performance obligation).

As noted
in the analysis for Year 1 above, Ind AS 115.B19(b) includes guidance for
uninstalled material at the point at which control has passed to the customer.
This guidance is noted as being an example of ‘faithful depiction’ of an
entity’s performance. Consequently, when there are significantly different
profit margins attributable to procured item(s), it is necessary to adjust the
amount of revenue that is attributable to those procured item(s).

View 3
– Once the lifts have been installed, an applicable profit margin is recognised
for the lifts separately from the rest of the project:

APPLICABLE PROFIT MARGIN

	Year 1	Year 2	Year 3
Total costs incurred to date	99,000	1,17,000	1,35,000
Less: cost of lifts delivered but not yet installed	(81,000)	(81,000)	(81,000)
Adjusted costs incurred to date (excl. lifts)	18,000	36,000	54,000
% of performance completed to date	33%	67%	100%
Revenue recognised to date (excl. lifts)	24,600	49,200	73,800
Revenue recognised for lifts (mark-up included in Years 2 & 3)	81,000	88,200	88,200
Cumulative revenue recognised to date	1,05,600	1,37,400	1,62,000

Year 1

Year 2

Year 3

INR

Total costs incurred to date

99,000

1,17,000

1,35,000

Less: cost of lifts delivered but not yet installed

(81,000)

Adjusted costs incurred to date (excl. lifts)

18,000

36,000

54,000

% of performance completed to date

33%

67%

100%

Revenue recognised to date (excl. lifts)

24,600

49,200

73,800

Revenue recognised for lifts (mark-up included in Years 2 &
3)

81,000

88,200

Cumulative revenue recognised to date

1,05,600

1,37,400

1,62,000

Year 1

Year 2

Year 3

Total

INR

Revenue for the period (excl. lifts)

24,600

73,800

Add: Revenue for lifts

81,000

7,200

88,200

Revenue for the period

1,05,600

31,800

24,600

1,62,000

Less: Costs for the period

(99,000)

(18,000)

(1,35,000)

Profit for the period

6,600

13,800

6,600

27,000

Profit margin

43%

27%

17%

Arguments for View 3:

Same
arguments as for View 2, but it also addresses the downside of View 2 of
overstating profit margin once the materials are installed. Proponents of View
3 argue that this would most faithfully depict the economics of the transaction.

Arguments against View 3:

Mark-ups /
profit margins could be subject to management manipulation.

The
approach seems to have been considered but rejected by the boards as noted in
paragraph BC171 of IFRS 15. Alternatively, requiring an entity to estimate a
profit margin that is different from the contract-wide profit margin could be
complex and could effectively create a performance obligation for goods that
are not distinct (thus bypassing the requirements for identifying performance
obligations) [IFRS 15.BC171].

QUERY 2 –
assuming either View 2 or View 3 is followed for Question 1:

Where the
profit margins attributable to different components of a contract that is
accounted for as a single performance obligation are significantly different,
is it appropriate to use an input method as a measure of progress?

View 1

Yes. Although
different profit margins might arise from different parts of a contract, the
fact that the seller has a single performance obligation means that Ind AS 115
does not require those different components to be separately identified.
Proponents of this view note that IFRS 15.BC171 would appear to support this
approach: ‘Alternatively, requiring an entity to estimate a profit margin that
is different from the contract-wide profit margin could be complex and could
effectively create a performance obligation for goods that are not distinct
(thus bypassing the requirements for identifying performance obligations).’ It
is also noted that Example 19, which has different components that would
typically be expected to have different profit margins, is based on the vendor
using an input method to measure progress towards contract completion.

View 2

No. Ind AS
115.39 includes the objective that is required to be followed when measuring
progress where a performance obligation is satisfied over time, which is: ‘…The
objective when measuring progress is to depict an entity’s performance in
transferring control of goods or services promised to a customer (i.e., the
satisfaction of an entity’s performance obligation.’ Proponents of View 2
consider that, in the fact pattern set out above, the use of an input method,
with a single overall profit margin being allocated to costs incurred, would
result in an overstatement of performance for the transfer of the lifts and an
understatement of performance for the transfer of other services.

Supporters of View 2 also question whether the lifts are in fact part of
a single performance obligation. If the seller can procure the lifts
separately, then the customer could also procure the lifts, meaning that the
procurement of the lifts could be viewed as being a separate performance
obligation.

This
conclusion would also appear to be supported by IFRS 15.BC172, in that: ‘…For
goods that meet the conditions in paragraph B19(b) of IFRS15, recognising
revenue to the extent of the costs of those goods ensures that the depiction of
the entity’s profit (or margin) in the contract is similar to the profit (or
margin) that the entity would recognise if the customer had supplied those
goods themselves for the entity to install or use in the construction
activity.’

View 3

Ind AS115 is not specific in its requirements. Consequently, either View
1 or View 2 are acceptable as an accounting policy choice, to be applied
consistently to similar transactions.

AUTHOR’S VIEW AND
CONCLUSION

On Question
1,View 1 and View 2 are the two acceptable views, though on balance View 1 is
more preferred. View 3 and View 4 are not acceptable. View 1 practically makes
sense because it sticks with one approach throughout the period. This approach
is also consistent with Ind AS 115.B19 and meets the spirit of the requirement
in the Standard. View 2 may be accepted because Ind AS 115.B19 only applies to
uninstalled materials and once they are installed, then an entity goes back to
the general model for measuring progress.

On the
second question, View 1 is more appropriate. There is generally a better
alignment in margin using the input method, but not a guarantee of having a
consistent margin throughout in all cases.

The key
question is whether the use of the input method would be a faithful depiction
of the entity’s performance – and the response is in the affirmative. In any case, the standard
does not provide an option of applying input method, using different margins
for different components.

shailesh.kwebmaker

DCIT CC-44 vs. M/s Shreya Life Sciences Pvt. Ltd. [ITA No. 2835/Mum./2014; Bench E; Date of order: 20th November, 2015] Penalty u/s 221(1) r/w/s 140A(3) of the Act – Default on payment of self-assessment tax – Acute financial constraints – Good and sufficient reasons – Penalty deleted

18. The Pr.
CIT-Central-4 vs. M/s Shreya Life Sciences Pvt. Ltd. [Income tax Appeal No. 180
of 2017]; Date of order: 19^th March, 2019; A.Y.: 2010-11

DCIT CC-44 vs. M/s Shreya Life Sciences Pvt. Ltd. [ITA No. 2835/Mum./2014;
Bench E; Date of order: 20^th November, 2015]

Penalty u/s 221(1) r/w/s 140A(3) of the Act – Default on payment of
self-assessment tax – Acute financial constraints – Good and sufficient reasons
– Penalty deleted

The assessee is a pharmaceutical company manufacturing a wide range of
medicines and formulations. It filed its e-return on 15^th October,
2010 and was liable to pay self-assessment tax of Rs. 2,61,19,300. But the
assessee did not pay the tax and merely uploaded the e-return. Asked the
reasons for not depositing the tax, it was submitted before the AO that the
assessee company was in great financial crisis.

However, the assessee’s contention was not accepted and the AO issued
notice u/s 221(1) r/w/s 140A(3) of the Act holding that the assessee had failed
to deposit self-assessment tax due to which a penalty was imposed u/s 221(1) of
the Act.

The CIT(A) deleted the penalty to the extent of Rs. 10 lakhs and upheld
the balance amount of Rs. 40 lakhs.

Both the assessee as well as the Department went in appeal before the
ITAT. The Tribunal, while deleting the penalty referred to relied upon the
further proviso to sub-section (1) of section 221 of the Act which provides
that where the assessee proves to the satisfaction of the AO that the default
was for good and sufficient reasons, no penalty shall be levied under the said
section.

The Tribunal accepted the assessee’s explanation that due to acute
financial constraints the tax could not be deposited. The assessee pointed out
that even the other dues such as provident fund, ESIC and bank interest could
not be paid. The assessee also could not deposit the government taxes such as
sales tax and service tax. In fact, the recoveries of the tax could be made only
upon adjustment of the bank accounts.

The financial crisis was because of non-receipt of proceeds for its
exports. Attention was drawn to the amount of outstanding receivables which had
increased from Rs. 291,96,24,000 to Rs. 362,54,82,000 during the year under
consideration.

On further appeal to the High Court, the Revenue appeal was dismissed.

shailesh.kwebmaker

Dy. Commissioner of Income-tax, Circle-6(3) vs. M/s Graviss Foods Pvt. Ltd. [ITA No. 4863/Mum./2014] Pre-operative expense – New project unconnected with the existing business – Deductible u/s 37(1) of the Act

17. The Pr. CIT-7 vs. M/s Graviss
Foods Pvt. Ltd. [Income tax Appeal No. 295 of 2017]; Date of order: 5^th April, 2019; A.Y.: 2010-11

Dy. Commissioner of Income-tax, Circle-6(3) vs. M/s Graviss Foods Pvt.
Ltd. [ITA No. 4863/Mum./2014]

Pre-operative expense – New project unconnected with the existing
business – Deductible u/s 37(1) of the Act

The assessee is a private limited company engaged in the business of
manufacturing ice cream and other milk products. For the AY 2010-11 the
assessee had incurred an expenditure of Rs. 1.80 crores (rounded off) in the
process of setting up a factory for production of ‘mawa’, which project the
assessee was forced to abandon.

The AO was of the opinion that the expenditure was incurred for setting
up of a new industry. The expenditure was a pre-operative expenditure and could
not have been claimed as revenue expenditure.

The AO held that the assessee had entered a new field of business of
producing and supplying ‘mawa’ (or ‘khoa’) which is entirely different from the
business activity carried on by it. The AO completed the assessment and
disallowed the expenditure on the ground that it was incurred in connection
with starting a new project, that the expenditure was incurred for setting up a
new factory at Amritsar and thus not for the expansion and extension of the
existing business but for an altogether new business. The CIT(A) allowed the
appeal. The Tribunal relied upon its earlier decision for A.Y. 2009-10 and
confirmed the view of the CIT(A) and dismissed the Revenue’s appeal.

Before the Hon’ble High Court counsel for Revenue submitted that the
assessee was previously engaged in the business of manufacturing ice cream. The
assessee desired to set up a new plant at a distant place for production of
‘mawa’. This was, therefore, a clear case of setting up of a new industry.

The High Court observed that there was interlacing of the accounts,
management and control. The facts on record as culled out by the Tribunal are
that the assessee company was set up with the object to produce or cause to be
produced by process, grate, pack, store and sell milk products and ice cream.
In furtherance of such objects, the assessee had already set up an ice cream
producing unit. Using the same management control and accounts, the assessee
attempted to set up another unit for production of ‘mawa’, which is also a milk
product. The Tribunal, therefore, rightly held that the expenditure was
incurred for expansion of the existing business and it was not a case of
setting up of new industry, therefore it was allowable as revenue expenditure.

The High Court relied on the decision of the Supreme Court in the case
of Alembic Chemical Works Co. Ltd. vs. CIT, Gujarat, [1989] 177 ITR 377,
and the Bombay High Court decision in the case of CIT vs. Tata Chemicals
Ltd. (2002) 256 ITR 395 Bom.

The Department’s appeal was dismissed.

shailesh.kwebmaker

The DCIT vs. Mrs. Supriya Suhas Joshi [ITA No. 6565/Mum./2012; Bench: L; Date of order: 31st May, 2016; Mum. ITAT] Income from salary vis-a-vis income from contract of services – Dual control – Test of the extent of control and supervision

16. The Pr. CIT-27 vs. Mrs.
Supriya Suhas Joshi [Income tax Appeal No. 382 of 2017]; Date of order: 12^th April, 2019; A.Y.: 2009-10

The DCIT vs. Mrs. Supriya Suhas Joshi [ITA No. 6565/Mum./2012; Bench: L;
Date of order: 31^st May, 2016; Mum. ITAT]

Income from salary vis-a-vis income from contract of services – Dual
control – Test of the extent of control and supervision

The assessee is the sole proprietor of M/s Radiant
Services, engaged in Manpower Consultancy and Recruitment Services in India and
overseas. The said Radiant Services had entered into an agreement with M/s
Arabi Enertech, a Kuwait-based company, in 2007-08 for providing manpower to it
as per its requirements. Individual contracts were executed for providing the
personnel. As per the contract, the Kuwait-based company paid a fixed sum out
of which the assessee would remunerate the employee.

The AO treated the payments made by the assessee to
the persons recruited abroad as not in the nature of salaries and applied the
provisions of section 195 r/w/s 40(a)(ia) and disallowed the same as no TDS was
done by the assessee. The AO concluded that there was no master and servant
relationship between the assessee and the recruited persons and therefore the
payments could not be held to be salaries. He did not accept the assessee’s
stand that the persons so employed worked in the employment of the assessee and
were only loaned to the Kuwait-based company for carrying out the work as per
the requirements of the said company. It is undisputed that in case of payment
to a non-resident towards salary, it would not come within the scope of section
195 of the Act, and hence this controversy. The assessee carried the matter in
appeal. The CIT(A) took note of the documents from the records, including the contract
between the assessee and the Kuwait-based company and the license granted by
the Union Government to enable the assessee to provide such a service. The
Commissioner was of the opinion that the assessee had employed the persons who
had discharged the duties for the Kuwait-based company. The assessee was,
therefore, in the process making payment of salary and, therefore, there was no
requirement of deducting tax at source u/s 195 of the Act.

The Tribunal confirmed the view of the CIT(A) upon
which an appeal was filed before the High Court.

The Hon’ble High Court observed that the contract
between the assessee and the Kuwait-based company was sufficiently clear,
giving all indications that the concerned person was the employee of the
assessee. The preamble to the contract itself provided that as per the contract
the assessee would supply the Commissioning Engineer to the said company on
deputation basis for its ongoing project. Such deputation would be on the terms
and conditions mutually discussed between the assessee and the said company.
The contract envisaged payment of deputation charges which were quantified at
US$ 5,500 per month. Such amount would be paid to the assessee out of which the
assessee would remunerate the employee. The mode of payment was also specified.
The same would be released upon the assessee submitting invoices. The record
suggested that the assessee after receiving the said sum from the Kuwait-based
company would regularly pay to the employee US$ 4,000 per month, retaining the
rest. In clear terms, thus, the concerned employee was in the employment of the
assessee and not of the Kuwait-based company, contrary to what the Department
contended.

The Department argued that looking to the
supervision and control of the Kuwait-based company over the employee, it must
be held that he was under the employment of the said company and not of the
assessee. In this regard, it placed heavy reliance on the decision of the
Supreme Court in the case of Ram Prashad vs. Commissioner of Income tax
(1972) 86 ITR 122 (SC). The Court observed that the test of the extent
of control and supervision of a person by the engaging agency was undoubtedly a
relevant factor while judging the question whether that person was an agent or
an employee. However, in a situation where the person employed by one employer
is either deputed to another or is sent on loan service, the question of dual
control would always arise. In such circumstances, the mere test of on-spot
control or supervision in order to decide the correct employer may not succeed.
It is inevitable that in a case such as the present one, the Kuwait-based
company would enjoy considerable supervising powers and control over the
employee as long as the employee is working for it.

Nevertheless, the assessee company continued to
enjoy the employer-employee relationship with the said person. For example, if
the work of such person was found to be wanting or if there was any complaint
against him, as per the agreement it would only be the assessee who could
terminate his services. Under the circumstances, no question of law arises. The
Department’s appeal was dismissed.

shailesh.kwebmaker

Sections 9(1)(vii)(b) and 195 of ITA 1961 – TDS – Income deemed to accrue or arise in India – Non-resident – TDS from payment to non-resident – Payment made to non-resident for agency services as global coordinator and lead manager to issue of global depository receipt – Services neither rendered nor utilised in India and income arising wholly outside India from commercial services rendered in course of carrying on business wholly outside India – Tax not deductible at source

46. CIT(IT) vs. IndusInd Bank
Ltd.; [2019] 415 ITR 115 (Bom.) Date of order: 22^nd April, 2019;

Sections 9(1)(vii)(b) and 195 of ITA 1961 – TDS – Income deemed to
accrue or arise in India – Non-resident – TDS from payment to non-resident –
Payment made to non-resident for agency services as global coordinator and lead
manager to issue of global depository receipt – Services neither rendered nor
utilised in India and income arising wholly outside India from commercial
services rendered in course of carrying on business wholly outside India – Tax
not deductible at source

The assessee was engaged in banking business. For
its need for capital, the bank decided to raise capital abroad through the
issuance of global depository receipts. The assessee engaged the A bank,
incorporated under the laws of the United Arab Emirates and carrying on
financial services, for providing services of obtaining global depository
receipts. The assessee bank raised USD 51,732,334 by way of the gross proceeds
of global depository receipts issued. The agency would be paid the agreed sum
of money which was later on renegotiated. The assessee paid a sum of USD
20,09,293 as agency charges which in terms of Indian currency came to Rs. 90.83
lakhs. The AO held that tax was deductible at source on such payment.

The Tribunal allowed the assessee’s claim that
there was no liability to deduct tax at source.

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

‘i) The
assessee had engaged the A bank for certain financial services. The payment was
made for such financial services rendered by the A bank. The global depository
receipts were issued outside India. The services were rendered by the A bank
outside India for raising such funds outside India. It was, in this context,
that the Tribunal had come to the conclusion that the services rendered by the
A bank were neither rendered in India nor utilised in India and the character
of income arising out of such transaction was wholly outside India emanating
from commercial services rendered by the bank in the course of carrying on business wholly outside India.

ii) The Tribunal
was, therefore, correctly of the opinion that such services could not be
included within the expression “technical services” in terms of
section 9(1)(vii)(b) read with Explanation to section 9. Tax was not deductible
at source from such payment.’

shailesh.kwebmaker

Sections 69, 132 and 158BC of ITA 1961 – Search and seizure – Block assessment – Undisclosed income – Search at premises of assessee’s father-in-law – Valuation of cost of construction of property called for pursuant to search – Addition to income of assessee as unexplained investment based on report of Departmental Valuer – Report available with Department prior to search of assessee’s premises – Addition unsustainable

45. Babu
Manoharan vs. Dy. CIT; [2019] 415 ITR 83 (Mad.) Date of order: 4^th
June, 2019; A.Ys.: B.P. from 1^st April, 1989 to 31^stMarch,
2000

Sections 69, 132 and 158BC of ITA 1961 – Search and seizure – Block
assessment – Undisclosed income – Search at premises of assessee’s
father-in-law – Valuation of cost of construction of property called for
pursuant to search – Addition to income of assessee as unexplained investment
based on report of Departmental Valuer – Report available with Department prior
to search of assessee’s premises – Addition unsustainable

During a search operation u/s 132 of the Income-tax
Act, 1961 conducted in the premises of the assessee’s father-in-law on 12^th
August, 1999 it had been found that a house property was owned by the assessee
and his spouse equally and a valuation was called for from the assessee. After
the assessee submitted the valuation report, the Department appointed a valuer
who subsequently submitted his report in December, 1999. Thereafter, on 13^th
January, 2000, a search and seizure operation was conducted in the premises of
the assessee. In the block assessment made u/s 158BC, the AO made an addition
to the income of the assessee on account of unexplained investment in the
construction of the house property.

Both the Commissioner (Appeals) and the Tribunal
upheld the addition.

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

‘i) In the
absence of any material being found during the course of search in the premises
of the assessee with regard to the investment in the house property, the
assessee could not be penalised solely based on the valuation report provided
by the Department. The house property of the assessee was found during the
search conducted in the premises of the father-in-law of the assessee on 12^th
August, 1999 and a valuation report was called for from the assessee as well as
the Departmental valuer. The valuation report was prepared much earlier to the
search conducted on 13^th January, 2000 in the assessee’s premises.
Therefore, the valuation report was material which was available with the
Department before the search conducted in the assessee’s premises and it could
not have been the basis for holding that there had been an undisclosed
investment.

ii) The
assessee had not been confronted with any incriminating material recovered
during the search. According to the valuation report submitted in the year
1999, it was only to determine the probable cost of construction and the valuer
in his report had stated that the construction was in progress at the time of
inspection on 12^th August, 1999 on the date of search of the premises
of the assessee’s father-in-law. Therefore, the assessee could not be faulted
for not filing his return since he had time till September, 2001 to do so. The
order passed by the Tribunal holding that the investment in the house property
represented the undisclosed income of the assessee was set aside.’

shailesh.kwebmaker

Sections 69B, 132 and 153A of ITA 1961 – Search and seizure – Assessment – Undisclosed income – Burden of proof is on Revenue – No evidence found at search to suggest payment over and above consideration shown in registration deed – Addition solely on basis of photocopy of agreement between two other persons seized during search of other party – Not justified

44. Principal CIT vs. Kulwinder
Singh; [2019] 415 ITR 49 (P&H) Date of order: 28^th March, 2019;
A.Y.: 2009-10

Sections 69B, 132 and 153A of ITA 1961 – Search and seizure – Assessment
– Undisclosed income – Burden of proof is on Revenue – No evidence found at
search to suggest payment over and above consideration shown in registration
deed – Addition solely on basis of photocopy of agreement between two other
persons seized during search of other party – Not justified

In the A.Y. 2009-10, the assessee purchased a piece
of land for a consideration of Rs. 1 crore. Search and seizure operations u/s
132 of the Income-tax Act, 1961 were conducted at the premises of the seller
(PISCO) and the assessee. Further, during the course of the search conducted at
the residential premises of the accountant of PISCO, certain documents and an
agreement which showed the rate of the land at Rs. 11.05 crores per acre were
found. Since the land purchased by the assessee was part of the same (parcel
of) land, the AO was of the view that the assessee had understated his
investment in the land. He adopted the rate as shown in the agreement seized
during the search of the third party and made an addition to the income of the
assessee u/s 69B of the Act as undisclosed income.

The Commissioner (Appeals) held that the evidence
relied upon by the AO represented a photocopy of an agreement to sell between
two other persons in respect of a different piece of land on a different date,
that the AO had proceeded on an assumption without a finding that the assessee
had invested more than what was recorded in the books of accounts and deleted
the addition. The Tribunal found that the original copy of the agreement was
not seized; that the seller, buyer and the witnesses refused to identify it;
that the assessee was neither a party nor a witness to the agreement and was not
related to either party; that the assessee had purchased the land directly from
PISCO at the prevalent circle rate; and that in the purchase deed of the
assessee the rate was Rs. 4 crores per acre as against the purchase rate of Rs.
11.05 crores mentioned in the agreement seized. The Tribunal held that the
burden to prove understatement of sale consideration was not discharged by the
Department and that the presumption of the AO could not lead to a conclusion of
understatement of investment by the assessee and upheld the order passed by the
Commissioner (Appeals).

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

‘The Tribunal rightly upheld the findings recorded
by the Commissioner (Appeals). Learned Counsel for the appellant-Revenue has
not been able to point out any error or illegality therein.’

shailesh.kwebmaker

Section 69 – No addition u/s 69 could be made in year under consideration in respect of investment in immovable property made in earlier year(s)

27.
[2019] 200 TTJ (Del.) 375 Km. Preeti Singh vs. ITO ITA No. 6909/Del./2014 A.Y.: 2009-10 Date of order: 31^st October,
2018;

Section 69 – No addition u/s 69 could be
made in year under consideration in respect of investment in immovable property
made in earlier year(s)

FACTS

The AO made an
addition of Rs. 55.39 lakhs while completing the assessment, being the entire
amount of investment in immovable property. The aforesaid amount of Rs. 55.39
lakhs consisted of cost of property of Rs. 51.86 lakhs and stamp duty of Rs.
3.53 lakhs. The investment made by the assessee during the year under
consideration was only Rs. 12.58 lakhs. The remaining amount of investment was
made in the earlier year(s) for which no addition could be made in the year
under consideration. The assessee
submitted that the aforesaid investment of Rs. 12.58 lakhs during this
year included Rs. 6.05 lakhs by cheque out of the assessee’s bank account and a
payment of Rs. 6.53 lakhs made in cash. The assessee provided copies of the
accounts from the books of the builder from whom the property was purchased.
She also provided copies of statements of bank accounts. The assessee showed
that there were sufficient deposits in her bank accounts carried forward from
the earlier year to explain the source of the aforesaid cheques. The brought
forward opening balance at the beginning of the year in the bank accounts of
the assessee had accumulated over a period of time in the past few years.

On appeal, the CIT(A) upheld the addition of
Rs. 38.58 lakhs out of the aforesaid addition of Rs. 55.39 lakhs made by the
AO.

HELD

The Tribunal held that on perusal of section
4(1), it was obvious that in the year under consideration no addition could be
made in respect of investments in property made by the assessee in earlier
years or in respect of deposits in bank accounts of the assessee made in the
earlier year which was brought forward to this year for making cheque payments
of the aforesaid total amount of Rs. 6.05 lakhs. Moreover, certain amounts were
invested by the assessee and certain other amounts were deposited in the bank
account of the assessee in previous years relevant to earlier assessment years;
such investments or deposits could not possibly have been out of the income of
the previous year under consideration.

It is well settled that each year is a
separate and self-contained period. The income tax is annual in its structure
and organisation. Each ‘previous year’ is a distinct unit of time for the
purposes of assessment; further, the profits made and the liabilities of losses
made before or after the relevant previous year are immaterial in assessing the
income of a particular year. Even if certain income has escaped tax in the
relevant assessment year because of a devise adopted by the assessee or
otherwise, it does not entitle Revenue to assess the same as the income of any
subsequent year when the mistake becomes apparent.

In view of the
above, the AO was directed to delete the additions in respect of those amounts
which were invested by the assessee in earlier years, i.e., before previous
year 2008-09. Secondly, the AO was directed to delete the addition amounting to
Rs. 6.05 lakhs which was made by the assessee during the year under
consideration through cheque transactions from the bank account because, as
stated earlier, it was not disputed that the assessee had sufficient deposits
in her bank account at the beginning of the year to explain the source of the
aforesaid transactions by cheque. Thirdly, as far as investment aggregating to
Rs. 6.53 lakhs in cash was concerned, the matter was restored to the file of
the AO with the direction to pass a fresh order on merits on this limited issue
after considering the explanation of the assessee.

shailesh.kwebmaker

Special Deduction u/s 80-IA – Infrastructure facility – Transferee or contractor approved and recognised by authority and undertaking development of infrastructure facility or operating or maintaining it eligible for deduction – Assessee maintaining and operating railway siding under agreement with principal contractor who had entered into agreement with Railways and recognised by Railways as transferee – Assessee entitled to benefit of special deduction

43. CIT vs. Chettinad Lignite Transport Services Pvt. Ltd.; [2019] 415
ITR 107 (Mad.) Date of order: 12^th March, 2019; A.Y.: 2006-07

Special Deduction u/s 80-IA – Infrastructure facility – Transferee or
contractor approved and recognised by authority and undertaking development of
infrastructure facility or operating or maintaining it eligible for deduction –
Assessee maintaining and operating railway siding under agreement with principal
contractor who had entered into agreement with Railways and recognised by
Railways as transferee – Assessee entitled to benefit of special deduction

For the A.Y. 2006-07, the AO denied the assessee
the benefit u/s 80-IA of the Income-tax Act, 1961 on the ground that the
assessee itself did not enter into a contract with the Railways or with the
Central Government and did not satisfy the requirement u/s 80-IA(4).

The Tribunal found that though the assessee had
only an agreement with the principal contractor who had entered into an
agreement with the Railway authorities to put up rail tracks, sidings, etc.,
the Railways had recognised the assessee as a contractor. The Tribunal held
that impliedly the Department had accepted the fact that the assessee had
provided ‘infrastructure facility’ to the specified authority, to maintain a
rail system by operating and maintaining such infrastructure facility as
defined, and that the assessee performed the contract according to the terms
agreed upon, that the services rendered by the assessee were an integral and
inseparable part of the operation and maintenance of a lignite transport
system, and that the assessee’s claim that it had complied with the requisite
condition specified under the proviso and was entitled to deduction u/s 80-IA
in terms of the proviso to sub-section (4) had to be accepted.

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

‘i) The term
“infrastructure facility” has been defined in the Explanation to section 80-IA
and it includes a toll road, a bridge or a rail system, a highway project,
etc., which are big infrastructure facilities for which the enterprises have
entered into a contract with the Central Government or the State Government or
local authority. The proviso to section 80-IA(4) extends the benefit of such
deduction even to a transferee or a contractor who is approved and recognised
by the concerned authority and undertakes the work of development of the
infrastructure facility or only operating and maintaining it. The proviso to
sub-section (4) stipulates that subject to the fulfilment of the conditions,
the transferee will be entitled to such benefit, as if the transfer in question
had not taken place.

ii) The
Tribunal had rightly applied the proviso to section 80-IA(4) and had held that
the assessee was recognised as a contractor for the railway sidings, which fell
under the definition of “infrastructure facility” and that it was entitled to
the benefit u/s 80-IA. It had also rightly held that the proviso did not
require that there should be a direct agreement between the transferee
enterprise and the specified authority to avail the benefit u/s 80-IA.

iii) There
was no dispute that the assessee was duly recognised as a transferee or
assignee of the principal contractor and was duly so recognised by the Railways
to operate and maintain the railway sidings in the two railway stations. It has
been found by the AO himself that the assessee under an agreement with the
principal contractor had undertaken the work of development of the railway
sidings and had operated and maintained them.

iv) The
findings of fact with regard to such position recorded by the Tribunal were
unassailable and that attracted the first proviso to section 80-IA(4). The
grounds on which the assessing authority had denied the benefit to the assessee
ignoring the effect of the proviso to section 80-IA(4) could not be sustained.’

shailesh.kwebmaker

DIGITAL WILL OF DIGITAL ASSETS

You may have
decided on who to give your physical assets, but in this digital era, you will
also have to will your digital assets – your online photo albums, your Facebook
Account, your bitcoin wallet, your email accounts, your passwords and the
rest………that’s where your Digital Will comes in.

Death is
inevitable, and preparing for it is unavoidable! But many of us leave the
activity of making a Will pending, till it is too late. We have heard cases of
people dying intestate and the problems that follow – if the financial assets
are not in joint names / having a nominee, there are a host of problems with
Banks / Financial Institutions. If there is an immovable property, a probate
may be a must. And we all know the time and cost of obtaining a probate from the
High Court.

Digital
assets may be valuable intellectual property (IP) and hence planning about them
is important. An example could be that of a Twitter handle of say @SrBachchan.
In case of digital assets, the process is fairly simple, if executed by the
legator before death. And we must ensure that ALL our digital assets are
properly bequeathed so that the survivors are not put to inconvenience at best,
and pain at worst.

However, for
digital assets, there is this extra headache. It has been observed in multiple
studies, that few of us actually download and backup online content in a format
which is easily accessible to those after our death. And different agencies
have different rules for transmission of these assets to the rightful owner;
e.g. in the case of Facebook, parents of a 15 year old girl were refused access
to her account. However, in the case of Yahoo, a Court has overruled their
privacy policy, and allowed the legal heirs to access the deceased’s account.

Is there life after death on Social
Media?

Most Social
Media accounts continue online for varying periods, depending on the service
provider. A Digital Will will ensure that each of your accounts is properly
transferred / memorialised or closed, depending on your instructions.

Creating a Digital Will

A digital
will is an informal document that allows executors to access and execute your
instructions for all your online accounts.
Strictly speaking, it is of no legal value. If you want to transfer rights to
things such as a domain name or a website, it may be advisable to account for
these in your formal will. Certain rights are non-transferable and you need to
identify those, which will expire with your demise. Here are a few steps to
create your Digital Will:

1. List All Your Online Accounts

Create a list
of all the sites where you have accounts, including social media, photo
storage, email accounts, online banking and brokerage accounts, blogs and
accounts that automatically withdraw from your bank account.

2. Give Detailed Instructions

Let your
executors know exactly what you would like to see happen with each account. For
example, you may not want your Facebook page memorialised, but you do want your
photo albums shared with loved ones. If you are working on some project or have
a variety of resources which you have painstakingly collected online, decide
what you would like to be done with that. Think about stuff like copyrights
also, if you have created original material.

3. Select your Digital
Executors

Select a
couple (or more) of mature persons to carry out your wishes after you are gone.
Let the executors know about your Digital Will in advance. Let them also know
how they will find the document on your demise. Be sure to name your executors
in your Digital Will. You may also name alternate executors in case any of one
or more of your executors is unable to serve.

4. Store Your Digital Will
in a Safe Place

A will is
only useful if it can be found at the right time. If you store the will on a
password-protected device, make sure for that device can be accessed when you
die. Consider printing and signing your Digital Will, and storing it with your
other important personal documents.

Legacy Policies of some popular Websites
/ Portals

Many popular
websites / portals have legacy policies in their Terms of Service Agreement to
handle what will become of your digital footprint after you die. Policies vary
from allowing a named executor to close an account, to continue using your
account or finally how your account may be deleted after a period of
inactivity. It is a good idea to review a site’s legacy policy before drafting
your digital will. The following are a few examples from popular Websites /
Portals:

PayPal allows an executor to close a
user’s account. Remaining funds will be liquidated by a payment to the estate
of the deceased on production of necessary forms / documents.

Twitter does not provide log-in
information to the executor or the legatee. The only option is to deactivate
the profile by submitting a form with information on the deceased, including a
death certificate.

Ebay’s user agreement does not allow
transfer of accounts to others on the expiry of a member. If you need to close
an account due to death, you should contact their support team and follow the
process suggested by them.

Google’s “Inactive Account Manager”
allows you to decide how your account is handled if it is inactive for a
specified length of time. For example, if you have not logged into your email
for more than a year, the account will be deleted. You can also add up to 10
trusted contacts, who will receive an email that bequeaths files stored on a
Google service if your account is left unattended between three and 18 months.

Facebook lets family members convert
the deceased’s account to a “memorialised” status or close the account. Upon
receiving proof of death, sensitive personal information is deleted and the
status of the account is changed.

Instagram provides an option to
memorialise an account, which means nobody can log in or change it. To
memorialise an account, anyone can provide a link to an obituary or news
article reporting the death. You can also request account closure.

For LinkedIn, executors or even
friends of the deceased can notify LinkedIn that someone has passed away, so
their account can be closed and the profile removed.

iTunes music files, television series
and films are licensed, rather than owned, and cannot be bequeathed. The right
to use the files expires with the death of an individual.

Password Managers

Organising a
digital will is essential, but it does take time. One way to simplify and
automate the process is to use a password manager to collect all of this
information in one, secure place. A password manager like LastPass (there are
several others) safeguards all of your website accounts, and the usernames and
passwords you use to access them. You can also store notes for other types of
important information, and even attach documents and photos for safekeeping.

And with
LastPass, you can designate an Emergency Access contact for your LastPass
account. That means your trusted contact could request access to your vault
should you pass or become incapacitated.

LastPass
thus, essentially acts as your digital will, and allows you to specify your
digital heir, then automates the process of securely transferring that digital
will with all of your passwords and important information to your trusted
contact. Not only do you have the benefit of a password manager that makes it
easy to remember your passwords and login to your online accounts, you can also
enjoy peace of mind knowing your loved ones can access the information they
need in your absence.

Digital Will Generator

Slate.com has
devised an interesting Digital Will Generator – you will find it at – http://bit.ly/2MGSqHW. Just answer a
few simple questions, fill in the blanks and voila! your Digital Will is ready.
This may well be one of the quickest ways to create your Digital Will instantly.

Now that you
know the importance, have the information and are equipped with the tools, just
go ahead and create your own Digital Will – you owe it to yourself and your loved
ones!

shailesh.kwebmaker

DEMOCRACY

In Maansarovar,
“hauns” (swan) and “haunsini” (she swan) were staying happily.
Once upon a time, a flock of crows came flying over there. The leader of the
crows greeted the hauns and asked him as to “who he was and why he was
staying over there?” Hauns replied, “this is Maansarovar and it
belongs to the swans. So we are staying here for many generations”. Oh! said
the crow.” So the dispute is not on two issues but only on one point.”

Hauns was surprised. “Where is the dispute here?”. he asked.

Crow –
“Actually we came from a far off place and we were not sure whether this is Maansarovar
or something else. Since you said it is Maansarovar, we agree. The
second question was whether it belongs to Swans. We also accept that it belongs
to swans as you say”.

Hauns (terribly puzzled) – “Then where is the question of any dispute?” The
leader of the crow coolly said, “the question is who is the swan?” “We believe
in democracy”, he continued, “naturally, we will decide as to who is the
swan by majority votes”.

Hauns immediately agreed, “Satyameva Jayate”, he exclaimed. Haunsini
tried to resist but hauns pacified her.

Voting took
place. Crows became swans. Swan with his wife had to vacate the place. They
went away cursing their fate. Suddenly, they came across the Eagle. “Oh dear hauns,
what a pleasant surprise. What brings you here? All well at Mansarovar?”

Hauns – “No, actually there was a little problem.” Hauns narrated the
story of crows.

Eagle – “Arey,
are you a fool? Tomorrow these crows will come to me and claim that they are
eagles. I will tell them point blank. I will decide who is the eagle, by my
power”.

Hauns – “Yes, I see a point in what you say. I will immediately rush to
Maansarovar and tell the crows as you have guided”.

Hauns and haunsini came back. Hauns challenged the leader of the
crows, “Hey, listen, your majority voting is not acceptable to me. We will
decide as to who is the swan by our power of wings and beaks”.

“I am a peace-loving person”, the crow
retorted, “Still if you wish to taste our power, we are ready”.

A squirrel
from the tree close-by was watching that the hauns was talking to the crows.
She came out and asked the hauns what was the matter. She asked why he came
back. Hauns told her about his conversation with the eagle.

Squirrel – “Arey
brother hauns, this showing of strength is alright for the eagle to say. With
what are you going to fight?, your delicate wings or beautiful beak? It will be
suicidal”.

Hauns – “I know, but I must fight for the truth. Ultimately, truth shall
succeed”.

The show of
power took place. Hauns was killed, haunsini was killed and since
the squirrel was advising them, she was also killed. Crows were triumphant.

The moral of
the story – “Hauns died since he did not realise the truth and squirrel
died since she knew the truth”.

Note – This article is
adapted from a story written by a well-known marathi author Late Mr. G.A.
Kulkarni. I acknowledge this with thanks to him. It has been written in the
context of many elections that we are going to experience within next few
months. The real moral is – if the swans really hope to succeed, they must
acquire real power including physical strength and remain united. This is true
in all walks of life. Otherwise the mediocre people will take the front seat.

shailesh.kwebmaker

SEBI PROPOSES RULES TO PENALISE ERRANT AUDITORS, VALUERS, ETC. – YET ANOTHER LAW & REGULATOR WILL GOVERN SUCH ‘FIDUCIARIES’

SEBI has proposed regulations that prescribe specific duties
of Chartered Accountants/auditors, cost accountants valuers, etc. (termed as
“fiduciaries”). These duties will have to be performed whilst carrying out
assignments for listed companies and other entities associated with the
securities markets. The “fiduciaries” will face a range of penal actions if
they do not comply with these provisions.

A question is often raised whether Chartered Accountants,
should be subjected to action by SEBI and other regulators, when they are
already regulated by the ICAI. The issue is: whether fiduciaries should face
action from multiple regulators for the same default?

SEBI has, in the past, taken action against auditors.
However, in the Price Waterhouse/Satyam case, the matter had reached the Bombay
High Court which laid down certain limits to the powers of SEBI. The Kotak
Committee in its report of 2017 on `corporate governance’ has recommended
broader powers for SEBI. However, the
proposed regulations circulated by SEBI through a consultation paper dated 13^th
July 2018 appear to go beyond Kotak Committee’s recommendations. Hence, the
need to review these recommendations to understand their implications.

Nature of Amendments Proposed

Over the years of its existence, SEBI has formulated several
Regulations to regulate intermediaries like stock-brokers, etc., and regulate
transactions in the securities markets. There exist regulations relating to
stock brokers, investment advisors, merchant bankers, etc. Then there are
regulations relating to issue of shares, insider trading, frauds, etc. Many of
these regulations require the services of auditors, company secretaries,
valuers, etc., to provide certificates, reports, etc. Clearly, defaults by
these fiduciaries in carrying out their duties can have repercussions for
investors and capital market who rely on their reports/certificates. Through
the consultation paper, SEBI has proposed amendments to 31 regulations to
provide for duties of fiduciaries and for penal action in case of
non-compliance.

Who are These Fiduciaries Covered?

The following fiduciaries are specifically covered:

1. Chartered
Accountants including a statutory auditor

2. Company
Secretary

3. Valuers

4. Monitoring
agency

5. Cost
Accountants

6. Appraising
or appraisal agency

The fiduciary could be an individual, firm, LLP or a
corporate entity. Relevant to this is the concept of `engagement partner’. Hence, the term
“engagement partner” has been defined as:

“Engagement partner” means the partner or any other person
in the firm or limited liability partnership, who is responsible for the
engagement or assignment and its performance, and for the report or the
certificate, as the case may be, that is issued on behalf of the firm or
limited liability partnership, and who, has the appropriate authority from a
professional body, if required;

What is the nature of activities by fiduciaries covered?

The regulators cover submission or issue of any report or
certificate by any such fiduciary under the applicable Regulations. Each of the
Regulations provide for an indicative list of such reports/certificates that a
fiduciary may issue under that Regulations. These reports/certificates include
auditors report, compliance report, net worth certificate, valuation report,
etc.

What are the obligations of the fiduciaries in relation to
such reports/certificates?

The fiduciary whilst issuing a certificate/report is required
to:

“(a) exercise due care, skill and diligence and ensure
proper care with respect to all processes involved in the issuance of a
certificate or report;

(b) ensure that such a certificate or report issued by it
is true in all material respect; and

(c) report in writing to the Audit Committee of the listed
company, any material violation of securities laws, noticed while undertaking
such an assignment.”

The requirements of individual regulations vary a little. For
example, in (c) above, the report relating to violation of securities laws may
be made to the other relevant party such as merchant banker or compliance
officer, etc.

This requirement also underlines the importance of working
papers to establish that ‘due care etc.’, has been exercised in the preparation
of the certificate / report.

What are consequences of
non-compliance by the fiduciaries?

If the fiduciary issues any false report/certificate or which
does not comply with any requirement of the applicable Regulations, SEBI would
take “appropriate action” under the general provisions of the securities laws.
Hence, the action that can be taken could include:

Disgorgement of fees earned by the
fiduciary.

Debarment of the fiduciary from carrying out
any assignment in relation to listed companies and other entities associated
with securities markets.

Monetary penalty

Prosecution.

Action may be taken against whom?

In case of violation of the regulations in terms of
submission of false reports/certificates, not carrying out the work in the
manner prescribed, etc., the action would be taken “against the fiduciary, its
engagement partner or director, as the case may be.”.

The Bombay High Court decision
in case of Price Waterhouse/Satyam fraud

To understand the origin of this consultation paper, the
PwC/Satyam case may be recollected briefly. SEBI had issued a show cause notice
against Price Waterhouse and associate firms in relation to the audit, etc.,
carried out relating to Satyam scam. Price Waterhouse raised several questions
as to jurisdiction of SEBI. One of the objections was whether SEBI had any
jurisdiction to act against Chartered Accountants who are otherwise regulated by the Institute of Chartered Accountants of India.

The Bombay High Court (Price Waterhouse & Co. vs.
SEBI ((2010) 103 SCL 96 (Bom.)) partially upheld the jurisdiction of
SEBI. It elaborated on the wide range of powers of SEBI in relation to the
securities market. It also held that SEBI does not and cannot regulate the
profession of Chartered Accountants. For example, it cannot prohibit a
Chartered Accountant from practicing, even if found to be at fault. However,
SEBI could, if facts show a default, debar an auditor from issuing
reports/certificates in relation to listed companies, etc. The Court stated
that SEBI could take action only if the auditor is complicit in the fraud.
Hence, if the auditor is not a party to the fraud, SEBI cannot take action. The
proposed regulations have also to be seen in light of this decision.

Kotak Committee on Corporate Governance

The more immediate source of the consultation paper is the
Kotak Committee report on corporate governance submitted in October 2017. In
the report, the Committee had recommended that SEBI should have specific powers
to take action against auditors and other fiduciaries not just in cases of
fraud/connivance, but also in cases of gross negligence. It observed:

“Given SEBI’s mandate to protect the interests of
investors in the securities market and regulating listed entities, the
Committee recommends that SEBI should have clear powers to act against auditors
and other third party fiduciaries with statutory duties under securities law
(as defined under SEBI LODR Regulations), subject to appropriate safeguards.
This power ought to extend to act against the impugned individual(s), as well
as against the firm in question with respect to their functions concerning
listed entities. This power should be provided in case of gross negligence
as well, and not just in case of fraud/connivance. This recommendation may be
implemented after due consultation with the relevant stakeholders, including
the relevant professional services regulators/ institutions.” (emphasis
supplied)

Two points need to be particularly considered. Firstly, the
recommendation was to extend the powers to cover instances of gross negligence.
Secondly, it appears that the action would require concurrence of the relevant
regulator. In view of these two issues
the consultation paper goes beyond gross negligence/fraud.

Lesser burden of proof to levy
penalty on Auditors

Supreme Court has laid down principles for levy of penalty in
civil proceedings. In SEBI vs. Kishore R. Ajmera ([2016] 66 taxmann.com 288
(SC)), the Supreme Court had held that the bar for taking adverse action is
much lower as compared to criminal proceedings. The Supreme Court observed, “The test, in our considered view, is one of
preponderance of probabilities so far as adjudication of civil liability arising
out of violation of the Act or the provisions of the Regulations. Prosecution
under Section 24 of the Act for violation of the provisions of any of the
Regulations, of course, has to be on the basis of proof beyond reasonable
doubt.”
(emphasis supplied).

The test of ?preponderance of probabilities’ was
applied by SEBI in the case of Price Waterhouse (order dated 10^th
January 2018). Accordingly, SEBI ordered disgorgement of fees earned with
interest and also debarment from taking up assignments in specified matters
relating to capital markets.

Thus, while prosecution would need proof beyond reasonable
doubt, actions such as levy of penalty, disgorgement of fees and debarment
could arguably be taken with a lower bar of `preponderance of probabilities’.

This is also to be seen in the light that the new
requirements now do not require that the fiduciaries should have themselves
engaged in or been complicit in fraud. For taking action it is enough if the
`fiduciary’ has not discharged the prescribed duties in the manner required by
the proposed new regulations.

Other implications and concerns

The scope of the proposed regulations is limited to
assignments carried out by ‘fiduciaries’ for entities operating in capital
markets. The regulations are broadly framed and comprehensive. Arguably, action
can be taken even in cases that do not involve gross negligence. Thus, it is
likely that action could be taken even in cases where otherwise action may not be attracted by the concerned regulator.

Needless to emphasise, parallel proceedings by several
regulators/authorities and double/multiple penal consequences may also be the
consequence.

Despite the fact that the ‘fiduciaries’ are experts
specialised in certain fields, the proposed regulations also do not give
guidance on how it would be determined whether the fiduciary has committed
violations. It is not provided, for example, that, in case of auditors, the
guidance and pronouncements of the Institute of Chartered Accountants of India
will be considered to test whether the work has been properly performed. Also,
the person who will decide whether the work has been properly done may not be a
peer or an expert in the field, but will be a SEBI member and / or officer.
Thus, fiduciaries would enter a whole new mine field/unexplored territory where
they would be uncertain as to how and who would determine whether they have
discharged their duties correctly or not.

It is likely that fiduciaries would feel
discouraged in carrying out assignments for matters covered under the proposed
regulations. At the very least, costs/professional fees for such work will rise
and will be borne by investors.

shailesh.kwebmaker

VALUATION STANDARDS: ANALYSIS OF THE UNEXPLORED PROVISIONS OF REGISTERED VALUERS

Companies Act 2013 (“the Co’s Act”), introduced a new section
(i.e. section 247) to legislate valuations done under the requirements of the
said Act. While most of the other provisions of the statute were made
enforceable from September 2013 or April 2014, this provision dealing with
registered valuers remained latent for over four years. Like a slumbering
volcano it was forgotten.

While the other provisions became immediately applicable and
were analysed and tested, the provisions of section 247 were left behind and
not scrutinised for its implications. Now, vide notification dated October 18,
2017 the government has made these provisions effective with immediate effect.
Along with the bringing into effect of these provisions, new rules for
valuations by registered valuers were also notified from the same date.

This development should be closely understood by
professionals who carry out valuations under the provisions of the Co’s Act.
Some professionals take any new rule or regulation as a new opportunity. And I
often hear such exuberant remarks for the regulations.

So it is pertinent to understand if these provisions open up
more opportunities or would they actually curtail our practise? Would this
create a more transparent atmosphere conducive to investors? Will they give
rise to excessively controlled atmosphere for valuers? It is therefore,
imperative that we understand what these provisions hold for us. The purpose of
this article is to examine the new provisions threadbare and prepare ourselves
for an unbiased view on what awaits us.

We can start by looking at the
instances that require a valuation to be carried out under various statutes and
the special discipline for which they are reserved:

Valuation
required under the Co’s Act:

Section

Description

Valuation by

62

Further
issue of share capital

Registered
Valuer

192

Restriction
on non-cash transactions involving directors

Registered
Valuer

230

Power
to compromise or make arrangements with creditors and members

Registered
Valuer

236

Purchase
of minority shareholding

Registered
Valuer

281

Submission
of report by Company Liquidator

Registered
Valuer

232

Merger
and amalgamation of companies

Expert

Valuation
required under other statutes:

STATUTE	DESCRIPTION	Valuation by
FEMA	Inbound Investment – Issue of Shares by a Resident Transfer of Shares (Resident to Non Resident and vice-versa) Outbound Investment – Direct Investment in JV/WOS less than USD 5 million Outbound Investment – Direct Investment in JV/WOS less than USD 5 million	Merchant banker (“MB”) or Chartered Accountant MB
Income-Tax Act	Rule 11UA of the Income-tax Rules, 1962 Fair value of unquoted equity shares for 56(2)(x) Fair value of unquoted equity for issue following the asset approach Fair value of unquoted shares other than equity for 56(2)(x) Fair value of unquoted equity shares for issue following DCF approach	Anyone Chartered Accountant or MB MB
SEBI	Valuation of shares which are not frequently traded for the purposes of SEBI (Substantial Acquisition of Shares and Takeovers) Regulations,2011 Valuation of shares which are not frequently traded for the purposes of SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009 Valuation of shares in a case of delisting under SEBI (Delisting of Equity Shares) Regulations, 2009	MB, Chartered Accountant MB

STATUTE

DESCRIPTION

Valuation by

FEMA

Inbound Investment – Issue of Shares by
a Resident

Transfer of Shares (Resident to Non
Resident and vice-versa)

Outbound Investment – Direct Investment
in JV/WOS less than USD 5 million

Outbound Investment – Direct Investment
in JV/WOS less than USD 5 million

Merchant
banker (“MB”) or Chartered Accountant

MB

Income-Tax
Act

Rule 11UA of the Income-tax Rules, 1962

Fair value of unquoted equity shares for 56(2)(x)

Fair value of unquoted equity for issue following the asset
approach

Fair value of unquoted shares other than equity for 56(2)(x)

Fair
value of unquoted equity shares for issue following DCF approach

Anyone

Chartered Accountant or MB

MB

SEBI

Valuation of shares which are not frequently traded for the
purposes of SEBI (Substantial Acquisition of Shares and Takeovers)
Regulations,2011

Valuation of shares which are not frequently traded for the
purposes of SEBI (Issue of Capital and Disclosure Requirements) Regulations,
2009

Valuation of shares in a case of delisting under SEBI
(Delisting of Equity Shares) Regulations, 2009

MB, Chartered Accountant

MB

From the
foregoing it can be observed that it is currently only for valuations required
under the Co’s Act that the valuer needs to be a registered valuer (“RV”).
These provisions of the Co’s Act became effective much before October 2017,
when section 247 the special provision that was enacted under the Co’s Act to
specifically deal with the code relating to the Registered Valuers and the new
Registered Valuers Rules (“RVR”) u/s.247 were notified. Therefore, in the
interim, while the RVR had not seen the light of the day it was provided in
Explanation to Rule 13(2) of Companies (Share Capital and Debentures) Rules,
2014 (inserted by Companies (Share Capital and Debentures) Amendment Rules,
2014 w.e.f. 18-6-2014) that a Chartered Accountant having ten years of
experience or an independent merchant banker registered with SEBI would be
treated as a registered valuer for the purposes of the Co’s Act. The
transitional arrangement under the RVR has also provided that persons who are
providing valuation services under the act on the date when the rules got
notified can continue to act as valuers without obtaining a certificate of
registration till March 31, 2018, which date is currently extended till
September 30, 2018.

The following part lists out some
key highlights that emerge from the RVR

The Authority that has
been granted the power to regulate the registered valuers is the Insolvency and
Bankruptcy Board of India

Qualification and Eligibility

Some of the key eligibility
criteria for a person to be a Registered Valuer (“RV”) are:

1. He should be a member of a Registered Valuers
Organisation (“RVO”).

2. He should have passed the valuation exam
specified under the RVR.

3. He should possess qualification as required
under the RVR.

4. He should be a person resident in India as per
section 2 of Foreign Exchange Management Act.

5. No penalty u/s. 271J of the Income Tax Act has
been levied on him which he has not appealed against or where it has been
confirmed by the Appellate Tribunal at least 5 years have elapsed from the date
of levy of penalty.

6. Is a fit and proper person.

Besides the foregoing
requirements, the person should not be a minor or a bankrupt or of unsound
mind.

For a firm or a company to be an
RV, three of its partners or directors as the case may be should be RVs. Also,
the entity should be set up exclusively for the objects of rendering
professional or financial services. The entity should also ensure that one of
its partners is registered for the asset class that the entity seeks to value.
Besides, none of its partners should be disqualified under the foregoing
criteria that apply to an individual.

On a perusal of the qualification
criteria specified under the RVR one finds a number of disciplines recognised
for different types of valuations. Valuation of asset class of land and
buildings is reserved for graduates or post graduates in civil engineering or
architecture and of plant and machinery is reserved for graduate or post
graduates in mechanical or electrical engineering. On the other hand, for
valuation of financial assets or securities, one of the qualifications
recognised is graduation in any field. This means that while a commerce
graduate cannot undertake valuation of asset classes of land, building, plant
and machinery; an engineer or architect can undertake valuation of financial
assets.

Further, when one looks at the
post qualification experience requirement, one would observe that a Chartered
Accountant requires at least a three years’ experience post qualification to be
a member of an RVO. A graduate requires five years’ experience for such
membership. An analysis of this shows that a Chartered Accountant would have a
six years work experience if the period of articleship training was to be
considered. It is also beyond doubt that the curriculum and training of a
Chartered Accountant is rigorous and is highly competitive. So effectively,
while an RV who is a Chartered Accountant will have a six years’ of work
experience, a graduate in any stream with a five years’ work experience could
also be an eligible member of the RVO. The thought process that has gone
into this kind of unequal treatment meted out to Chartered Accountants needs
some clarification.

Process of registrations of RV

The process of registration of an
RV broadly involves the individual who desires to become RV to first take
membership of an RVO. Amongst the various documents that are required to be
filed, the individual needs to also file the copies of his income tax returns
of past three years. The only inference one could draw from this requirement is
that this could possibly be required for the RVO to ascertain that the applicant
is not insolvent at the time of making the application. After becoming a member
of the RVO, the applicant has to attend fifty hours of training, which is given
by the RVO, after completion of the training he should pass an examination
conducted by the Authority viz. IBBI. Upon passing the exam, the RVO where the
person is registered would make a recommendation to the Authority to recognise
him as an RV. For a firm or a company to be registered as RV, first three of
its partners or directors would need to be registered and after their
registration the firm or company has to make an application to the Authority
for recognising it as an RV.

This entire process of
registration would involve substantial time as can be seen from the following:

1. If the authority is satisfied after the
abovementioned process, it may grant a certificate of registration as an RV in Form-C
of Annexure-II within 60 days.

2. If the authority is not satisfied, it shall
communicate the reasons for forming such an opinion within 45 days of receipt
of the application, excluding the time given as above (21 days).

3. The applicant shall submit an explanation as
to why its application should be accepted within 15 days of the receipt of the
communication

4. After considering the explanation, the
authority shall either accept or reject the application and communicate its
decision to the applicant within 30 days of receipt of explanation.

Conduct of valuation and Valuation standards

Before the advent of these rules,
valuations in India did not need to comply with any valuation standards.
However, the RVR requires that valuations should comply with valuation
standards that will be notified under the same. And in the interim the RV
should either follow the international valuation standards or standards issued
by any RVO.

Currently, the RVO formed by
Institute of Chartered Accountants of India has prescribed the following ICAI
Valuation Standards (“IVS”).

IVS

Contents

101

Definitions

102

Valuation
Bases

103

Valuation
Approaches and Methods

201

Scope
of Work, Analyses and Evaluation

202

Reporting
and Documentation

301

Business
Valuation

302

Intangible
Assets

303

Financial
Instruments

These standards were published on
May 25, 2018 and are effective for valuation reports issued on or after July 1,
2018. Thus, any valuation done post July 1, 2018 should be in compliance with
these standards.The ICAI Valuation Standards will be effective till Valuation
Standards are notified by the Central Government under Rule 18 of the Companies
(Registered Valuers and Valuation) Rules, 2018.

Under the RVR, the Central
Government is required to notify standards and for this purpose it would be
advised by a committee which will be composed as follows:

Composition of Committee

a Chairperson who shall be a person of eminence and well – versed
in valuation, accountancy, finance, business administration, business law,
corporate law, economics;

one member nominated by the Ministry of Corporate Affairs;

one member nominated by the Insolvency and Bankruptcy Board of
India;

one member nominated by the Legislative
Department;

upto four members
nominated by Central Government representing authorities which are allowing
valuations by registered valuers;

upto four members who are
representatives of registered valuers organisations, nominated by Central
Government.

up to two members to represent industry and other
stakeholder nominated by the Central Government in consultation with the
authority;

The Chairperson and Members of
the Committee shall have a tenure of three years and they shall not have more
than two tenures.

From the foregoing it can be
observed that the committee will have upto 14 members. Of these upto a maximum
of 4 members can be from all the RVOs. Also, there is no cap on the number of
RVO that could be recognised by the Government. So it can be observed that 4
representations will be out of all the RVOs put together. This implies that
each RVO may not be able to represent on the committee.

Reporting requirements

Till now there was no statutory
guideline mandating the minimum requirements for a valuation report. The RVR
now specifies this framework, which is a welcome move. However, one of the
disclosures required is that of valuer’s interest or conflict. A question,
therefore, arises whether the disclosure should be detailed. But considering that
most of the services rendered by professionals is confidential in nature,
giving a very detailed description of all the other involvements would be a
breach of confidentiality. Considering this balancing act of maintaining
confidentiality of client information it should be in order to make a general
disclosure statement of involvements in various areas of professional services.

Another important requirement
under disclosure is a restriction on the RV from specifying a limitation that
restricts his responsibility for the valuation report. This restriction would
however, only operate within the ambit of the purpose and scope of valuation.
Thus, the limitations that limit the ambit of the report only to the scope
would still continue to be valid.

Code of conduct to be followed by RVs

The RVR has laid down an
elaborate code of conduct to be followed by RVs.This is given at Annexure I to
the RVR.The same requires the valuer to follow certain ethical code which
requires the RV to have high level of integrity, be straightforward, forthright
in all professional relationships, make truthful representation of facts, take
care of public interest etc.

The RV is expected to exercise
due diligence, use independent professional judgment, follow professional
standards, stay updated on knowledge. The RV should not disclaim liability for
his expertise except to the extent the assumptions are based on statements of
facts provided either by the company being valued or its auditors or consultant
and or from public domain, i.e., it is not generated by the RV.This is a very
important carve out from the responsibility on the RV as he cannot be held
liable for professional misconduct if he has relied on the information that he
has not generated. Though he should use due diligence in analysing such data.

Further, the valuer is required
to maintain complete objectivity and should not take up assignments where
either he or his relatives or associates are not independent. Here the term
relative should mean as what is defined in the Co’s Act. The term associate is
not defined under the RVR. Therefore, the meaning of this term can be taken
from the accounting standards that are prescribed under the Co’s Rules. The
term ‘associate’ is defined in Accounting Standard 23 to mean an enterprise in
which an investor has significant influence and which is neither a subsidiary
nor a joint venture of the investor. The term significant influence is defined
in that standard to mean the power to participate in financial and/ or
operating policy decisions of the investee but not control over those policies.
Thus, even if an associate of a relative of the RV has a conflict or a material
relationship with the company being valued it could be viewed as a situation
where the RV is deemed to be not independent. In connection with this it would
be pertinent to note the relevant provision of section 247 which debars a
valuer from undertaking a valuation if he has any direct or indirect interest
at any time within three years prior to his appointment and three years after
the valuation. It may be noted that the statute does not define the meaning of
the term interest.This would lead to a situation where if an RV purchases
shares of a company two years after he undertook valuation of its shares, then
the valuation would be considered void, since he could not have undertaken such
valuation. This restriction is not merely on the RV, but because of the
provisions of the RVR, also applicable to all the relatives and associates of
the RV. This would lead to absurd results whereby, if the RV undertakes a
valuation then he will need to take a clearance even from his relatives [as
defined under the Co’s Act] that they have not had any interest in the asset
for past three years as also will not have any interest in the asset for the
future three years. This is not a viable condition. Ideally, the statute should
have defined what should be considered as interest. Merely holding shares of a
company as a retail investor should be kept out of the purview of the
application of the section. There could be many other instances apart from
holding of shares which is just one absurd situation which is more likely, that
could disqualify a valuer.

Further, the Code of Conduct also
requires an RV to maintain documents and make them available to certain persons
for inspection. The RV is required to maintain back up for all the decisions
taken and the documents must be maintained for at least three years. These are
to be maintained in case their production is required by a regulatory authority
or for peer review.

The Code also considers accepting
of gifts and giving gifts by RVs as a violation of the code. However, it would
be considered as a violation only if such action could have an effect on the
independence of the RV. Therefore, if an RV accepts small gifts which are
customary then such gifts should not be construed as a violation of the code of
conduct. The Code requires that the RV should not accept any fees other than
what is agreed contractually. Thus, an RV will now have to ensure that he
executes a contract with the client. It may also be noted that the valuation
standards on documentation requires that the RV should specify his scope of
work and his and his client’s responsibilities in the contract. This also
requires the RV to execute a contract with the client. Further, section 247 of
the Co’s Act requires appointment of RV to be done by the audit committee.
Thus, the contract of engagement should be approved by the audit committee. The
Code requires the RV to charge at a consistent level. The thought behind this
could be to prevent situation where an RV would compromise independent
assessment for an unreasonably high compensation. This would necessitate that
the RV should maintain adequate documentation to show that contemporaneous
assignments involving similar level of work and responsibility are charged in a
similar manner.

The Code also requires an RV to
accept only as many assignments which he can handle with adequate time.
Currently, there is no upper limit on the number of assignments. Also, adequate
time would depend on the infrastructure, resources and techniques available
with the RV. Therefore, generalisation of maximum number would anyway be
impractical.

Cancellation or suspension of registration

The authority is bestowed with
the power to cancel or suspend registration that is granted to an RV or an RVO
under Rule 15 of the RVR. The action of cancellation will necessarily have to
flow from a complaint filed with the Authority. Thus, it can be interpreted
that the cancellation of the registration of either the RV or the RVO can only
be upon a complaint.

However, the Rule does not
specify the triggers for the complaint. Considering that the complaint is
against the RV or the RVO, legally it can only stem from any violation of the
Act or the Rules which in turn would also include the bye-laws issued by the RVOs
which are also required to be adhered by the RVs.However, when one looks at the
contents of the show cause notice prescribed under Rule 17, it can be observed
that the show cause notice should state the provisions of the Act or Rules or
certificate of registration allegedly violated or the manner in which public
interest is allegedly affected. Now, if one were to see the code of conduct
given in Annexure I of the RVR or the model bye-laws for RVO given under Part
II to Annexure III to the RVR or the eligibility given under Rule 3 of the RVR,
we will find no reference to public interest. In this connection, it is
worthwhile to note the provisions of section 247 of the statute under which the
Rules are framed. Under s/s. 3 of the said section a penalty shall be imposed
on the RV if a valuer contravenes the provisions of this section or the rules
made thereunder he shall be punishable with a fine which shall not be less than
twenty-five thousand rupees but which may extend to one
lakh rupees.

Further, if the valuer has
contravened such provisions with the intention
to defraud the company or its members, he shall be punishable with
imprisonment and would also be fined. Thus, the statute provides for punishment
only if the valuer has intended to defraud the company or its members. Whereas,
the RVR provides for action if public interest is affected. The meaning that
can be attributed to the term “public interest” is very wide and subjective.
Thus the rules have gone beyond the statutory framework. In this connection
attention is invited to the following judgments where it was held that rules
framed under the statute cannot go beyond the requirements spelt out in the
statute.

Case laws on this law

CIT vs. Sirpur Paper Mills [(1999) 237 ITR 41 (SC)];

CIT vs. Taj Mahal Hotels [(1971) 82 ITR 44 (SC)];

Avinder Singh vs. State of Punjab [AIR 1979 SC 321];

Harishankar Bagla vs. State of Madhya Pradesh [AIR 1954 SC 465]

Thus, to the extent the rules
overstep the statute, they could be considered as ultra vires.

Now, Rule 17 further provides
that if based on the findings of inspection, investigation or complaint
received, or material otherwise available, the authorised officer is of
the prima facie opinion that there exists sufficient cause to cancel or
suspend the registration of the RV, then he shall issue a show cause notice. On
a combined reading of Rule 15 and Rule 17 it is fair to interpret that the
authority can only cancel or suspend registration if it has received a
complaint and upon receipt of the complaint it will have to first form a prima
facie opinion based on information that it may obtain on its own or based
on complaint received. Thus, the power of the authority should not be construed
as expanded by Rule 17 so as to interpret that the authority can even take suo
moto action even if there is no complaint made against the RV or the RVO.

If a complaint lies against the
RVO then the authorised officer is required to seek information from the RVO
and is not required to carry out an investigation on its own. It is further
provided that if sufficient and satisfactory information is not received from
the RVO then the authority can initiate proceedings under Rule 17 or direct the
matter to the Central Government for directions. This process would thus ensure
that the RVOs will have the benefit of being asked their version of information
before any show cause notice is issued on them. Whereas this benefit will not
be available to RVs, who can be issued show cause notice by the authorised
officer for forming a prima facie opinion against them. It is only upon
getting the show cause notice that the RVs would get an opportunity to explain
their case.

Interestingly, Rule 16 provides
that in case of a complaint against a director of a company or a partner of a
firm, the authority may refer the complaint to the relevant RVO and such
complaint is to be dealt with by the RVO in accordance with its bye laws. Thus,
there are two important observations to draw out from this provision viz;

1) If the complaint is against an individual RV
then the complaint may be transferred to the RVO where he is registered. This
can be linked to the position that only an individual can be a member of an
RVO.

2) However, it can be observed that the proviso
carves out the exception only for individuals. Therefore, if a complaint lies
against the partnership firm or a company which is an RV, then the complaint
will be dealt with at the level of the Authority.

From the foregoing one can
envisage that if a complaint is filed against a firm which is an RV then it
would be only dealt with by the Authority. However, if it is against the
individual partner of the said firm then it would be handled from the RVO. If
the complaint is filed against both the firm and the partner who has carried
out the valuation then the power to deal with the complaint would lie with two
regulators. In a situation of this type it is possible that the term may/could
be interpreted as an option with the Authority and not a mandatory requirement.
In such a situation, the Authority could step in to deal with the complaint and
the case of the individual member may not be transferred to the relevant RVO.

The authorised officer is
required to dispose of the show cause notice following the principles of
natural justice, which should entail giving reasonable opportunity and time to
respond to the notice. The order of disposal of the show-case notice could
provide any one of the following; 1) no action; 2) warning; 3) suspension or
cancellation of registration or recognition; 4) change in any partner or
director of the RVO.

For all of the above, the powers
vest with the authorised officer, who will be ‘specified’ by the Authority.
Currently, no such authorised officer is specified. Further, it is provided
that the appeal against the order of the authorised officer would lie before
the Authority. Thus, if the authorised officer does not act independent of the
Authority, then the appeal to the Authority against the order of the authorised
officer will violate the principle of natural justice. [Refer ICAI vs. L.K.
Ratna& Others[1987 AIR 71 (SC)].

Further, it can be noted that,
there is no provision for appeal to the higher courts. However, following the
principles of natural justice, the aggrieved person should have a natural right
to challenge such an order of the Authority before higher courts.

Thus, it may be observed that
the RVR needs to address several open issues. Also, the RVR should not exceed
the regulatory ambit laid down in the statute. It should be also noted that the
area of valuation was always open to anyone who had the requisite knowledge to
carry out that work. Historically Chartered Accountants were preferred for this
service as they have the requisite educational training through their
curriculum to carry out valuations as also have good knowledge of various
statutes to understand implications flowing from the regulatory framework. They
are trained in their domain i.e., accounting, and so have excellent ability to
understand and analyse financials, which is the foundation of this service.
Therefore, a Chartered Accountant has always been a natural choice for this
service. Through, section 247 of the Co’s Act this area of service has actually
been abrogated. It is therefore upon us to consider this regulation as an
“opportunity” as some, in ignorance of the true implication of the provisions,
may portray.

shailesh.kwebmaker

BENAMI ACT – NO LONGER A PAPER TIGER ! – PART 1

“The (1988) Ordinance will remain ‘a paper tiger’,
ineffective in every manner. It would be inane”. – 130^th Report of
Law Commission on Benami Transactions.

1. INTRODUCTION

Few months ago, Government directed the Registrars to furnish
the particulars of immovable properties registered during last ten years having
value above Rs. 1 crore. The purpose of the directive was to trace the benami
properties purchased or held in violation of The Prohibition of Benami
Property Transactions Act, 1988 (“the Act”).

Also, Business Standard reported on 12^th January
2018 that more than 900 properties worth about Rs 35 billion have been attached
under the Act. The attached properties included immovable assets, such
as, land, flats and shops worth Rs. 29 billion, while jewellery, vehicles and
bank deposits constituted the rest.

Some of the specific and important aspects of the Act are
reviewed below.

2. OBJECTIVE OF THE ACT

The following preamble of the Act as amended in 2016
reflects its objective.

“An Act to prohibit benami
transactions and the right to recover
property held benami and matters connected therewith or incidental
thereto”. (Emphasis supplied)

3. TRANSACTIONS AND ASSETS
COVERED

Section 3 of the Act puts blanket prohibition on
benami transactions. Thus, all transactions that fall within the definition of
“benami transaction” would be covered by the blanket prohibition.

3.1 ‘Benami transaction’: Type 1

New section 2(9) has substituted the definition of ‘benami
transaction’ with effect from 1^stNovember 2016. The difference
between the old and new definition of ‘benami transaction’ can be
ascertained by the following comparative review.

Section
before amendment

Amended
Section

2(a)

“Benami transaction”
means any transaction in which property is transferred to one person for a
consideration paid or provided by another person.

2(9)

“benami transaction”
means,—

(A)
a transaction or an arrangement –

(a)
where a property is transferred to, or is
held by, a person, and the consideration for such property has been
provided, or paid by, another person; and

(b)
the property is held for the immediate or
future benefit, direct or indirect, of the person who has provided the
consideration,

except where the property is held by … …

[Emphasis
supplied]

The above mentioned review indicates the following features
of the definition.

The new definition
introduces the element of “intention” of the real owner about the
person for whose benefit the property is held¹.

______________________________________________________

1 See:
Law Commission of India: 57^thReport: 7 August 1973: Paragraph
5.2(b)

The genesis of the
concept of benami is three-fold:

the consideration for purchase of the property must flow
from one person;

the property is purchased in the name of the other person;
and

the consideration so flowing for the purchase was not
intended to be gift to the person in whose name the property is purchased².

After the main limb of
the new definition, four types of transactions are described as “benami
transaction”.

Indeed, the definition of ‘benami transaction’ of Type
1 specifies four exclusions and their conditionalities. The exclusions
pertain to the properties of HUF, trustee, executor, partner, director,
depository, spouse, child, lineal ascendant and descendant and power of
attorney arrangement.

These exclusions ensure that honest and bona fide transactions
are out of the sweep of the Act.

The new definition of ‘benami transaction’ and their
exceptions with conditionalities are diagrammatically summarised below.

3.1.1 ‘Property’;
‘Benami Property’

‘Property’ is a crucial term in the definition of ‘benami
property’. There is a difference between the wordings of the definition of
“property” in the pre-Amendment Act and the new definition. For a comparative
review, both the definitions are extracted below.

Section
before amendment

Amended
Section

2(c)

“Property”
means property of any kind, whether movable or immovable, tangible or
intangible, and includes any right or
interest in such property.

2(26)

“property”
means assets of any kind, whether movable or immovable, tangible or
intangible, corporeal or incorporeal and
includes any right or interest or legal documents or instruments evidencing
title to or interest in the property and where the property is capable of
conversion into some other form, then the property in the converted form and
also includes the proceeds from the property;

[Emphasis supplied to show the
distinction between the two definitions]

2 Syed
Abdul Kader vs. Rami Reddy AIR 1979 SC 553

3.1.2 New asset
classes introduced

The new definition specifies the following nine asset classes
as “property”.

• Movable

• Immovable

• Tangible

• Intangible

• Corporeal (new class introduced)

• Incorporeal (new class introduced)

• Right/interest/legal document/instruments

– evidencing title to or interest in the property

• Property in the converted form (new class introduced)

• Proceeds from the property (new class introduced)

3.2
Benami transaction: Type 2

Transactions in fictitious name

The second type of benami transaction is the transaction or
arrangement made in a fictitious name.

3.3 Benami
transaction: Type 3

The owner “not aware of” “denies knowledge of”

Third type of benami transaction is “a transaction or
arrangement in respect of a property where the owner of the property is not aware of, or, denies knowledge of, such ownership”.

Connotation of the expressions “not aware of” and “denies
knowledge of” can be understood by the following illustration.

In the course of a search action, a lady partner gave the
statement that she was a partner in a firm.

However, she admitted that she did not know her share in the
firm and other particulars of the firm.

On these facts, the question for consideration is: whether
her being a partner will involve a benami transaction?

In this case, the lady was indeed aware of the fact that she
was a partner. She did not deny that fact. Her statement clearly indicated
that, as a partner, she was owner of her share in the firm.

Indeed, she admitted that she did not know the other
particulars relating to the firm. Having no knowledge of the firm’s
particulars, however, cannot be regarded as being “not aware of, or denies
knowledge of such ownership”. Hence, in this case, it cannot be said that
the lady’s being a partner involves a benami transaction.

3.4 Benami
Transaction: Type 4

Provider of consideration “not traceable or is fictitious”

The issue is: whether this type of transaction would cover
charitable and religious institutions where often donors wished to remain
anonymous as a precondition to giving donations to the institution?

Section 58 of the Act addresses this issue. It
empowers the Central Government to exempt any property relating to charitable
or religious trusts from the operation of the Act. Therefore, large
donations received by the charities from anonymous donors will not be regarded
as benami property if covered by Central Government’s exemption notification.

4. TRANSACTIONS NOT COVERED

As regards the benami transaction of Type 1, the
following four transactions are excluded from this type of benami transaction.

4.1 First exclusion:

Property held by HUF Karta or member

This exclusion is applicable in the following circumstances.

The property is held for
the benefit of Karta or other members of HUF; and

Consideration for the
property is provided out of known sources of HUF.

4.1.1 “Known
sources”

The crucial issue is: what is the meaning of the
expression “known sources”? This expression is new and was not a part of
the pre-amended Act.

The expression “known sources” is different from “known
sources of income”. The rationale behind the expression “known sources” was
explained by the Finance Minister during the debate on the Benami Amendment
Bill in the following words.

“… … This is exactly what the Standing Committee went into.
The earlier phrase was that you have purchased this property, so you must show
money out of your known sources of income. So, the income had to be personal.
Members of the Standing Committee felt that the family can contribute to it,
you can take a loan from somebody or you can take loan from bank which is not
your income. Therefore, the word ‘income’ has
been deleted and now the word is only ‘known sources’. So, if a brother or
a sister or a son contributed to this, this itself would not make it benami,
because we know that is how the structure of the family itself is………” [Emphasis
supplied]

_________________________________________________-

3 Kalekhan
Mohammed Hanif vs. CIT (1963) 50 ITR 1(SC)

4.1.2 Under
the Income-tax Act if the assessee does not explain the nature and
source of credit in his books of account, the amount of credit will be regarded
as his taxable income. The Supreme Court³ has held that the onus to explain the nature
and source of cash credit is on the assessee. To discharge such onus, the
assessee must prove:

The identity of the creditor

The capacity of the creditor

Genuineness of the transaction

4.1.3 According
to section 106 of the Indian Evidence Act, 1872, if any fact is
especially within the knowledge of any person, the burden of proving that fact
is on him. Thus, where wife holds the property as benami for her
husband, conjoint reading of Income-tax Act and the Evidence Act,
raises a question: whether the burden of proving that the consideration was
paid by the husband from his known sources is discharged when the wife
furnishes the particulars of the consideration provided by her husband who
purchased the property in her name?

In other words, can the benamidar wife be asked to
prove the source from which her husband provided the consideration?

4.1.4 The
view that an assessee cannot be asked to prove the source of the source has
been recently called in question by the Calcutta High Court in the following
decisions.

Rajmandir Estates Pvt. Ltd. vs. CIT (Principal) [2016]
386 ITR 162 (Cal)

CIT vs. Maithan International [2015] 375 ITR 123 (Cal)

4.1.5 There
is, indeed, a subtle difference in the nature of Income-tax Act and that
of the Benami Act. Income-tax Act is a Revenue law but the
Benami Act is a law dealing with economic offence. In view of the said two
decisions, it stands to reason that under the Benami Act, benamidar may
be called upon to prove the source from which the real owner provided funds for
purchase of the benami property.

4.2 Second Exclusion: Property held by
trustee, executor, partner, director, depository or participant as agent of a
depository

This exclusion applies to the property held by the above
named persons. They are merely illustrative of the class of persons covered by
this exclusion. Hence, apart from the abovementioned persons, any other person,
too, may be covered by this exclusion where the following two facts exist.

The property is held by the person in fiduciary
capacity; and

The person holds the property for the benefit of another
towards whom he stands in fiduciary capacity.

The Supreme Court has held⁴ that “while the
expression “fiduciary capacity” may not be capable of precise definition, it
implies a relationship that is analogous to the
relationship between a trustee and the beneficiary of the trust. The expression is in fact wider in its import for it extends to all such situations that place
the parties in positions that are founded on
confidence and trust on the one part and
good faith on other”. [Emphasis supplied]

Moreover, the Central Government is empowered to notify any
other person for inclusion in the abovementioned exclusion.

4.3 Third
exclusion: Property held in the name of wife or child

This exclusion is
applicable only if the consideration is paid or provided from the individual’s “known
sources”.

Following important
aspects of this exclusion may be noted.

The expression mentioned
in the condition is “known sources” and not “known sources of income”.
Thus, where an individual takes loan for purchasing a property in child’s name,
it will not be Benami transaction because loan is the individual’s
“known source” though not necessarily, the known source of his income. Thus, it
is sufficient that the property is purchased from the individual’s “known
sources”. The person need not further prove that the property is purchased from
the known sources of his income.

________________________________________________

4 Marcel
Martins vs. M Printer [2012] 21 taxmann.com 7

The term “child” is not
defined in the Act. Hence, in terms of section 2(31) of the Act,
the definition of “child” given in section 2(15B) of the Income-tax Act
may be adopted. This definition of ‘child’ includes a step-child and adopted
child. The term “child” also includes “married daughter”. Moreover, “child”
includes major child and also illegitimate child⁵.

4.4 Fourth Exclusion:
Property held jointly with

brother, sister, lineal ascendant or descendant

This exclusion is
applicable where the following facts exist.

The name of the person providing consideration appears as
joint owner in the property document.

The consideration for property is provided out of
individual’s known sources.

The following important aspects of this exclusion may be
noted.

The terms “brother” or
“sister” include half-brother/sister⁶. Though colloquially, it is
customary to address cousins as “cousin brother” or “cousin sister”, they are
not considered “brother” or “sister”.

Likewise, step-brother
and step-sister are not “brother” or “sister”.

The properties held in
the sole name of the brother, sister, lineal ascendant or descendant is
not covered in this exclusion.

“Lineal ascendant” and
“lineal descendant” are not defined in the Act. Sections 24 and 25 of the Indian
Succession Act, 1925 throw light on these two expressions.

In the light of the Indian
Succession Act, [section 24: kindred or consanguinity and section 25(1):
Lineal consanguinity], “lineal ascendant” or “lineal descendant” may be
described as the connection or relation between two persons, one of whom has
descended in a direct line from the other, as between a man and his father,
grandfather and great-grandfather, and so upwards in the direct ascending line;
or between a man and his son, grandson, great-grandson and so downwards in the
direct descending line.

4.5 Fifth
exclusion: Power of Attorney transactions

__________________________________________________

5 Sunderlal
Chaurasiya vs. Tejila AIR 2004 MP 138

6 ITO
vs. Mahabir Jute Mills Ltd (1983) 17 TTJ (All) 49

An important question for consideration is: whether “power of
attorney transactions” in immovable properties (POA transactions) are ‘benami
transactions’?

This question is addressed by the Explanation to
section 2(9)of the Act. The Explanation clarifies that ‘benami
transaction’ shall not include any transaction involving the allowing of
possession of any property to be taken or retained in part performance of a
contract referred to in section 53A of the Transfer of Property Act, 1882
if:-

Consideration for such property was provided by the person
to whom possession is allowed but the person who has granted possession thereof
continues to be owner of such property;

Stamp duty on such transaction or arrangement has been
paid; and

The agreement has been registered.

Thus, POA transactions are not regarded as benami
transactions as per the following clarification given by the Finance
Minister⁷.

“As far as power of attorneys
are concerned, I have already said, properties which are transferred in
part performance of a contract and possession is given then that possession is
protected conventionally under section 53A of the Transfer of Property Act.
That is how all the power of attorney transactions in Delhi are protected, even
though title is not perfect and legitimate. Now,
those properties have also been kept out as per the recommendation made by the
Standing Committee”. [Emphasis supplied]

As the Explanation uses the words “for the removal
of doubts, it is hereby declared …”, it is clear that the Explanation
is retrospective in effect.

Another issue that may arise is whether the Explanation
is intended to confer legal title in the property on the power-of-attorney
holder who is in possession of property? It may be noted that the Explanation
merely removes the element of Benami from the POA transactions. It is
settled law that POA is not a title document. This aspect of the POA
transaction is not changed by the Explanation.

4.6 Further
exclusion: “Foreign property”

____________________________________________

7 See
the debate on the Amendment Bill in Rajya Sabha on 3-8-2016

A reference to the definition of ‘benami property’ in
section 2(8) and the definition of ‘property’ in section 2(26) of the Act shows that any property located abroad is not excluded from the said two
definitions.

However, the Finance
Minister has addressed this aspect in the following clarification⁸.

“What happens if the asset is outside the country? If an asset is outside the country, it would not be covered under this Act. It would be covered
under the Black Money Law, because you are owning a property or an asset
outside the country”. [Emphasis supplied]

Thus, according to the
abovementioned clarification, the foreign property would not be covered under the
Act. It would be covered under the Black Money Act.

4.7 One more exclusion: Sham transaction

A ‘sham transaction’
is different from a ‘benami transaction’.

In a benami transaction,
the transaction, in fact, takes place. A sham transaction is merely a
description given to a bogus or fictitious arrangement where transaction does
not take place at all. Sham transaction consists merely of fictitious entries
and fabricated documents, such as, bogus invoices.

The Supreme Court⁹
has explained the difference between “benami” and “sham” by observing
that the word ‘benami’ is used to denote two classes of transactions
which differ from each other in their legal character and incidents. To
demonstrate this proposition, the Supreme Court gave the following
illustration.

“A sells a property to B
but the sale deed mentions X as the purchaser. Here the sale is genuine, but
the real purchaser is B, X being B’s benamidar. This is the class of
transactions which is usually termed as benami. But the word ‘benami’
is also occasionally used to refer to a sham transaction. e.g. when A purports
to sell his property to B without intending that A’s title should pass to B. The fundamental difference between these two
classes of transactions is that in a benami transaction, there is an
operative transfer resulting in the vesting of title in the transferee. On
the other hand, in a sham transaction, there is
no real transfer since the transferor continues to retain the title even after
execution of the transfer deed. In benami transactions, when a
dispute arises as to whether the person named in the deed is the real
transferee or B, it would be necessary to address the question as to who paid
the consideration for the transfer, X or B. However, when the question is whether the transfer is genuine or sham, the
point for decision would be, not who paid the consideration but whether any consideration at all was paid”.
(Emphasis supplied)

_______________________________________________

8 Rajya
Sabha Debate on 2-8-2016 on the Amendment Bill

9 Sree
Meenakshi Mills Ltd. vs. CIT [1957] 31 ITR 28 (SC);AIR 1957 SC 49

The essential feature of
sham transaction is that the real owner of the property transfers the property
to another without the intention of transferring the legal title in the
property¹⁰.

The distinction between Benami
transaction and sham transaction is lucidly explained in the undernoted
decision¹¹ in the following words.

“The benami transaction
evidences an operative and valid transfer
resulting in the passing of title in the transferee, whereas in the sham
transaction, there is no valid transfer of interest, though ostensibly the deed
incorporating the transaction seeks to clothe the transferee with the title in
the property. Sham transaction takes place, inter
alia, when there is no consideration for the transfer. Hence, if the
transferor wants to assail the validity of the transaction, he will have to
seek cancellation of the document since as long as the document exists, the
transferee would remain clothed with the title to the property. In case of benami
transaction, however, the document has legal effect being perfectly valid;
such as a sale deed executed for consideration. However, the issue is: who is
the true owner of the property – whether the transferee named in the deed or
any other person being a benami. In such a case, the aggrieved person
would not demand cancellation of the sale deed because, if the deed is
cancelled, he would not be clothed with any right, title or interest in the
property which is the subject matter of the sale deed. This would be directly against his interest
inasmuch as he wants to derive right, title and interest in the property on the
strength of the sale deed, but wants a declaration that it is he who had
derived title and not the person named as transferee in the document. On the
other hand, in a sham transaction, the aggrieved person may require
cancellation of the deed where the transaction is of voidable nature.”
(Emphasis supplied)

The Act covers only Benami transaction and does not cover
sham transaction¹².

(To be continued in part 2
to cover how this Act will bring out illicit money, its administration,
opportunities for CAs, case study and rigour of punitive provisions.)

___________________________________________________________________________________

10 Sree
Meenakshi Mills Ltd. vs. CIT (1957) 31 ITR 28 (SC), AIR 1957 SC 49; Thakur Bhim
Singh vs. Thakur Kan Singh: AIR 1980 SC 727; (1980) 3 SCC 72

11 Keshab
Chandra Nayak vs. Lakmidhar Nayak: AIR 1993 Ori 1 (FB)

12 Bhargary P. Sumathykutty vs.
Janaki Sathyabhama (1996) 217 ITR 129 (Ker)(FB)

shailesh.kwebmaker

DIFFERENCES BETWEEN IFRS & Ind AS

The author Dolphy D’Souza has provided a detail
list of differences between IFRS and Ind AS.
Different stakeholders will find this beneficial in different ways. Companies seeking to prepare pure IFRS
financial statements for fund raising or global listing or group consolidation,
can use this to align their Ind AS financial statements to IFRS. The standard-setters can use this list to
reduce or eliminate the differences. If
Ind AS standards are fully aligned to IFRS standards, it will improve India’s
credibility in the global markets.

IFRS 1 differences

Deemed cost exemption for property, plant and equipment

IFRS 1 permits a first-time adopter to
measure its items of property, plant and equipment (PPE) at deemed cost at
the transition date. The deemed cost can be:

The
fair value of the item at the date of transition

A
previous GAAP revaluation at or before transition date, if revaluation meets
certain criteria

Similar exemption is also available for
intangible assets and investment property measured at cost.

Ind AS 101 also provides similar deemed
cost exemption. In addition, if there is no change in the functional currency
at the transition date, Ind AS 101 allows a first-time adopter to continue
with the previous GAAP carrying value for all of its PPE as recognised in the
previous GAAP financial statements at the transition date. The same is used as deemed cost at that date, after
making adjustment for decommissioning liabilities.

In Ind AS CFS, the previous GAAP amount
of the subsidiary is the amount used in the previous GAAP CFS. If an entity
avails the option under this paragraph, no further adjustments to the deemed
cost so determined is made.

Similar exemption is also available for
intangible assets and investment property.
Fair value as deemed cost exemption is not allowed for investment
property.

Additional exemptions relating to composite leases and land
lease

Under IFRS 1, an entity classifies a
lease based on the lease terms that are in force at its date of transition
based on the circumstances that existed at the inception of the lease.

Ind AS 101 provides the following
additional exemptions:

When
a lease includes both land and building elements, a first time adopter may
assess the classification of each element as finance or operating lease at
the date of transition to Ind AS based on the facts and circumstances existing
as at that date.

If
there is any land lease newly classified as finance lease, then the first
time adopter may recognise asset and liability at fair value on that date.
Any difference between those fair values is recognised in retained earnings.

Exchange differences arising on long-term monetary items

IAS 21 requires exchange differences
arising on restatement of foreign currency monetary items, both long term and
short term, to be recognised in the income statement for the period.

Under the erstwhile Indian GAAP,
companies recognised exchange differences arising on restatement of foreign
currency monetary items, both long term and short term, in the profit or loss
immediately. Alternatively, they were given an irrevocable option to defer/
capitalise exchange differences on long-term foreign currency monetary items.

IFRS 1 differences

For the companies applying second option
under the erstwhile Indian GAAP, Ind AS 101 provides an additional option.
They may continue to account for exchange differences arising on long-term
foreign currency monetary items recognised in the financial statements for
the period ending immediately before the beginning of first Ind AS reporting
period using the previous GAAP accounting policy. Ind AS 21 does not apply to
exchange differences arising on such long term foreign currency monetary
items.

Additional exemption relating to amortisation of toll roads

IAS 38 has a rebuttable presumption that
the use of revenue-based amortisation method is inappropriate for intangible
assets.

The old Indian GAAP allowed revenue
based amortisation for toll roads.
Under Ind AS, an entity on first time adoption of Ind AS may decide to
retain the previous GAAP amortisation method for intangible assets arising
from service concession arrangements related to toll roads recognised in
financial statements for the period immediately before the beginning of the
first Ind AS reporting period.

Under Ind AS 38, the guidance relating
to amortisation method does not apply to the assets covered in the previous
paragraph.

Additional exemption relating to non-current assets held for
sale and discontinued operations

There is no exemption under IFRS 1
relating to non-current assets held for sale and discontinued operations.

Ind AS 101 allows a first-time adopter
to use the transition date circumstances to measure the non-current assets
held for sale and discontinued operations at the lower of carrying value and
fair value less cost to sell.

Previous GAAP

IFRS 1 defines the term “previous GAAP”
as a basis of accounting that a first-time adopter used immediately before
adopting IFRS. Thus, an entity preparing two complete sets of financial
statements, viz., one set of financial statements as per the Indian GAAP and
another set as per the US GAAP, may be able to choose either GAAP as its
“previous GAAP.”

Ind AS 101 defines the term “previous
GAAP” as the basis of accounting that a first-time adopter used immediately
before adopting Ind AS for its statutory reporting requirements in India. For
instance, the companies preparing their financial statements in accordance
with section 133 of Companies Act, 2013, will consider those financial
statements as previous GAAP financial statements.

Consequently, it is mandatory for Indian
entities to consider their Indian GAAP financial statements as previous GAAP
for transitions to Ind AS.

Differences from other IFRS standards

Current/ non-current classification on breach of debt covenant

If an entity breaches a provision of a
long-term loan arrangement on or before the period end with the effect that
the liability becoming payable on demand, the loan is classified as current
liability.

This is the case even if the lender has
agreed, after the period end and before the authorisation of the financial
statements for issue, not to demand payment as a consequence of the breach.
Such waivers granted by the lender or rectification of a breach after the end
of the reporting period are considered as non-adjusting event and disclosed.

First, Ind AS 1 refers to breach of
material provision, instead of any provision. This indicates that breach of
immaterial provision may not impact loan classification.

Second, under Ind AS 1, waivers granted
by the lender or rectification of breach between the end of the reporting
period and the date of approval of financial statements for issue are treated
as adjusting event. A corresponding change has also been made in Ind AS 10.

Analyses of expenses in the statement of profit and loss

IAS 1 requires an entity to present an
analysis of expenses recognised in profit or loss using a classification
based on either their nature or their function within the entity, whichever
provides the information that is reliable and more relevant.

Ind AS 1 requires entities to present an
analysis of expenses recognised in profit or loss using a classification
based on their nature only. Thus, there is no option to use functional
classification for presentation of expenses.

Materiality and aggregation

IAS 1 requires:

??each
material class of similar items to be presented separately in the financial
statements; and

??items
of a dissimilar nature or function to be presented separately unless they are
immaterial

Ind AS 1 modifies these requirement by
adding the words ‘except when required by law.’ Hence, if the applicable law requires
separate presentation/ disclosure of certain items, they are presented
separately irrespective of materiality.

Differences from other IFRS standards

Also,
IAS 1 states that specific disclosure need not be provided if the same is
considered immaterial.

Presentation of financial statements

IAS 1 provides broad illustrative
format.

In addition to the broad illustrative
format included in Ind AS 1, Schedule III prescribes a detailed format for
presentation of financial statements and disclosures. The disclosures include
information required under certain Indian statutes. Companies Act, 2013 also requires certain
statutory disclosures (eg contribution to political parties) to be made in
Ind AS financial statements.

Cash flow statement –

Classification of interest paid and interest and dividend
received

For non-financial entities, interest
paid and interest and dividends received may be classified as ‘operating
activities’. Alternatively, interest paid and interest and dividends received
may be classified as ‘financing activities’ and ‘investing activities’
respectively.

Ind AS 7 does not give an option. It requires non-financial entities to
classify interest paid as part of ‘financing activities’ and interest and
dividend received as ‘investing activities’.

Cash flow statement –

Classification of dividend paid

Dividend paid may be classified either
as operating or financing cash flows.

Dividend paid is classified as financing
cash flows.

Bargain purchase gains

Where consideration transferred for
business acquisition is lower than the acquisition date fair value of net
assets acquired, the gain is recognised in the income statement after a
detailed reassessment.

Ind AS 103 requires bargain purchase
gain to be recognised in OCI and accumulated in the equity as capital
reserve. However, if there is no clear evidence for the underlying reason for
bargain purchase, the gain is directly recognised in equity as capital
reserve, without routing the same through OCI. A similar change has also been
made with regard to bargain purchase gain arising on investment in associate/
JV, accounted for using the acquisition method.

Common control business combinations

IFRS 3 excludes from its scope common
control business combinations.

Ind AS 103 requires business
combinations of entities or businesses under common control to be mandatorily
accounted using the pooling of interest method. The application of this
method requires the following:

Assets
and liabilities of the combining entities are reflected at their carrying
amounts.

No
adjustments are made to reflect fair values, or recognise any new assets or
liabilities.

Financial
information in respect of prior periods is restated as if business
combination has occurred from the beginning of the earliest period presented.

The
balance of the retained earnings appearing in the financial statements of the
transferor is aggregated with the corresponding balance appearing in the
financial statements of the transferee; alternatively, it is transferred to
general reserves, if any.

The
identity of the reserves is preserved and appear in the financial statements
of the transferee in the same form in which they appeared in the financial
statements of the transferor.

The
difference between the amount recorded as share capital issued plus any
additional consideration in cash or other assets and the amount of share
capital of the transferor is transferred to capital reserve and presented
separately from other capital reserves.

Foreign currency convertible bonds (FCCB)

A fixed amount of foreign currency does
not result in fixed amount in the entity’s functional currency. Consequently,
FCCBs, where the conversion price is fixed in foreign currency, do not meet
“fixed-for-fixed” criterion to treat the conversion option as equity. Hence,
FCCBs are generally treated as a hybrid financial instrument containing a
liability component and the conversion option being a derivative. The
derivative element is measured at fair value at each reporting date and
resulting gain/ loss is recognised in the profit or loss for the period.

Ind AS 32 contains an exception to the
definition of financial liability. As per the exception, the equity
conversion option embedded in a convertible bond denominated in foreign
currency to acquire a fixed number of entity’s own equity instruments is
considered an equity instrument if the exercise price is fixed in any
currency. Hence, entities will treat the conversion option as fixed equity
and no fair valuation thereof is required.

Differences from other IFRS standards

Straight-lining of lease rentals in operating leases

Rental under an operating lease are
recognised on a straight-line basis over the lease term unless another
systematic basis is more representative of the time pattern of the user’s
benefit.

Lease payments under an operating lease
are recognised as an expense on a straight-line basis over the lease term
unless either:

a) Another systematic basis is more
representative of the time pattern of the user’s benefit, or

b) Payments to the lessor are structured
to increase in line with expected general inflation to compensate for the
lessor’s expected inflationary cost increases. If payments to the lessor vary
because of factors other than general inflation, then this condition is not
met.

Uniform accounting policies

Compliance with uniform accounting
policies is mandatory.

Ind AS 28 also requires the use of
uniform accounting policies. However, an exemption on the grounds of
“impracticability” has been granted for associates. This is for the reason
that the investor does not have “control” over the associate and it may not be able to
influence the associate to prepare additional financial statements or to
follow the accounting policies that are followed by the investor.

Use of the fair value model for investment property (IP)

An entity has an option to apply either
the cost model or the fair value model for subsequent measurement of its
investment property. If the fair value model is used, all investment
properties, including investment properties under construction, are measured
at fair value and changes in the fair value are recognised in the profit or
loss for the period in which it arises. Under the fair value model, the
carrying amount is not required to be depreciated. Among other options, companies are allowed
to use fair value as deemed cost exemption for IP at the date of transition
to IFRS.

Ind AS 40 does not permit the use of
fair value model for subsequent measurement of investment property. It
however requires the fair value of the investment property to be disclosed in
the notes to financial statements.
Also, consequent to the above change, companies are not allowed to use
fair value as deemed cost exemption for IP at the date of transition to Ind
AS.

Grants in the form of
non-monetary assets

IAS 20 provides an option to entities to
recognise government grants in the form of non-monetary assets, given at a
concessional rate, either at their fair value or at the nominal value.

Ind AS 20 requires measurement of such
grants only at their fair value. Thus, the option to measure these grants at
nominal value is not available under Ind AS 20.

Grants related to assets

IAS 20 gives an option to present the
grants related to assets, including non-monetary grants at fair value, in the
balance sheet either by setting up the grant as deferred income or by
deducting the grant in arriving at the carrying amount of the asset.

Ind AS 20 requires presentation of such
grants in the balance sheet only by setting up the grant as deferred income.
Thus, the option to present such grants by deduction of the grant in arriving
at the carrying amount of the asset is not available.

Use of equity method to account for investments in
subsidiaries, joint ventures and associates in SFS

IAS 27 allows an entity to use the
equity method to account for its investments in subsidiares, joint ventures
and associates in its SFS. Consequently, an entity is permitted to account
for these investments either

At
cost

In
accordance with IFRS 9

Using
the equity method

This
is an accounting policy choice for each category of investment.

Ind AS 27 does not allow the use of
equity method to account for investments in subsidiaries, joint ventures and
associates in SFS. This is because Ind AS considers equity method to be a
manner of consolidation rather than a measurement basis.

Confidentiality exemption

IAS 24 does not provide any exemption
from disclosure requirements on the grounds of confidentiality requirements
prescribed in any statute or regulation.

Ind AS 24 exempts an entity from making
disclosures required in the standard if making such disclosures will conflict
with its duties of confidentiality prescribed in a statute or regulation.

Definition of close members of the family of a person

As per IAS 24, “close members of the
family” of a person are those family members who may be expected to
influence, or be influenced by, that person in their dealings with the
entity. They may include

a)
the person’s spouse or domestic partner and children,

Definition “close members of the family”
under Ind AS 24 is similar.

In
addition to relations prescribed under IFRS, it includes brother, sister,
father and mother in sub-paragraph (a).

Differences from other IFRS standards

b) children of the person’s spouse or
domestic partner, and

c) dependents of the person or the
person’s spouse or domestic partner

Differences in local implementation

Classification of refundable deposits received from
customers/ suppliers

Deposits received from the customer/ dealer
are refundable on demand if the connection/ dealership is surrendered.
Deposits being repayable on demand are classified as current.

The ITFG has originally clarified that
refundable deposit repayable on demand should be classified as current. However,
this clarification was subsequently withdrawn by the ITFG. Consequently, many entities present them as
non-current liabilities.

Application of the pooling of interest method in common
control business combinations

IFRS 3 excludes from its scope common
control business combinations.

Ind AS 103 requires common control
business combination to be accounted for using the pooling of interest
method. The ITFG has provided the following guidance on the use of SFS vs.
CFS numbers:

Where
a subsidiary merges with the parent, then it would be appropriate to
recognise combination at the carrying amounts appearing in the CFS of the
parent, since nothing has changed from group perspective.

If
a subsidiary is merged with other fellow subsidiary, then the amount as
appearing in the SFS of the merging subsidiary should be used for application
of the pooling of interest method.

Date of accounting for common control business combination

No specific guidance. Globally, business
combinations including those under common control are generally accounted
from the date on which all substantive approvals are received.

In India, many merger & amalgamation
schemes need to be approved by the Court/ National Company Law Tribunal
(NCLT). In Indian scenario, the court/ NCLT approval is considered to be
substantive and is not merely a rubber stamping. The ITFG has clarified that in a common
control business combination, the court/ NCLT approval received after the
reporting date and before approval of the financial statements for issue
would be treated as an adjusting event.

Determination of
functional currency for the entity and its branch

Depending on specific facts, functional
currency for a branch can be different from that of the company.

A company is carrying on two businesses
in completely different economic environments, say, one INR and the other
USD. The ITFG has stated that the functional currency is determined at the
company level. Hence, functional currency should be same for both the
businesses.

SFS of parent: Impact of Interest free loan to subsidiary on
transition to Ind AS (Guidance provided by ITFG under Ind AS on matters which
are not relevant under IFRS)

Under the erstwhile Indian GAAP, interest free loans to subsidiaries are
accounted for at nominal amount. Under Ind AS, such loans are accounted at
fair value. Any difference in nominal amount and fair value is added to
investment subsidiary.

What
happens to fair value impact of past loans outstanding at transition date?
The company has used previous GAAP carrying amount as deemed cost option for
measuring investment in subsidiary on the date of transition to Ind AS.

The
ITFG has clarified that any difference between the carrying amount and fair
value of loan will be added to the investment measured at cost.

Treatment of dividend distribution tax (DDT) – (Guidance
provided by ITFG under Ind AS on matters which are debatable under IFRS)

As per the tax provision in India,
companies paying dividend are required to pay dividend distribution tax. The ITFG has clarified that the company is
paying DDT on behalf of shareholders. Hence, it should be treated as
distribution of profit and debited to SOCIE.

In
case of DDT paid by subsidiary on dividend distributed to holding company,
the holding company can claim deduction for tax paid by subsidiary against
its own tax liability pertaining to dividend distribution. The ITFG has clarified that DDT paid by subsidiary
on dividend distributed to holding company is charged to P&L in CFS. This is because there is a cash outflow for
the group to a third party; i.e., the tax authorities. Timing of charge is
based on Ind AS 12 principles.
However, if a portion / total tax paid is claimed as set off against
holding company’s DDT liability (on dividends paid to its own shareholders) ,
then the offset amount is recognised in SOCIE and not P&L in CFS. DDT paid on dividend distributed to NCI is
recognised in SOCIE.

Other minor differences

Variable consideration – Penalties

Under IFRS 15, the amount of
consideration, among other things, can vary because of penalties.

Under Ind AS 115, where the penalty is
inherent in determination of transaction price, it will form part of variable
consideration. For example, where an entity agrees to transfer control of a
good or service in a contract with a customer at the end of 30 days for
INR100,000 and if it exceeds 30 days, the entity is entitled to receive only
INR95,000, the reduction of INR5,000 will be regarded as variable
consideration. In other cases, the transaction price will be considered as
fixed.

Disclosure of reconciliation between revenue and contracted
price

IFRS 15 requires extensive qualitative
and quantitative disclosures including those on disaggregated revenue,
reconciliation of contract balances, performance obligations and significant
judgments.

Ind AS 115 contains all the disclosure
requirement in IFRS 15. In addition, Ind AS 115 requires presentation of a reconciliation
between the amount of revenue recognised in statement of profit or loss and
the contracted price showing separately adjustments made to the contracted
price, for example, on account of discounts, rebates, refunds, price
concessions, incentives, bonus, etc. specifying the nature and amount of each
such adjustment separately.

Exchange differences regarded as adjustment to interest costs

In accordance with IAS 23, borrowing
cost includes exchange difference arising from foreign currency borrowings to
the extent that they are regarded as an adjustment to interest costs.
However, it does not provide any specific guidance on measurement of such
amounts.

Ind AS 23 is similar to IAS 23. However,
Ind AS 23 provides following additional guidance on manner of arriving at
this adjustment:

The
adjustment should be of an amount equivalent to the extent to which the
exchange loss does not exceed the difference between the costs of borrowing
in functional currency when compared to the costs of borrowing in a foreign
currency.

If
there is an unrealised exchange loss which is treated as an adjustment to
interest and subsequently there is a realised or unrealised gain in respect
of the settlement or translation of the same borrowing, the gain to the extent
of the loss previously recognised as an adjustment should also be recognised
as an adjustment to interest amount.

Statements of comprehensive income/ Statement of profit and
loss

With regard to preparation of statement
of profit and loss, IFRS provides an option either to follow the single
statement approach or to follow the two statement approach. An entity may
present a

single
statement of profit or loss and other comprehensive income, with profit or
loss and other comprehensive income presented in two sections; or

it
may present the profit or loss section in a separate ‘statement of profit or
loss’ which shall immediately precede the ‘statement of comprehensive
income’, which shall begin with profit or loss.

Ind AS 1 allows only the single statement
approach and does not permit the two statements approach. For deletion of two statements approach,
consequential amendments have been made in other Ind AS also.

Frequency of reporting

In accordance with IAS 1, an entity
consistently prepares financial statements for each one-year period. However,
for practical reasons, some entities prefer to report, for example, for a
52-week period. IAS 1 does not preclude this practice.

Ind AS 1 does not permit entities to use
a periodicity other than one year to present their financial statements.

Earnings Per Share –

Applicability

IAS 33 applies only to an entity whose
ordinary shares or potential ordinary shares are traded in a public market or
that files, or is in the process of filing, its financial statements with a
securities commission or other regulatory organisation for the purpose of
issuing ordinary shares in a public market.

This scope requirement has been deleted
in the Ind AS as the applicability or exemptions is governed by Companies
Act, 2013 and the rules made thereunder.
Since there is no exemption from disclosing EPS under the Companies
Act, all companies covered under Ind AS need to disclose EPS.

Presentation of EPS in separate financial statements

IAS 33 provides that when an entity
presents both consolidated financial statements (CFS) and separate financial
statements (SFS), it provides EPS related information in CFS.

Ind AS 33 requires EPS related
information to be disclosed both in CFS and SFS. In CFS, such disclosures
will be based on consolidated information. In SFS, such disclosures will be
based on information given in the SFS.

Other minor differences

Segment reporting Application

IFRS 8 applies only to an entity whose
ordinary shares or potential ordinary shares are traded in a public market or
that files, or is in the process of filing, its financial statements with a
securities commission or other regulatory organisation for the purpose of
issuing ordinary shares in a public market.

This scope requirement has been deleted
in the Ind AS as the applicability or exemptions is governed by Companies
Act, 2013 and the rules made thereunder.
Currently, the Companies Act does not exempt any company (except few
government companies in defence sector) from presentation of segment
information.

Aggregation of transactions for related party disclosure

IFRS does not provide any guidance on
the aggregation of transaction for disclosure purposes.

Ind AS 24 provides an additional
guidance whereby items of similar nature may be disclosed in aggregate by
type of related party. However, this is not done in such a way as to obscure
the importance of significant transactions. Hence, purchases or sales of
goods are not aggregated with purchases or sales of fixed assets. Nor a
material related party transaction with an individual party is clubbed in an
aggregated disclosure.

Regulatory Deferral Accounts
– Explanation to the definition of “previous GAAP”

IFRS 14 defines the term “previous GAAP”
as a basis of accounting that a first-time adopter used immediately before
adopting IFRS.

Ind AS 114 defines the term “previous
GAAP” as the basis of accounting that a first-time adopter used immediately
before adopting Ind AS for its reporting requirements in India. Further an
explanation has been added to the definition to consider the Guidance Note on
Accounting for the Rate Regulated Activities issued by the ICAI to be the
previous GAAP.

Regulatory Deferral Accounts
– Scope

An entity is allowed to apply the
requirements of IFRS 14 in its subsequent financial statements if and only
if, in its first IFRS financial statements, it recognised regulatory deferral
account balances by electing to apply the requirements of IFRS 14.

Ind AS 114 contains similar requirement.
In addition, its states that an entity applies the requirements of previous
GAAP in respect of such regulated activities:

in
the case of an entity subject to rate regulation coming into existence after
Ind- AS coming into effect; or

if
its activities become subject to rate regulation subsequent to preparation
and presentation of its first Ind AS financial statements.

Repeat application of IFRS/Ind AS

IFRS 1 states that an entity that
stopped applying IFRS in the past and chooses, or is required, to resume
preparing IFRS financial statements has an option to either apply IFRS 1
again or to retrospectively restate its financial statements as if it had
never stopped applying IFRS.

Ind AS 101 does not contain this
provision. Rather, MCA roadmap states that once a company opts to follow Ind
AS, it will be required to follow the Ind AS for all the subsequent financial
statements.

Presentation of comparative information

IFRS 1 requires comparative information
for minimum one year. If an entity elects, it can give comparative
information for more than one year.

The ITFG has clarified that due to the
Companies Act notification, a first-time adopter can give Ind AS comparative
information only for one year.

Exemption relating to borrowing cost

IFRS 1 permits a first time adopter to
apply the requirements of IAS 23 from the date of transition or from an
earlier date as permitted by the transitional requirements of IAS 23.

There is no such exemption under Ind AS
101, since Indian GAAP requires the borrowing cost relating to qualifying
assets to be capitalised if the criteria laid down in AS 16 (Indian GAAP) are
fulfilled.

Small and medium-sized entities

The IASB had issued a separate IFRS for SMEs in July
2009. IFRS for SMEs is based on the fundamental principles of full IFRS, but
in many cases, it has been simplified to make the accounting requirements
less complex and to reduce the cost and effort required to produce the
financial statements. To achieve this, the IASB removed a number of the
accounting options available under full IFRS and attempted to simplify
accounting, including recognition and measurement principles, for SMEs in
certain areas.

Whilst the standard provides a broad
level definition of an SME to help in understanding the entities to which
IFRS for SMEs is applicable, the preface to the standard indicates that the
decision as to which entities are required or permitted to apply the standard
will lie with the regulatory and legislative authorities in each
jurisdiction.

In India, there is no separate standard
for SMEs that will correspond to IFRS for SMEs. As per the MCA roadmap, Ind AS applies in
phases to:

Listed
companies;

Non-listed
companies having net worth of INR 250 crores or more;

Holding,
subsidiary, joint venture and associate companies of the above companies

All other companies will continue to
apply Indian GAAP or they may adopt Ind AS voluntarily. ICAI is separately
upgrading Indian GAAP to bring it closer to Ind AS. In certain cases, the
ICAI may use IFRS for SMEs principles while revising Indian GAAP.

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AMENDMENTS IN FORM 3CD ANNEXED TO TAX AUDIT REPORT

Section 44AB relating to Tax Audit was inserted in the Income
tax Act by the Finance Act, 1984. Tax Audit requirement has become effective
from A.Y. 1985-86. The above provision
for compulsory Tax Audit in cases of assessees carrying on business or profession
and having annual Turnover or Gross Receipts exceeding certain specified limits
was introduced with a view to provide authentic information to the Assessing
Officer with the return of income. Separate Tax Audit report Form 3CA for
Corporate assessees and Form 3CB for non-corporate assessees have been
notified. In these Audit Reports it is specifically stated that “Statement of
Particulars required to be furnished under Section 44AB is annexed herewith in
Form No:3CD”. In other words, the intention from the beginning has been that
Form 3CD will give certain specified particulars (i.e. information) relating to
the accounts audited by the Tax Auditor. In other words, the Assessing Officer
is provided with authentic information to enable him to frame the assessment
without further verification.

The initial draft of Tax Audit Report with statement of
particulars, as prepared by the Taxation Committee of the Institute of
Chartered Accountants was notified by CBDT with certain modifications. The Tax
Audit Report as notified in A.Y. 1985-86, continued with minor modifications
upto A.Y. 1998-99. In the subsequent years, Form 3CD has been revised from time
to time and additional responsibilities are placed on Tax Auditors. Originally,
Tax Auditors were only required to give information about certain items
appearing in the Financial Statements. Later on reporting requirement in Form
3CD required the Tax Auditor to express his opinion on certain items of
income/expenditure and state whether the same is taxable as income or allowable
as expenditure.

At present, Form 3CD contains 41 items (with several
sub-items) in respect to which information or opinion is to be given. By
notification dated 20^th July, 2018, Form 3CD is amended with effect
from 20^th August, 2018. The
amendments made in this Form places additional responsibility on Tax Auditors.
Nine new items viz. 29A, 29B, 30A, 30B, 30C, 36A, 42, 43 and 44 are added.
Besides these items, some additional information is called for in the existing
items. It may be noted that this amended Form 3CD is to be used in respect of
Tax Audit Report given on or after 20/08/2018. If the Tax Audit Report is given
before 20/08/2018, the old Form 3CD is to be used. Since the amendments made in
Form 3CD will put additional responsibilities on Tax Auditors and some
important issues of interpretation will arise, an attempt is made in this
article to analyse the amendments made in Form 3CD.

1. New Clause 29A

This is a new item under which, if any amount is to be
included as income chargeable u/s. 56(2)(ix) in the case of the assessee, the
nature of the income and the amount of income will have to be given. Section
56(2)(ix) provides that any amount received by the assessee as advance or
otherwise in the course of negotiations for transfer of a capital asset is
taxable as income from other sources, if the said amount is forfeited and the
capital asset is not transferred.

2. New clause 29B

Under this new item, if any amount is includible in the
income of the assessee u/s. 56(2)(x), the details about the nature and amount
of income will have to be given. It may be noted that section 56(2)(x) provides
that, if the assessee receives any gift or any movable or immovable property
for a consideration which is less than the Fair Market Value from a
non-relative, the difference in the value, if it is more than Rs. 50,000/- will
be taxable as income from other sources.

3. New clause 30A

Under this item the Tax
Auditor has to state whether primary adjustment to transfer price, as referred
to in section 92CE(1), has been made during the previous year. If so, details
of such primary adjustment and amount of such adjustment should be stated. It
may be noted that this provision is applicable only if the primary adjustment
is more than Rs. 1 crore. If the excess money available with the associated
enterprise is required to be repatriated to India u/s. 92CE(2), whether such
remittance has been made within the prescribed time limit is also to be stated.
If not, the amount of imputed interest income on such amount which has not been
remitted to India within the prescribed time limit will have to be stated. This
item relates to International Transactions for which separate Tax Audit Report
u/s. 92E is required to be submitted in Form 3CEB. It is not understood as to
why this information is included in Form 3CD instead of Form 3CEB.

4. New clause 30B

Under this item information about expenditure incurred by way
of interest, exceeding Rs. 1 crore,
as referred to u/s. 94B is to be given. This section applies to an Indian
Company or a permanent establishment (PE) of a foreign company in India. If
such Company or PE borrows money in India and pays interest, exceeding Rs.1 crore, and such interest is deductible
in computing income from business or profession in respect of foreign debt to
an associated enterprise, the deduction is limited to 30% of EBITDA or interest
paid, whichever is less. The information to be given under this item is as
under:-

(i) Amount
of Interest Expenditure referred to in section 94B

(ii) 30%
of EBITDA for the year

(iii) Amount
of Interest which exceeds 30% of EBITDA

(iv) Information
of unabsorbed interest expenditure brought forward and carried forward u/s.
94B(4). It may be noted that u/s. 94B(4) interest expenditure which is not
allowed as deduction in one year u/s 94B is allowed to be carried forward for 8
years and will be allowed, within the limit u/s. 94B(2), in the subsequent
year.

5. New clause 30C

(i) Under
this item the Tax Auditor has to state whether the assessee has entered into an
impermissible avoidance arrangement, as referred to in section 96 during the
previous year. If so, nature of such arrangement and the amount of tax benefit
arising, in the aggregate, to all the parties to such arrangement should be
stated.

(ii) This
is one item where the Tax Auditor has to give his opinion whether any
particular arrangement made by the assessee is for tax avoidance and is an
impressible arrangement. For this purpose one has to refer to sections 95 to
102 dealing with the General Anti-Avoidance (GAAR) provisions and section 144BA
of the Income tax Act. Reading these sections it will be noticed that the Tax
Auditor cannot give his opinion on the question whether GAAR provisions are
applicable in the case of the assessee and what is the tax benefit received by
all parties to this arrangement.

(iii) It may be noted that under Rule 10U it is provided that GAAR
provisions are not applicable to an arrangement where the benefit to all the
parties to the arrangement does not exceed, in the aggregate, Rs. 3 crore. Under Item 30C it is not
clarified whether the information is to be given only if the total tax benefit
exceeds Rs. 3 crore or in all cases.

(iv) If
we refer to procedure for declaring an arrangement as impermissible avoidance
arrangement, as provided in section 144BA, it will be noticed that even the
Assessing Officer cannot decide whether a particular arrangement is covered by
GAAR provisions. This procedure is as under:

(a) The
Assessing Officer (AO) can, at any stage of assessment or reassessment, make a
reference to the Principal Commissioner or Commissioner (CIT) for invoking
GAAR.

(b) On
receipt of this reference, the CIT has to give hearing to the assessee within
60 days and to decide whether GAAR provisions should be invoked.

(c) If
the CIT is satisfied with the submissions of the assessee he will have to
direct the AO not to invoke GAAR provision.

(d) If
the CIT is not satisfied with the submissions of the assessee, he has to refer
the matter to the “Approving Panel”.

(e) After
this reference by the CIT, it is for the Approving Panel to declare any
arrangement to be impermissible or not within six months.

(f) It
is only after the above procedure is followed and the Approving Panel has
declared an arrangement as impermissible avoidance arrangement that the AO can
proceed to determine the tax consequences of such arrangement.

(v) In
view of the above provisions of sections 95 to 102 and 144BA, it can be
concluded that a Tax Auditor is not competent to say that a particular arrangement
is an impermissible avoidance arrangement. Even the AO or CIT has no authority
to decide whether the arrangement is an impermissible avoidance arrangement. It
is only the Approving Panel which can declare an arrangement as impermissible
avoidance arrangement.

(vi)
In view of the above, various Professional and Trade Bodies had made
representations to CBDT for deletion of Item 30C from Form 3CD. In response to
this, by a Notification dated 17/8/2018, the CBDT has deferred this Item upto
31/3/2019. Therefore, in the Tax Audit Report for A.Y. 2018-19 Item 30C in Form
3CD is not applicable. However, it is necessary to make a strong representation
to CBDT to delete this item altogether in subsequent years also. If this item is not deleted in subsequent
years, it will be advisable for the Tax Auditor to put the following Note under
Item 30C.

“I am unable to express any opinion as to whether the
assessee has entered into an impermissible avoidance arrangement, as referred
to in Section 96, during the previous year. Whether an arrangement is an
impermissible avoidance arrangement or not can only be declared by the
Approving Panel as provided in Section 144BA(6) of the Income tax Act and I am
not authorised to express opinion in this matter.”

6. Existing clause
31

Under this item particulars about loan or deposit taken or
given in cash as referred to in section 269SS and 269T are to be stated. Now,
following additional particulars are required to be given about certain
transactions as referred to in section 269ST. This is a new section which has
come into force from 01.04.2017. The section provides that no person shall
receive Rs. 2 lakh or more, in the
aggregate, from another person, in a day, or in respect of a single transaction
or in respect of transactions relating to one event or occasion in cash. In
other words, all such transactions have to be made by account payee cheques,
bank draft or by any electronic media. The following particulars of such
transactions are now to be stated under Item 31.

(i) Particulars
of each receipt in cash of an amount exceeding Rs. 2 lakh, in the aggregate, as specified in section 269ST, from
a person in a day or in respect of a single transaction or in respect of
transactions relating to one event or occasion from a person (herein referred
to as receipt / payment in a day) are to be given. Here, particulars relating
to name, address, PAN of the payer, nature of transaction, amount received and
date of receipt is to be given.

(ii) Particulars
of each such receipts of an amount exceeding Rs.
2 lakh in a day by a cheque or bank draft which is not an account payee
cheque or a bank draft. In some cases it
may be difficult to find out whether the
cheque/ bank draft is marked as account payee. In such cases the tax
auditor should follow the Guidance Note on Audit u/s. 44AB issued by ICAI
wherein certain directions are given while reporting about cash loans received
and repaid u/s. 269SS/ 269T under Item No.31.

(iii) Particulars of each payment in cash of an amount exceeding Rs. 2 lakh, in the aggregate, as specified
in section 269ST, to a person, in a day, are to be given. Here, particulars of the name, address, PAN
of the payee; value of transaction amount paid and date of payment are to be
stated.

(iv) In
the above case, if the payment is made by cheque / bank draft which is not
marked “Account Payee”, the particulars of the same will have to be given.

As stated above, if the tax auditor
is not able to ascertain this fact, he should follow the Guidance Note on Tax
Audit u/s 44AB issued by ICAI, relating to Item No.31 dealing with reporting on
section 269 SS / 219T.

7. Existing clause
34

At present particulars about tax deducted or collected at
source (TDS/TCS) are to be given. Under Item 34(b) if the assessee has not
furnished the statement of TDS or TCS within the prescribed time to the Tax
Authorities, certain particulars are to be given. This Item 34(b) is now
replaced by another Item 34(b) which requires the tax Auditor to state (i) TAN,
(ii) Type of Form, (iii) Due date for furnishing the statement of TDS/TCS to
Tax Authorities, (iv) Date of furnishing the statements of TDS/TCS and (v)
Whether this statement contains information about all details/transactions
which are required to be reported. If not, a list of details/transactions not
reported to be given. It may be noted
that at present such list of unreported items is not required to be given.
Preparation of such list is the additional responsibility put on the Tax Auditor.

8. New clause 36A

Under this new item the Tax Auditor has to state, whether the
assessee has received any advance or loan from a closely held company in which
he holds beneficial interest in the form of equity shares carrying not less
than 10% of voting power. If so, the amount of advance or loan and the date of
receipt is to be given. In other words, the Tax Auditor will now have to give
his opinion whether there is any advance or loan received which is to be
treated as “Deemed Dividend” u/s. 2(22)(e). This is going to be difficult as
there are so many conflicting judicial pronouncements on the interpretation of
section 2(22)(e). Even the tax department had difficulty in deciding the person
who should be taxed on the deemed dividend u/s. 2(22)(e). For this reason
section 115-O has been amended by the Finance Act, 2018. Section 115-O now
provides that the closely held company giving such advance or loan to a related
party as specified in section 2(22)(e), on or after 1/4/2018, will have to pay
tax at the rate of 30% plus applicable surcharge and cess. Therefore, the requirement contained in Item
36A will apply for Tax Audit for A.Y. 2018-19 only.

9. New clause 42

Under this item, if the assessee is required to file Forms
61, 61A or 61B with appropriate authorities, the particulars relating to the
same will have to be furnished. These particulars are (i) Income tax Department
Reporting Entity Identification Number, (ii) Type of Form, (iii) Due date for
furnishing the statement, (iv) Date of furnishing the same and (v) Whether the
Form contains the information about all details/transactions which are required
to be reported. If this is not done, a
list of the details/transactions which are not reported.

The above requirement will place additional burden on the Tax
Auditor who will have to study the requirements of the following Sections,
Rules and Forms.

(a) Section
139A(5), Rules 114C and 114D and Forms 60 and 61. These deal with declarations
received by the assessee in Form 60 from persons who have applied for PAN u/s.
139A.

(b) Section
285BA, Rule 114E and Form 61A. This
refers to obligation of a person to furnish statement of financial transactions
or reportable account u/s. 285BA.

(c) Section
285BA, Rule 114G and Form 61B. This also relates to the requirements of section
285BA relating to Annual Information Reporting.

10. New clause 43

This new item relates to report to be furnished in respect of
International Group u/s. 286. If the assessee or its parent or alternate
reporting entity is liable to furnish the Report u/s. 286(2), the following
information is to be furnished.

(i) Whether
such Report u/s. 286(2) is furnished

(ii) Name
of parent entity or alternate entity

(iii) Date of furnishing the Report

11. New clause 44

The Tax Auditor has now to furnish break-up of total
expenditure of entities registered or not registered under GST. It is not clear
as to whether the details are to be given only of expenditure such as telephone
expenses, professional fees and similar expenses or of purchases of raw
materials, stores, finished goods etc. The following details of expenditure are
to be given.

(i) Total
amount of expenditure incurred during the year. Since break-up of the
expenditure is to be given the total expenditure under each head of expenditure
such as telephone, professional fees etc., will have to be given.

(ii) Expenditure
in respect of entities registered under GST to be specified under different
categories viz. (a) Goods or Services exempt from GST (b) Entities falling
under composition scheme, (c) Entities which are registered under GST and (d)
Total payment to registered entities.

(iii) Expenditure
relating to entities not registered under GST.

Reading this item it is not clear as
to why this information is called for. This information has no relevance with
the determination of total income or determination of tax liability under the
Income tax Act. Various Professional and Trade Bodies had made representations
to CBDT for deletion of this Item. In response to this, by a Notification dated
17/8/2018, the CBDT has deferred this Item upto 31/3/2019. Therefore, in the
Tax Audit report for A.Y. 2018-19 this Item is not now applicable. However,
efforts should be made to get this Item deleted even for subsequent years.

12. Some Additional Information to be Given

There are some other items in Form 3CD where specific
information is to be given. Some additional information is to be given under
these items in the amended Form 3CD. These items are as under:

(i) In
Item No:4 GST Registration Number is to be given.

(ii) In
Item 19 details of amounts admissible under various sections are to be given at
present. Now information of amount admissible u/s. 32AD dealing with Investment
in new plant or machinery in notified backward areas in certain States is to be
given. Similarly, this information is now to be given in Item 24 also.

(iii) In
Item No:26 dealing with information relating to various items listed in section
43B, information about any sum payable by the assessee to the Indian Railways
for the use of Railway Assets which has not been paid during the accounting
year will have to be given.

TO SUM UP

From the above amendments in Form 3CD it will be noticed that
the Tax Auditor who gives his Tax Audit Report on or after 20/08/2018 will have
to devote considerable extra time to report on the new items added in Form
3CD. As discussed above, he will have to
give his opinion about interpretation of section 2(22)(e) relating to deemed
dividend which is going to be difficult. Further, the Item 30C requiring the
Tax Auditor to express his opinion whether the assessee has entered into an
impermissible tax avoidance arrangement and what is the tax benefit to the
parties to such arrangement is beyond the authority of a Tax Auditor. Item 44
requiring particulars about GST transactions has no relationship with
computation of income or tax and therefore, this item should also be deleted
from Form 3CD. Although CBDT has notified that Items 30C and 44 are not
applicable for Tax Audit Report for A.Y. 2018-19, it is necessary to make a
strong representation for deletion of these two items from Form 3CD for
subsequent years also. There are some new areas in which the additional
particulars will have to be given by the Tax Auditor. Collection of these
particulars will be time consuming and the time between the publication of
amendments in Form 3CD and the date by which tax audit report is to be given
may not be found to be sufficient. It is essential that such important
amendments in Form 3CD should be made by CBDT well in advance after due consultation with the Institute of Chartered
Accountants of India and all other stakeholders.

shailesh.kwebmaker

PENALTY- CONCEALMENT-INTERPRETATION

Introduction

Under any fiscal law, there are
provisions for levy of penalty. Penalties are normally related to tax quantum
found payable at the end of the proceeding. Normally, these provisions are made
to tackle deliberate attempts of the assessee to avoid tax payment. One of the
events to attract penalty is concealment by the concerned assessee. However,
such penalty is not expected to be levied when the dues arise under bona
fide belief and action. For example, there may be case where assessee shows
the transactions in his accounts and returns but claims the same as exempt on
its bona fide interpretation of provisions of law. Subsequently, such
interpretation may not be acceptable to the revenue department and dues may
arise. In such cases, levy of penalty cannot be justified. However, the issue
remains that, how to decide about bona fide mistake on part of the
assessee. There may be cases where the department will impose penalty inspite
of plea of bona fide mistake on part of assessee.

Recent
judgment

Recently, Hon’ble Rajasthan High
Court had an occasion to deal with such a situation in case of Commercial
Taxes Officer, Anti Evasion, Rajasthan, Circle-III, Jaipur. vs. I.C.I.C.I Bank
Ltd. (2018) 54 GSTR 389 (Raj).

The facts, as
narrated by Hon’ble High court, are as under:-

“The brief facts noticed are that
the claim of the assessee is that the assessee is engaged in providing finance
to the prospective buyers of vehicle and if buyers after certain time fail to
pay the regular installment (EMI) as per agreement arrived at by and between
the assesse and the buyer (assessee) gets the right to repossess the vehicle
and get it transferred in its own name and thereafter either directly or
through agent, can dispose/auction the vehicle whether such transaction is
eligible to tax under Rajasthan Value Added Tax Act (RVAT) or not. It is
undisputed fact that all the three authorities, namely assessing officer,
Deputy Commissioner (A) as well as the Tax Board have upheld that the
transaction is eligible to tax under the RVAT Act, following the judgment of
the apex court in the case of Federal Bank Ltd vs. State of Kerala(2007) 6
VST 736 (SC). However, in so far as penalty u/s. 61 of the Act is concerned,
while the assessing officer imposed penalty which was upheld by the Deputy
Commissioner (A) but the Tax Board in the impugned order has held that there is
no case of imposition of penalty u/s. 61 of the Act and accordingly, deleted
the penalty in all the assessment years.”

The argument of the revenue
department was that when the law was already laid by Supreme Court in case of Federal
Bank Ltd vs. State of Kerala(2007) 6 VST 736 (SC), there is no
justification for non-levy of penalty. In other words it was submitted that
after above judgment there is no debatable position and what was done by the
assessee bank is deliberate and therefore, the penalty required to be restored.

Hon’ble Rajasthan High Court
observed that the Tax Board has come to correct finding. Since all the
transactions were duly disclosed and it is the matter of interpretation,
whether VAT is leviable or not, the issue cannot be covered under penalty
clause. In this respect, Hon’ble High Court has relied upon the Supreme Court
judgment in case of Sree Krishna Electricals vs. State of Tamil Nadu
(2009) 23 VST 249 (SC).

In above judgment regarding similar
clause of penalty under Tamil Nadu Sales Tax law, Hon’ble Supreme Court has
observed as under:

“So far as the question of penalty
is concerned the items which were not included in the turnover were found
incorporated in the appellant’s accounts books. Where certain items which are
not included in the turnover are disclosed in the dealer’s own account books
and the assessing authorities includes these items in the dealers’ turnover,
disallowing the exemption. penalty cannot be imposed. The penalty levied stands
set aside.”

Accordingly, following above ratio
of Supreme Court judgment, Hon’ble Rajasthan High court has justified removal
of penalty by Tax Board.

In relation to penalty matters, the
basic principle laid down by Hon’ble Supreme Court in the land mark judgment in
case of Hindustan Steel Limited, (25 STC 211), is also required
to be kept in mind. The relevant observations are as under:

“Under the Act penalty may be
imposed for failure to register as a dealer: section 9(1) r/w section 25(1)(a)
of the Act. But the liability to pay penalty does not arise merely upon proof
of default in registering as a dealer. An order imposing penalty for failure to
carry out a statutory obligation is the result of a quasi-criminal proceeding,
and penalty will not ordinarily be imposed unless the party obliged either acted
deliberately in defiance of law or was guilty of conduct contumacious or
dishonest, or acted in conscious disregard of its obligation. Penalty will not
also be imposed merely because it is lawful to do so. Whether penalty should be
imposed for failure to perform a statutory obligation is a matter of discretion
of the authority to be exercised judicially and on a consideration of all the
relevant circumstances. Even if a minimum penalty is prescribed, the authority
competent to impose the penalty will be justified in refusing to impose
penalty, when there is a technical or venial breach of the provisions of the
Act or where the breach flows from a bona fide belief that the offender
is not liable to the act in the manner prescribed by the statute. Those in
charge of the affairs of the company in failing to register the company as a
dealer acted in the honest and genuine belief that the company was not a
dealer. Granting that they erred, no case for imposing penalty was made out.”

Conclusion

The
penalty is discretionary and can be justified only where there is deliberate
and conscious disregard of the law. When the disregard is due to technical
reasons, no penalty can be justified. From the Hon’ble Rajasthan High Court’s
judgment, as above, it is also clear that in spite of judgment of courts on the
issue covered, the assessee can still take different view and litigate the
matter. If the transactions are otherwise recorded in the books levy of penalty
cannot be justified. It is expected that the above principles will be followed
by the revenue department in true spirit.

shailesh.kwebmaker

GST ON CO-OPERATIVE HOUSING SOCIETIES

Introduction

A co-operative housing
society is a mutual association wherein the membership is restricted to the
buyers of the flats situated in the said building. The society is managed by a
Managing Committee elected by the Members at the General Body Meeting of the
Society from amongst its members only. The primary role of the Managing
Committee is to manage, maintain and administer the property of the society.
This would include making payments to the municipal / local authorities for the
property tax, water charges, etc., arranging for various facility for the
members, such as security, lift (operation and maintenance), maintaining the
common area and facilities of the society (gymnasium, swimming pool, play or
garden area, etc.). For undertaking the above activities, the society needs
funds, which are collected from its members periodically in the form of
maintenance charges. We shall discuss in this article the levy of GST on such
maintenance charges.

At the outset, it is
important to note that the levy of taxes on the co-operative housing societies,
both under the income tax as well as the service tax regime has seen its fair
share of litigation and therefore, taking precedents from the said laws, we
shall discuss the alternate interpretations for different issues.

GST – Levy provisions

In order to determine
whether GST is leviable or not, reference to the charging section (section 9 of
the CGST Act, 2017) becomes necessary which provides that the tax shall be
levied on all supplies (intrastate or interstate) of goods or services
on the value to be determined u/s. 15 of the CGST Act, 2017 and the said
tax shall be paid by the taxable person.

From the above, it is
evident that the primary requirement for the levy of tax to succeed under GST
is that there should be a supply. While the term “supply” has not been defined
under the GST law, its scope has been explained u/s. 7. Clause (a) of section 7
(1) thereof is relevant which provides that the expression

“supply” includes —

(a) all forms of supply
of goods or services or both such as sale, transfer, barter, exchange, licence,
rental, lease or disposal made or agreed to be made for a consideration by a
person in the course or furtherance of business;

Therefore, to treat a
transaction as supply the following three parameters are important:

– Supply of goods or supply of services

– Supply in the course or furtherance of business

– Supply for a consideration

Can a Co-operative housing
society be said to be engaged in supplying services?

While the activities
undertaken by a co-operative housing society for its members cannot be treated
as supply of goods, the question that needs consideration is whether the same
can be considered as supply of service or not? The term service has been defined
u/s. 2 of the Act to primarily mean anything other than goods and therefore, a
simple answer to this would be that the activities undertaken by a co-operative
housing society is a supply of service to its members.

However, an alternate view
is also possible. It would be important to note that the activities undertaken
by the society for its members come within the ambit of principle of mutuality
which says that a person cannot earn out of himself and a person cannot supply
to one self. Infact, applying the said principle, in the context of Income Tax,
receipts by a co-operative housing society from its members have been held as
not being income. Some of the important decisions in this regard are:

– Chelmsford Club vs. Commissioner of
Income Tax — 2000 (243) ITR 89 (SC)

– Commissioner of Income Tax vs. National
Sports Club of India — 1998 (230) ITR 373 (Del)

– Commissioner of Income Tax vs. Bankipur
Club Ltd — 1997 (22G) HR 97 (SC)

– Commissioner of Income Tax vs. Delhi
Gymkhana Club Ltd. — 1905 (155) ITR 373 (Del)

– Commissioner of Income Tax vs. Merchant
Navy Club — 1974 (96) ITR 2GI (AP)

– Commissioner of Income Tax vs. Smt.
Godavaridevi Saraf — 1978 (2) E.L.T. (J624) (Bom.)

In fact, relying on the
above set of decisions, in the context of service tax, it has been held on
multiple occasions that services provided by a co-operative housing society /
club to its members come within the purview of principle of mutuality and
hence, not liable to service tax. Notable decision in this regard is in the case
of Ranchi Club Ltd. vs. Chief Commissioner [2012 (26) S.T.R. 401 (Jhar.)] wherein
it was held as under:

18. However, learned counsel for the petitioner
submits that sale and service are different. It is true that sale and service
are two different and distinct transaction. The sale entails transfer of
property whereas in service, there is no transfer of property. However, the
basic feature common in both transaction requires existence of the two parties;
in the matter of sale, the seller and buyer, and in the matter of service,
service provider and service receiver. Since the issue whether there are two
persons or two legal entity in the activities of the members’ club has been
already considered and decided by the Hon’ble Supreme Court as well as by the Full
Bench of this Court in the cases referred above, therefore, this issue is no
more res integra and issue is to be answered in favour of the writ petitioner
and it can be held that in view of the mutuality and in view of the
activities of the club, if club provides any service to its members may be in
any form including as mandap keeper, then it is not a service by one to another
in the light of the decisions referred above as foundational facts of existence
of two legal entities in such transaction is missing. However, so
far as services by the club to other than members, learned counsel for the
petitioner submitted that they are paying the tax.

Similar view has been held
in other cases as well.

– Sports Club of Gujarat Ltd. vs. Union of
India [2013 (31) S.T.R. 645 (Guj.)]

– Karnavati Club Limited vs. Union of India
[2010 (20) STR 169 (Guj.)]

– Breach Candy Swimming Bath Trust vs. CCE,
Mumbai [2007 (5) STR 146 (Mumbai Tribunal)]

– Matunga Gymkhana vs. CST, Mumbai [2015
(38) STR 407 (Mumbai Tribunal)]

– Cricket Club of India Limited vs. CST,
Mumbai [2015 (40) STR 973 (Mumbai Tribunal)]

To summarise, in view of
the above judicial precedents, an important proposition that emerges is that
vis-à-vis the supplies to the members, the principle of mutuality continues to
apply even under the GST regime and therefore, any collection from members
continue to be outside the ambit of levy of tax. Therefore, GST shall apply
only in case of services provided to non-members.

However, all the above
decisions are contested by the Department and the matter is pending before the
Supreme Court.

Further aspect to be
examined is whether the said decisions rendered in the context of service tax
would have relevance under the GST Regime. It is felt that the concept of
mutuality not only continues under GST Regime but becomes even more fortified
due to the following reasons:

1. Under the service tax regime, Explanation 3 to
section 65B(44) provided a deeming fiction treating an unincorporated
association and the members thereof as distinct persons. While it was possible
to argue that a co-operative society is an incorporated association and hence
the said deeming fiction is not applicable, the said Explanation did somewhere
indicate the intention of the Legislature. In contradistinction, the GST Law
nowhere has such a deeming fiction. It may also be important to note that such
deeming fiction is created in case of establishments in distinct States or
countries.

2. Entry 7 of Schedule II treats supply of goods
by any unincorporated association or body of persons to a member thereof as a
supply of goods but does not specifically cover services under the ambit
thereof.

Can a co-operative housing
society be said to be providing services in the course or furtherance of
business?

The second aspect that
needs consideration is whether a co-operative housing society is carrying out
its activities in the course or furtherance of business or not? This becomes
essential since in the absence of the same, the service may not get
classifiable u/s. 7 to be covered within the scope of supply itself and hence,
may not attract GST at all (irrespective of position taken in the first case).

In order to determine
whether a co-operative housing society carries out its activities in the course
or furtherance of business or not, it becomes essential to refer to the
definition of business as provided for u/s. 2 (17) of the CGST Act, 2017, which
is reproduced below for ready reference:

(17) “business” includes —

(a) any
trade, commerce, manufacture, profession, vocation, adventure, wager or any
other similar activity, whether or not it is for a pecuniary benefit;

(b) any
activity or transaction in connection with or incidental or ancillary to
sub-clause (a);

(c) any
activity or transaction in the nature of sub-clause (a), whether or not there
is volume, frequency, continuity or regularity of such transaction;

(d) supply
or acquisition of goods including capital goods and services in connection with
commencement or closure of business;

(e) provision
by a club, association, society, or any such body (for a subscription or any
other consideration) of the facilities or benefits to its members;

(f) admission,
for a consideration, of persons to any premises;

(g) services
supplied by a person as the holder of an office which has been accepted by him
in the course or furtherance of his trade, profession or vocation;

(h) services
provided by a race club by way of totalisator or a licence to book maker in
such club; and

(i) any
activity or transaction undertaken by the Central Government, a State
Government or any local authority in which they are engaged as public
authorities;

At this juncture, it is
relevant to note that the above definition is similar to the definition
applicable under the CST Act, 1956 (prior to amendment doing away with the
for-profit clause). In the context of the said definition, the Supreme Court
had in the case of State of Andhra Pradesh vs. Abdul Bakhi & Bros
[(1964) 15 STC 644 (SC)] held that the expression “business” though
extensively used as a word of indefinite import, in taxing statutes it is used
in the sense of an occupation, or profession which occupies the time, attention
and labor of a person, normally with the object of making profit. To regard an
activity as business there must be a course of dealings, either actually
continued or contemplated to be continued with a profit motive, and not for
sport or pleasure. Keeping the said principles in mind (except for the clause
relating to pecuniary benefit), let us analyse as to whether the activities of
a co-operative housing society can be classified as trade, commerce,
manufacture, profession, vocation, adventure, wager or any other similar
activity or not?

To do so, let us first
understand the activities of a co-operative housing society. As discussed
earlier, the main object of incorporating a co-operative housing society is to
manage, maintain and administer the property of the society and thus protecting
the rights of the members of the society thereof. There is no apparent
intention to carry out any of the activities specified in clause (a) which a
co-operative housing society carries out. That being the case, the question of
activities of the co-operative housing society being classifiable as business
under clauses (a) to (c) of the above definition does not arise at all.

The only other clause,
which appears remotely relevant to the current topic of discussion is clause
(e) which is reproduced below

(e) provision by a
club, association, society, or any such body (for a subscription or any other
consideration) of the facilities or benefits to its members.

Let us first understand
the concept of how the co-operative housing society model functions. A builder
develops land by constructing the building and other amenities, sells it to
potential buyers who after the completion of construction and handover of
possession, form a society to manage, maintain and administer the property. The
society incurs expense of two kind, one being directly incurred for the member
(such as property tax, water bill, etc.) and second being common expenses for
all the members (such as lighting of common area, lift operation and
maintenance, security, etc.) which are recovered from the members. However,
what is of utmost importance is that a member does not come to society for
enjoying the said facilities, but to stay there, which continues to be his
right by way of ownership which cannot be denied to him. Even if there is a
case where a member stops contributing to the expenses, other members of the
society cannot deny the access to the member to his unit, though the facilities
extended may be discontinued.

However, it is not so in
the case of a club or association. A person becomes a member only to enjoy the
facilities that the said club or association has to offer. If that be the case,
it can be argued the term “society” used in clause (e) of section 2 (17) is to be
read in context of the surrounding words like club or association and hence,
has to be restricted only to such societies where the purpose of obtaining
membership is to receive benefits/ facilities.

If a conservative view is
taken that the activities undertaken by a co-operative housing society is
classifiable as supply of services in the course or furtherance of business, is
the supply for a consideration?

Section 9 of the CGST Act,
2017 provides that tax shall be levied on the value of supply, as determined
u/s 15 of the CGST Act, 2017. Section 15 (1) provides that where the supplier
and recipient are related and price is the sole consideration for the supply,
the value of supply shall be the transaction value, i.e., the price actually
paid or payable for the said supply of goods or services or both.

Therefore, following
points need analysis, namely:

– Whether the society and member can be
treated as related person or not?

– Is the price sole consideration for the
supply?

To
answer the first question, i.e., whether the society and member are related
person or not, it becomes necessary to refer to understand the scope of
“related person”. Explanation 1 to section 15 provides that

(a) persons
shall be deemed to be “related persons” if —

(i) such persons are officers or directors of
one another’s businesses;

(ii) such
persons are legally recognised partners in business;

(iii) such
persons are employer and employee;

(iv) any
person directly or indirectly owns, controls or holds twenty-five per cent. or
more of the outstanding voting stock or shares of both of them;

(v) one of them directly or indirectly controls
the other;

(vi) both of them are directly or indirectly
controlled by a third person;

(vii) together they directly or indirectly control a
third person; or;

(viii) they are members of the same family;

From the above, it is more
that evident that society and members cannot be classified as related persons
since it is not classifiable under either of the above entries.

Regarding the second point
also, it is more than evident that price is the sole consideration of the
supply. This is because the society does not recover anything over and above
the amounts charged for undertaking the maintenance activity.

That being the case, the
value of supply will have to be determined as per section 15 (1) of the CGST
Act, 2017, i.e., GST shall be attracted on the transaction value.

Charges not to be included
in the taxable value

A co-operative housing
society recovers various charges from its members, such as property tax, water
tax, water charges, NA Tax, electricity charges, contribution to sinking fund
and repairs and maintenance fund, car parking charges, non-occupancy charges,
interest on late payment, etc.

A detailed clarification
on the taxability of the above charges has been issued and the same is
tabulated below for ready reference, along with remarks wherever applicable:

Nature of Receipt	Clarification
Property Tax	Not Taxable
Water Tax*	Not Taxable
Electricity charges**	Not Taxable if collected under Statute
NA Tax	Not Taxable
Maintenance & Society charges	Taxable
Parking Charges	Taxable
Non-Occupancy Charges	Taxable
Sinking / Repair Fund***	Taxable
Share Transfer Fee****	Taxable

Nature of Receipt

Clarification

Property
Tax

Not
Taxable

Water
Tax*

Not
Taxable

Electricity
charges**

Not
Taxable if collected under Statute

NA
Tax

Not
Taxable

Maintenance
& Society charges

Taxable

Parking
Charges

Taxable

Non-Occupancy
Charges

Taxable

Sinking
/ Repair Fund***

Taxable

Share
Transfer Fee****

Taxable

*The clarification
talks about only water tax. However, most of the local authority do not charge
tax but charge a fee based on usage by the member. However, this aspect may
also not have any impact on the taxability since the water charges are levied
basis the consumption per flat and hence, even if the society recovers the said
expense from members, the same will have to be excluded from the value of
taxable service in view of Rule 33 of the CGST Rules, 2017.

** In most of the
cases, electricity charges are not recovered by the municipal / local authority
but by the private players like Reliance Energy, Tata Power, BEST, etc. To the
extent the electricity charges pertain to the members’ flat, the same is
recovered directly by the service provider from the member. The society may
recover only the electricity charges relating to common area, on which the
claim of non-taxability may not be possible.

*** While the
Government clarification states that tax is applicable on such recoveries, it
can be claimed that the contribution to the said funds is not liable to GST for
the following reasons:

1. Both the funds are statutory requirement under
the bye-laws of the society

2. These funds are meant for specific use which
might happen in distinct future

3. This are in the nature of deposits given by
members to safeguard future expenditure. Deposits by themselves are not liable
for GST.

Basis these three
propositions, a view can be taken that collection of sinking fund / repair
funds are not taxable, irrespective of the clarification issued.

****Share transfer fees
is the fees collected from an incoming member for transfer of ownership from
old member to new member. The issue that arises is that the definition of
business u/s. 2 (17) provides that provision of facilities / benefits by a
society to its’ members shall be treated as business. However, at the time when
the share transfer fees are collected from the incoming member, he is not
actually a member of the society. Only upon completion of the share transfer process
does a person become member of the society. Therefore, share transfer fees
recovered from such incoming members cannot be considered as business under
clause (e) of section 2 (17). In view of the earlier discussion, since the
activities of a co-operative housing society are not covered under any of the
other clauses of section 2 (17), collection of share transfer fees may not be
classifiable as being in the course or furtherance of business and hence, a
view can be taken that the share transfer fees are not liable to tax,
irrespective of the clarification issued.

Exemption for Co-operative Housing Societies

Notification 12 / 2017 –
Central Tax (Rate) dated 28.06.2017 provides an exemption for services by an
unincorporated body or a non-profit entity registered under any law for the
time being in force, to its own members by way of reimbursement of charges or
share of contribution up to an amount of Rs. 7500[1] per month per member for sourcing of goods or
services from a third person for the common use of its members in a housing
society or a residential complex.

Important observations
from the above exemption entries are:

– The monetary limit will
not include the amounts recovered which are not taxable in view of the society.

– The exemption will have
to be decided qua the member.

For instance, if a society
has houses of different sizes and the maintenance charges are decided based on
the house size, there can be an instance where maintenance for certain houses
is below the specified limit and for certain houses is above the specified
limits. In such cases, the exemption will be available for smaller houses with
maintenance lower than the specified limit and no exemption will be available
for houses having maintenance higher than the specified limit.

Registration Related Provisions

Section 22 (1) requires
that every supplier, having aggregate turnover exceeding Rs. 20 lakh in
previous financial year shall be required to obtain registration. The term
“aggregate turnover” has been defined u/s. 2 (6) to mean aggregate value of all
taxable supplies, exempt supplies, exports of goods or services to be computed
on all India basis but shall exclude GST thereof.

It may be noted that the
amounts recovered on account of property tax, water tax, etc., will have to be
excluded while computing the aggregate turnover. This is because they are not
treated as being a consideration received for making a supply (exempt or
taxable).

However, maintenance
charges recoveries which are exempted under Notification 12/2017 would have to
be considered while calculating the turnover of Rs. 20 lakh. Further, the
threshold limit will not apply in case a society is already registered. In that
sense, the threshold limit is a mere misnomer in the context of co-operative
housing society.

Conclusion

While the legal principle
of mutuality appears to be reasonably strong in view of consistent decisions of
the High Court, the matter has still not reached finality since the same is
pending in Supreme Court. In the meantime, the Government notifications and
clarifications suggest that GST is applicable to co-operative societies. In
this background, a decision from the Supreme Court is eagerly awaited to settle
the controversy to its fullest.

[1] Earlier the limit was Rs. 5000 per
month upto 25.01.2018

shailesh.kwebmaker

PROVISIONS OF TDS UNDER SECTION 195 – AN UPDATE – PART III

In Part I of the Article we dealt with overview of the
statutory provisions relating to TDS u/s. 195 and other related sections,
various aspects and issues relating to section 195(1), section 94A and section
195A.

In Part II of the Article, we dealt with provisions section
195(2), 195 (3), 195(4), section 197, refund u/s. 195, consequences of non-deduction
or short deduction, section 195A, section 206AA and Rule 37BC.

In this part of the Article we are dealing with various other
aspects and applicable relevant sections and issues.

1. Furnishing of
Information relating to payments to non-residents

1.1 Section 195(6)

Section 195(6) substituted by the
Finance Act, 2015 wef 1-6-2015 reads as follows:

“(6)
The person responsible for paying to a non-resident, not being a company, or to
a foreign company, any sum, whether or not chargeable under the
provisions of this Act, shall furnish the information relating to payment of
such sum, in such form and manner, as may be prescribed.”

In respect of section 195(6) it is
important to keep in mind that the substituted s/s. mandates furnishing
information for all payments to (a) a non-resident, not being a company, or (b)
to a foreign company, irrespective of chargeability of such sum under the
provisions of the Act.

Section
271-I inserted w.e.f 1-6-2015 provides that if a person, who is required to
furnish information u/s. 195(6), fails to furnish such information, or
furnishes inaccurate information, the AO may direct that such person
shall pay, by way of penalty, a sum of Rs. 1 lakh.

It is to be noted that though
section 195(6) was substituted w.e.f 1-6-2015, there was no simultaneous
amendment in rules. Rule 37BB was substituted by Notification No 93/2015 dated
16^th December 2015 effective from 1.4.2016.

1.2 Rule 37BB –
Furnishing of information for payment to a non-resident, not being a company, or
to a foreign company

a) It is worth noting that while section
195(6) provides that information is to be submitted in respect of any sum,
whether or not chargeable under the provisions of Act, Rule 37BB(1)
provides that the person responsible for paying to a non-resident, not being a
company, or to a foreign company, any sum chargeable under the
provisions of the Act, shall furnish the prescribed information. Thus, on a
plain reading it is apparent that the Rule 37BB restricts the scope of
submission of the information as compared with the provisions of section
195(6).

b) Thus,
a question arises as to whether the rules can restrict the scope of the
section. Based on the various judicial precedents it is well settled that the
rules cannot restrict the scope of what is provided in the section.
Accordingly, the information should be furnished for all payments, irrespective
of chargeability under the provisions of Act except in cases given in Rule
37BB(3).

c) Rule
37BB in substance provides for submission of prescribed information in Form
15CA as follows:

i. If payments are chargeable to tax and not exceeding Rs. 5,00,000
in a financial year, information in Part A of Form 15CA.

ii. Payments chargeable to tax other than above:

Part B of Form 15CA
after obtaining 197 certificate from AO or Order u/s. 195(2) or 195(3) from AO

or Part C of Form 15CA
after obtaining Certificate in Form 15CB from an accountant.

iii. Payments not chargeable to tax, information in Part D of Form
15CA.

d) Further,
Rule 37BB(3) provides that no information is required to be furnished for
any sum which is not chargeable under the provisions of the Act, if,-

(i) the
remittance is made by an individual and it does not require prior approval
of Reserve Bank of India as per the provisions of section 5 of the Foreign
Exchange Management Act, 1999 read with Schedule III to the Foreign Exchange
(Current Account Transaction) Rules, 2000; or

(ii) the
remittance is of the nature specified in the specified list of 33 nature of
payments given in the rule.

e) Form
15CA to be furnished electronically by the assessee on e-filing portal, to be
signed by person competent to sign tax return.

Furnishing of information for
payment to non-resident is summarised as follows:

2. Certificate by a CA for remittance

The CA Certificate has to be
obtained in Form 15CB and has to be furnished electronically by the CA as
against earlier practice of issuing physically and signing of the 15CB with
digital signature of the CA is mandatory.

As mentioned above, there is no
requirement to furnish CA certificate in Form 15CB if (a) the payments are not
chargeable to tax and (b) the same are either included in the list of 33
payments specified in Rule 37BB(3) which does not require any information to be
furnished or (c) they are by individuals and are current account
transactions mentioned in Schedule III
of the FEM Current Account Transaction Rules not requiring RBI approval (LRS
transactions).

However, in practice, it is observed
that in some ultra conservative and cautious payers insist upon a CA
certificate in Form 15CB in respect of all remittances.

Revised Remittance Procedures –
Flow Chart

3. Form 15CB –
Analysis re Documents that should be Reviewed and Maintained

Before issuing a Certificate in Form
15CB, it is strongly advisable that an accountant obtains and minutely reads
and analyses, inter alia, the following documents and information before
issuing a Certificate:

a. Agreement
between parties evidencing important terms of the Agreement, nature of payment,
consideration, withholding tax borne by whom, etc.;

b. Taxability
of the concerned remittance under the provisions of the Act as well as
applicable Double Taxation Avoidance Agreement [DTAA] particularly keeping in
mind the various issues relating to the taxability of the nature of payment in
India, controversies, latest judicial pronouncements, reconciliation of
conflicting judicial pronouncements in the context of the remittance, latest
thinking and developments in the area of international taxation etc.

In this connection, inter alia,
provisions of section 206AA, Rule 37BC, latest circulars / notifications, Most
Favoured Nation [MFN] clauses and various protocols of the DTAAs entered in to
by India should also be kept in mind.

It would be advisable to keep a
proper note in the file recording proper reasons for taxability /
non-taxability of the remittance as it is very difficult to recall at a later
date as to why a remittance was considered as taxable or non-taxable and
applicable rate of tax.

c. Obtain
Tax Residency Certificate [TRC] in order to claim Treaty benefits as required
by section 90(4);

d. Opinion
/ advice, if any, obtained from consultants while taking position on
withholding tax implications in respect of the given transaction;

e. Exchange
rate Certificate / letter from the bank in respect of SBI TT buying and selling
rate, as applicable;

f. Invoice(s),
Debit Notes, Credit Notes etc;

g. Ledger
account(s) of the Party and other relevant accounts;

h. Correspondence
on which reliance is placed including emails;

i. Declarations
regarding (a) No Permanent Establishment [PE] in India (including print out of
website details of payee, if relevant and required to ascertain PE in India
etc.); (b) Associated Enterprise relationship between the payer and payee
including under the DTAA; (c) beneficial owner of
royalty/FTS/interest/dividends; (d) Fulfilment of the conditions of Limitation
of Benefits [LoB] Clause, if present, in the DTAA.

j. In
cases of certificates for reimbursement of expenses to the non-residents,
obtaining supporting vouchers, invoices and other documents and information, is
a must.

k. It
is imperative that proper record/copies of the documents / information received
and reviewed should be kept so that the same would be very handy and helpful in
responding / substantiating to the letters / communications / notices / show
cause notices, which may be received from the revenue authorities at a later
date alleging non-deduction of tax or short deduction of tax.

4. Issues relating to
the Certificate by a CA for Remittance

4.1 Whether CA
Certificate is an alternate to section 195(2)?

In the context of this important
issue, in the case of Mahindra & Mahindra Ltd vs. ADIT [2007] 106 ITD
521 (Mum ITAT), the ITAT held as follows:

CA Certificate is not in substitution
of the scheme u/s. 195(2) but merely to supplement the same.

CA Certificate has no role to play for
determination of TDS liability.

It is merely to support assessee’s
contention while making remittance to a non-resident.

Payer at his own risk can approach a CA and
make remittance to a non-resident on the basis of CA’s Certificate.

4.2 Appeal to a
CIT(A) u/s. 248

In
the Mahindra & Mahindra’s case (supra), on the facts, it was held
that no appeal to a CIT(A) u/s. 248 is maintainable, against the CA
Certificate. In this case, in which the assessee filed an appeal directly
against the Chartered Accountant Certificate and had not taken the matter for
the consideration by the Assessing Officer (TDS) at all, the CIT(Appeals)
clearly erred in entertaining the appeal.

However, in this connection, in the
case of Kotak Mahindra Bank Ltd. vs ITO (IT) ITA No. 345/Mum/2008 ITAT
Mumbai vide its Order dated 30^th June 2010 (unreported)
where the assessee had deducted the TDS and paid and later on filed the appeal
before CIT(A) denying its liability to TDS, which was rejected by the CIT(A) on
the ground that no order u/s. 195 was passed by the AO, held that the assessee acted
u/s. 195(1) which does not contemplate any order being passed and therefore the
appeal to CIT(A) u/s. 248 was maintainable.

In the case of Jet Air (P.)
Ltd. vs. CIT (A) [2011] 12 taxmann.com 385 (Mumbai) the matter was
remanded back to CIT(A) as the question whether section 248, as amended with
effect from 1-6-2007, was applicable or not, had not been adjudicated by
Commissioner (Appeals) and facts had not been verified.

4.3 Penalty in case
of non-deduction and short deduction based on CA Certificate

In the case of CIT vs. Filtrex
Technologies (P.) Ltd. [2015] 59 taxmann.com 371 (Kar), the Karnataka
High Court held that in this case the Chartered Accountant has given a
certificate to the effect that the assessee is not required to deduct tax at
source while making the payment to Filtrex Holding Pte. Ltd., Singapore. Thus,
the assessee acted on the basis of the certificate issued by the expert and
hence the CIT (Appeals) and the ITAT have rightly concluded that this is not a
fit case to conclude that the assessee has deliberately concealed the income or
furnished inaccurate particulars of the income. The assessee has filed Form 3CD
along with the return of income in which the Chartered Accountant has not
reported any violation by the assessee under Chapter XVII B which would attract
disallowance u/s. 40(a)(ia) of the Act.

4.4 Non deduction
based on CA certificate – section 237B and section 276C

A question arises as to
non-deduction or short deduction based on a CA Certificate would constitute
reasonable cause u/s. 273B for non-levy of penalty u/s. 271C.

In
the case of ADIT vs. Leighton Welspun Contractors (P.) Ltd 65 taxmann.com
68 (Mum), the ITAT held as that “The decision with regard to the
obligation of the assessee for deduction of TDS on the aforesaid payments was
highly debatable, in the given facts of the case and legal scenario and the
view adopted by the assessee based upon the certificate of the CA, was one of
the possible views and can be said to be based upon bona fide belief of the
assessee. Therefore, under these circumstances, it can be held there was
reasonable cause as envisaged under section 273B for not deducting tax at
source by the assessee on the aforesaid payments, and therefore, the assessee
was not liable for levy of penalty under section 271C.”

Similarly, in the case of Aishwarya
Rai Bachchan vs. ADCIT 158 ITD 987 (Mum) the ITAT held as follows:

“On a perusal of the relevant
facts on record, it is observed, the payment of U.S. $ 77,500 was made to a
non–resident for development of website and other allied works. Therefore,
question is whether such payment attracts deduction of tax under section 195.
As is evident, assessee’s C.A., had issued a certificate opining that tax is
not required to be deducted at source on the remittances to Ms. Simone
Sheffield, as the payment is made to a non–resident having no P.E. in India
that too, for services rendered outside India. It is a well accepted fact
that every citizen of the country is neither fully aware of nor is expected to
know the technicalities of the Income Tax Act. Therefore, for discharging their
statutory duties and obligations, they take assistance and advise of
professionals who are well acquainted with the statutory provisions. In the
present case also, assessee has engaged a chartered accountant to guide her in
complying to statutory requirements. Therefore, when the C.A. issued a
certificate opining that there is no requirement for deduction of tax at
source, assessee under a bona fide belief that withholding of tax is not
required did not deduct tax at source on the remittances made. …

While imposing penalty, the
authority concerned is duty bound to examine assessee’s explanation to find out
whether there was reasonable cause for failure to deduct tax at source. As
is evident, the assessee being advised by a professional well acquainted with
provisions of the Act had not deducted tax at source. Therefore, no mala fide
intention can be imputed to the assessee for failure to deduct tax. More so,
when the issue whether tax was required to be deducted at source, on payments
to a non–resident for services rendered is a complex and debatable issue requiring
interpretation of statutory provisions vis-a-vis relevant DTAA between the
countries. Therefore, in our considered opinion, failure on the part of the
assessee to deduct tax at source was due to a reasonable cause. The
decisions relied upon by the learned Authorised Representative also support
this view. Accordingly, we delete the penalty imposed under section 271C.”

4.5 When should one
approach the AO for Certificate u/s.195(2) or (3) / 197

Many a time, when the facts of a
case where certificate is required in Form 15CB, are very complex and there is
divergence of judicial decisions, lack of clarity about the taxability /
non-taxability under the provisions of the Act as well as DTAAs and the stakes
are very high, it would be advisable for the assessees to approach the tax
office for a certificate for no deduction and or lower deduction u/s. 195(2) /
(3) or section 197. After obtaining the certificate from the AO, the
certificate of CA in Form 15CB should be obtained.

In view of severe consequences of
disallowance u/s. 40(a)(ia), levy of interest and penalties under various
provisions of the Act for the assessee and to avoid multiplicity of proceedings
under the Act, it is imperative that a very cautious and judicious approach is
taken while issuing certificate in Form 15CB.

4.6 Validity period
of TRC / undertaking / declaration from the payee – for a quarter, a year or
for each single payment?

A question often arises while
issuing certificate in Form 15CB, is about the validity period of each TRC.
Revenue officials of various countries have different formats for issue of
TRCs. Some of them state the Tax Residency position as on particular date and
some of them state the same for a particular period. Obtaining TRC in the
respective countries is also time consuming and costly affair.

In such circumstances, should a CA
insist upon a fresh TRC each time a certificate u/s. 15CB is to be issued where
the TRC is silent about the validity period of TRC. Alternatively, for what
period the TRC should be reasonably be considered to be valid.

Similarly, whether a new no PE
declaration / undertaking, LoB certificate, beneficial ownership declaration
etc. should be insisted upon at the time of each remittance or can the same be
considered valid for a certain reasonable period, is not clear. Should the
reasonable period be a month or a quarter or half year or year, is not clear.

There is need for clarity from the
CBDT in this regard.

4.7 Responsibility of
CA

a. Whether
a Certificate under 15CB be issued in absence of a valid TRC, particularly in
cases where TDS has been deducted under the provisions of the DTAA.

As per the provisions of section
90(4), TRC is a pre-requisite for obtaining benefit under any treaty. However,
attention is invited to the decision of the ITAT Ahmedabad in the case of Skaps
Industries India (P.) Ltd. vs. ITO [2018] 94 taxmann.com 448 (Ahmedabad –
Trib.), which has been dealt with in Part 2 of our article.

b. Similarly,
whether it is necessary for a CA to insist upon the payment of TDS and verify
the TDS Challan before issuing the Form 15CB.

Form 15CB does not cast a duty on a
CA to verify or mention the details of TDS Challan. It only requires a CA to
mention the amount of TDS. However, out of abundant caution, it would be
advisable for the CA to obtain the receipted challan from the remitter.

4.8 Manner of
certification where issue debatable

Presently, there is not enough space
or provision in the 15CA / 15CB utility to elaborately explain the debateable
issues and the stand taken by the assessee / CA for TDS. Therefore, it would be
imperative for the assessee / CA to keep proper details / reasons for any stand
taken so that the same could be substantiated at a later date in case the
revenue authorities commence any proceedings for non/short deduction of TDS.

4.9 Section 271 J –
Penalty for furnishing incorrect information in reports or certificate – Rs.
10,000 for each report or certificate

Section 271-J provides that “Without
prejudice to the provisions of this Act, where the Assessing Officer or the
Commissioner (Appeals), in the course of any proceedings under this Act, finds
that an accountant or a merchant banker or a registered valuer has furnished
incorrect information in any report or certificate furnished under any
provision of this Act or the rules made thereunder, the Assessing Officer or
the Commissioner (Appeals) may direct that such accountant or merchant
banker or registered valuer, as the case may be, shall pay, by way of penalty, a
sum of ten thousand rupees for each such report or certificate.”

It is important to note that both
the AO as well as the CIT(A) has power to levy penalty u/s. 271 J.

5. Section 195(7)

“(7) Notwithstanding anything
contained in sub-section (1) and sub-section (2), the Board may, by
notification in the Official Gazette, specify a class of persons or cases,
where the person responsible for paying to a non-resident, not being a company,
or to a foreign company, any sum, whether or not chargeable under the
provisions of this Act, shall make an application to the Assessing Officer
to determine, by general or special order, the appropriate proportion of
sum chargeable, and upon such determination, tax shall be deducted under
sub-section (1) on that proportion of the sum which is so chargeable.”

Section 195(7) contains enabling
powers where under the CBDT may specify class of persons or cases where person
responsible for making payment to NR/Foreign company of any sum chargeable to
tax shall make application to AO to determine appropriate portion of sum
chargeable to tax. Thus, in prescribed cases Compulsory Application to AO would
have to be made and the AO may determine by general or special order the TDS to
be deducted on appropriate portion of sum chargeable.

Presently, no
notification has been issued u/s. 195(7).

CA
Certification and Remittance – Process to be followed

6. Certain Cross Border Payments – TDS Issues

A large number of issues arises in
the context of payment of Fees for Technical Services [FTS], Royalties and
reimbursement of expenses the non-residents. There has been huge amount of
litigation in these areas.

It is not possible to cover various
legal issues arising in respect of the taxability of these payments in this
article.

It is strongly advisable that both
the assessees and the CAs issuing the Certificate in 15CB are aware of the
issues / developments in all the areas, to avoid severe consequences of
non-deduction or short deduction of TDS.

It is therefore advisable for a
remitter to obtain such a certificate from a CA who is well versed with the
subject and in case of any doubts about the taxability of a particular
remittance, to seek appropriate professional guidance.

7. Key Takeaways in a
nutshell

a. Payments
to non-residents should be thoroughly examined from a withholding tax
perspective – under the beneficial provisions of the Act or DTAA.

b. Payments
can be remitted under alternative mechanism (CA certificate route) if assessee
is fairly certain about TDS obligation.

c. In case of a doubt or a substantial amount, it
is advisable to obtain tax withholding order section 195(2) / 197.

d. Mitigate
against severe consequences of non-compliance with exacting requirements of
section 195.

e. Ignorance
of relevant sections, rules and judicial developments may lead to avoidable
huge cost and consequences of long drawn litigation.

f. Alternative
remedy of application before AO is conservative, but time consuming.

g. Enhanced
onerous provisions for issue of CA certificate.

h. Cumbersome
compliance provisions for the non-resident taxpayers.

i. Very
important to stay updated or take help of competent professionals for a
comprehensive evaluation of taxability of a particular remittance.

j. One
should have patience and trust in Indian tax judiciary and proper, balance and
judicious interpretation would enable success in these matters.

In view of reputational risks and
other professional consequences, more so in recent times, it would be advisable
for a professional who is not well versed with the intricacies of the entire
gamut of international taxation, to refrain from issuing the remittance
certificate without appropriate professional guidance.

8. Conclusion

In these three parts of the Article
relating to ‘Provisions of TDS under section 195 – An Update’ we have covered
the developments in regard. TDS u/s. 195 is a very complex and an evergreen
subject with a large number of controversies and issues. There is no substitute
for remaining updated on the subject on a day to day basis, for proper
compliance and avoiding harsh consequences of non-compliance.

shailesh.kwebmaker

MARKETING INTANGIBLES – EVOLVING LANDSCAPE

“Marketing
intangibles”, in the form of advertisement, marketing and sales promotion (AMP)
expenses is one of the key areas of dispute between the Indian tax authorities
and taxpayers. Increasingly, complicated business structures and policies being
adopted by Multinational Entities (‘MNEs’) in order to efficiently manage their
global businesses has contributed in fair measure to this trend.

In emerging markets
such as India, the issue assumes particular relevance as many MNEs have set up
their sales and distribution entities to reap benefits of huge consumer base. A
number of difficulties arise while dealing with marketing intangibles i.e.
conflicting rulings from courts, evolving and disruptive business models and
retrospective amendment made in the Indian transfer pricing regulations to
incorporate exhaustive definition of intangibles.

The main dispute
has been in the area of excessive expenditure incurred on advertising,
marketing and sales promotion activities and whether such expenses are of
routine or non-routine nature. If the expenses are non-routine nature, the
Indian entity should be adequately compensated with arm’s length remuneration
so that there is no creation of marketing intangibles.

Over the past few
years, there have been two landmark Delhi High Court rulings on the AMP issue
namely Sony Ericsson Mobile Communications India Private Limited[1]and
Maruti Suzuki India Limited[2]. In the
case of Sony Ericsson, the Delhi High Court held that since taxpayer
distributors had argued that the rewards around their excessive AMP expenses
were subsumed within the profit margins of distribution, the taxpayers could
not at the same time contend that AMP expenses were not “international
transactions”. Having held the same the High Court further added if a taxpayer
distributor performs additional functions on account of AMP, as compared to
comparable companies then such additional rewards may be granted through
pricing of products or distribution margin; and if so received, the Revenue
Officer cannot demand a separate remuneration.

In the case of Maruti
Suzuki, the Delhi High Court, while dealing with a taxpayer, being optically of
the character of an entrepreneurial licensed manufacturer, dismissed the
attempt on the part of the Revenue Officer to impute TP adjustment for the
excess AMP spend of Maruti Suzuki India, as a percentage of its turnover, over
the average of those of its comparable companies selected under an overall
transactional net margin method (TNMM) approach.

The main reasoning of
the High Court, while it concurred with the arguments of the taxpayer in
deciding the case in its favour, was that the AMP spend on a stand-alone basis,
could not be treated to as an “international transaction” under the provisions
of the Indian TP regulations, in the context of licensed manufacturers of the
type of Maruti Suzuki India, and thus the TP adjustment with respect to any
part thereof, in the manner proposed by the Revenue Officer, namely
reimbursement of the “so called” excess amount of the AMP spend, by the foreign
licensor of brand, was clearly not sustainable.

The AMP issue is far
from being resolved and Special Leave Petitions (SLPs) have been lodged with
the Supreme Court of India on the issue of AMP – both, by the tax payers as
well as by the Revenue. The Supreme Court, apart from dealing with primary
question of AMP being an international transaction or not, would also be
required to delve into issues such as whether higher profits at entity level
can be said to subsume the return for marketing intangible creating functions,
whether setoff of a higher price/profit in one transaction with lower
price/profit in another is permissible, whether application of the bright line
test is justified etc.

More recently, the
Mumbai ITAT in the recent decision in case of Nivea India Pvt Ltd[3]
has dealt with some of the key issues dealing with marketing intangibles
controversy.

Whether AMP expenditure qualifies as International Transaction

This has been a
primary bone of contention between tax payers and tax authorities.Tax payers
strongly contend that unless there is express provision in the law, the tax
authorities are not justified in inferring creation of marketing intangible for
the brand owner merely by virtue of excessive AMP expenditure incurred by the
tax payer.

Tax authorities’ stand
has been that mere fact the service or benefit has been provided by one party
to the other would by itself constitute a transaction irrespective of whether
the consideration for the same has been paid or remains payable or there is a
mutual agreement to not charge any compensation for the service or benefit
(i.e. gaining popularity or visibility of brand in the local market).

The Tribunal in line
with several past rulings negated tax authorities’ stand stating that
“Even if the word ‘transaction’ is given its widest connotation, and need
not involve any transfer of money or a written agreement or even if one resorts
to section 92F (v) of the Act, which defines ‘transaction’ to include
‘arrangement’, ‘understanding’ or ‘action in concert’, ‘whether formal or in
writing’, it is still incumbent on the tax authorities to show the existence of
an ‘understanding’ or an ‘arrangement’ or ‘action in concert’ between tax payer
and its Parent entity as regards AMP spend for brand promotion.” In other
words, unless it is demonstrated that the tax payer was obliged or mandated to
incur certain level of AMP expenditure for the purposes of promoting the brand,
the AMP expenditure incurred by the tax payer would not qualify as
international transaction.

Application of bright line test

Generally, the tax
authorities segregate the AMP expenditure incurred by the tax payer into
routine nature and non-routine nature by applying bright line test,
wherein they compare the AMP expenditure incurred by the tax payer vis-a-vis
comparables and deduce excessive / non routine of portion of AMP expenditure.

The Tribunal held that
bright line test cannot and should not be applied for making transfer pricing
adjustments, as same is not one of the recognised methods.

Incidental benefit

As the foreign brand
owner stands to benefit from AMP expenditure incurred in India, the tax
authorities insist on compensation for the Indian entity.

The Tribunal held that
with no specific guidelines on the AMP issue, merely because there is an
incidental benefit to the brand owner, it cannot be said that the AMP expenses
incurred by the tax payer was for promoting the brand. Any incidental benefit accrued to the brand
owner would not alter the character of the expenditure incurred wholly and
exclusively for the purpose of tax payer’s business. For e.g., the Indian
taxpayer incurs AMP expenses in the local market to create awareness about the
brand due to which his business is benefitted by virtue of increased sales and
at the same time overseas brand owner gets incidental benefit i.e. brand
becomes popular in the new geography, due to which intrinsic value of brand
gets enhanced.

Product promotion vs Brand Promotion

The Tribunal stated
there is a subtle but definite difference between the product promotion and
brand promotion. In the first case product is the focus of the advertisement
campaign and the brand takes secondary or backseat, whereas in second case,
brand is highlighted and not the product.

The distinction is
required to be drawn between expenditure incurred to perform distribution
function and a ‘transaction’ and that every expenditure forming part of the
function, cannot be construed as a ‘transaction’.The tax authorities’ attempt
to re-characterise the AMP expenditure as a transaction by itself when it has
neither been identified as such by the tax payer or legislatively recognised,
runs counter to legal position which requires tax authorities “to examine
the ‘international transaction’ as they actually exist.”

Letter of Understanding (LOU)

In certain instances,
it was observed that the Indian taxpayers entered into license agreement with
brand owner wherein certain conditions were stipulated by the brand owner to
maintain and enhance the brand in the local market.

Tax authorities
alleged that such conditions clearly showed the existence of agreement or
arrangement between AE and the taxpayer. The Tribunal held that financial responsibilities
on the tax payer did not prove understanding of sharing of AMP expenses.
Further, to compete with established brands in the local market the tax payer
may have to incur huge AMP expenses in local market. Thus, such arrangements
could not be viewed as being accretive to the brands owned by a foreign parent.

Conclusion

The ruling in case of
Nivea reiterates and lays down important guiding principles in connection with
marketing intangibles. It is only obvious that the facts of each case will differ
and the outcome therefor will differ. Even though all above rulings, provided
some guidance on the vexed issue of marketing intangible but they were not able
to fully address all concerns of both – the taxpayers and tax authorities and
they are now knocking at the doors of the Supreme Court to resolve the issue.

It is also pertinent
to note that in the recently released version of the United Nations Practical
Manual on Transfer Pricing for Developing Countries, the references to ‘bright
line test’ is removed from the India country practice chapter. This deletion
supports the principles emerging from various High Court & ITAT decisions
on marketing intangibles.

It seems that the AMP
matter itself being dependent on various business models adopted by the
taxpayers, the Supreme Court rulings on marketing intangible may be highly
fact-specific, which both taxpayers and tax authorities will not be able to
uniformly follow in other cases. Hence, prolonged litigation seems inevitable.

Each taxpayer would,
therefore, need to find its own resolution to the marketing intangible
controversy. Besides pursuing normal litigation route, alternate modes for
seeking resolutions could be explored such as Advanced Pricing Agreements (for
future years) and Mutual Agreement Process (for years with existing dispute).

[1] Sony Ericsson Mobile Communications
India Private Limited vs. CIT [TS-96-HC-2015(DEL)-TP]

[2] Maruti Suzuki Limited vs. CIT
[TS-595-HC-2015(DEL)-TP]

[3] Nivea India Private Ltd. vs. ACIT
[TS-187-ITAT-2018(Mum)-TP]

shailesh.kwebmaker

26. [2018] 96 taxmann.com 17 (Delhi – Trib) Ciena India (P) Ltd vs. ITO ITA Nos: 959 & 984 (Delhi) of 2011 A.Ys.: 2007-08 and 2008-09 Date of Order: 29th June, 2018 Articles 5, 12 of India-Netherlands DTAA; Section 9 of the Act – in absence of PE of the non-resident in India, purchaser of shrink-wrapped off-the-shelf software was not liable to withhold tax from payment.

Facts

The Taxpayer was an Indian Company.
It was a wholly owned subsidiary of an American Company (“USCo”). It was set up
as a 100% EOU under STPI Scheme of Government of India. The Taxpayer was
providing software development support to USCo. During the relevant years, the
Taxpayer made payments to a Netherlands based company for supply of computer
hardware, software and related support services for installation and
maintenance. It did not withhold any tax while remitting the said payments. The
software supplied was shrink-wrapped software, which was sold off-the-shelf in
retail.

The AO held that payments made for
software were in the nature of royalty and payments made for services were in
the nature of FTS. Hence, the Taxpayer was liable to withhold tax on both kinds
of payments.

Held

Sale of hardware together
with embedded software was not taxable in absence of PE of the non-resident in
India.

Installation and other
services did not make available any technical knowledge or technical knowhow.
This was a pre-requisite for bringing such services within the ambit of Article
12(5)(b) of India-USA DTAA.

Hence, payments in
respect of them could not be considered as FTS. Therefore, the order of the AO
was to be set aside.

shailesh.kwebmaker

25. [2018] 95 taxmann.com 280 (Hyderabad – Trib) Customer Lab Solutions (P) Ltd vs. ITO ITA No: 438 (Hyd.) of 2017 A.Y.: 2006-07 Date of Order: 4th July, 2018 Article 12 of India-USA DTAA; Section 9 of the Act – as there was no transfer of technical know-how or use of technical knowledge, affiliation fee paid by an Indian Company to an American Company was not royalty, either under the Act or under India-USA DTAA.

Facts

The Taxpayer was an Indian Company.
During the relevant year, the Taxpayer entered into an agreement with an
American Company (“USCo”) in connection with its consultancy business. The
Taxpayer paid fee under the agreement and claimed deduction of the same as
license fee. According to the Taxpayer, the payment was affiliation fee and had
no connection to use of any right for use of any material or service supplied
by US Co. Since no income accrued to USCo in India, no tax was required to be
withheld in India.

The AO held that the fee was
royalty u/s. 9(1)(vi)(b) of the Act and disallowed the payment u/s. 40(a)(i)
since the Taxpayer had not withheld tax.

The CIT(A) held that the payment
was royalty under the Act as well as India-USA DTAA.

Held

The agreement provided
for two kinds of fee. One was an annual affiliation fee. The affiliation fee
did not provide for any transfer of technology. The other was “fees on
consulting and reports”. It provided for payment to be made based on
performance and achievement of targets.

The claim of the Taxpayer
was only in respect of the affiliation fee and not consulting fee. In
consideration of the payment towards affiliation fee, the taxpayer received
only a periodical magazine having various articles. This could not be
considered right to use copyright.

Accordingly, as there was
no transfer of technical know-how or use of technical knowledge, the
affiliation fee could not be considered as royalty, either under the Act or
under India-USA DTAA. This view is also supported by the decision in Hughes
Escort Communications Ltd vs. DCIT [2012] 51 SOT 356 (Delhi).

Since USCo did not have
any PE in India, Tax was not required to be withheld in India.

shailesh.kwebmaker

24. [2018] 95 taxmann.com 165 (Mumbai – Trib) Morgan Stanley Asia (Singapore) Pte Ltd vs. DDIT ITA Nos: 8595 (Mum) of 2010 and 4365 ( Mum) of 2012 A.Ys.: 2006-07 and 2007-08 Date of Order: 6th July, 2018 Article 13 of India-Singapore DTAA; Section 9, 195 of the Act – Amount received by a Singapore company from its AE in India towards reimbursement of salary of its deputed employee could not be considered as FTS since there was no income element.

Facts

The Taxpayer was a company
incorporated in, and tax resident of, Singapore. The Taxpayer had deputed one
of its directors/employees to India to set up and develop the business of its
associated entity (“AE”) in India (“ICo”) under a contract executed between
them. ICo was engaged in providing support services to group companies outside
India. The Taxpayer continued paying salary of its deputed employee, which was
reimbursed by ICo.

Before the AO, the Taxpayer
contended that the payment received by it was reimbursement without any income
element. However, the AO contended that the deputed employee was highly
qualified and having vast technical experience and expertise. The AO noted that
while salary is generally paid on a monthly basis, ICo had made single remittance
of consolidated amount. Further, there was no evidence to suggest that
provision of managerial and consultancy services to an AE was not the business
of the taxpayer. Therefore, the AO treated the reimbursement received by the
Taxpayer as FTS and charged further markup of 23.3% by determining ALP on the
basis of the order of the TPO.

The CIT(A) confirmed the order of
the AO.

Held

The contract between the
Taxpayer and ICo clearly provided that the Taxpayer will pay salary on behalf
of ICo and the same would be recharged by ICo. The tax authority had not
disputed that the payment was reimbursement of salary without any income
element.

Since the amount was
reimbursement of cost, it cannot be brought within definition of FTS in
explanation 2 to section 9(1)(vii) of the Act.

Hence, the reimbursed amount was to be regarded as salary in the
hands of the deputed employee. Relying on the decisions in United Hotels Ltd
vs. ITO [2005] 2 SOT 0267 (Delhi) and in ADIT vs. Mark and Spencer Reliance
India Pvt Ltd (2013) 38 taxmann.com 190 (Mum-Trib), the payment was
reimbursement of salary and not FTS under India-Singapore DTAA and the Act.
Accordingly, it could not be taxed in the hands of the Taxpayer.

shailesh.kwebmaker

23. [2018] 96 taxmann.com 80 (Delhi – Trib.) Cobra Instalaciones Y Servicios SA vs. DCIT ITA NO.: 2391 (Delhi) of 2018 A.Y.: 2014-15 Date of Order: 28th June, 2018 Article 7 of India-Spain DTAA; Sections 9, 37(1) of the Act – Exchange fluctuation loss in respect of advance received by a PE from its HO was allowable as a deduction from income since the advance was received towards working capital for execution of project in India.

Facts

The Taxpayer was a Spanish company
engaged in the business of providing consultancy services for Projects,
Engineering and Electrical Contractors and Suppliers. In respect of the
projects being executed in India, the Taxpayer had established a project office
(also a PE) in India.

During the relevant year, the
Taxpayer had earned income from supply of goods and services from project being
executed by it. For executing the project in India, PE was utilising the
advance received from the customer or the advance received from the HO (i.e.,
the Taxpayer). In accordance with RBI guidelines, PE was receiving the advance
from the HO in Euro and was also repaying the same in Euro. During the relevant
year the PE claimed deduction under the head ‘Exchange Fluctuation Loss’ in
respect of the advances received and repayable in foreign exchange.

According to the AO, funds received
by the PE from the HO were actually capital contribution and not debt incurred
in the course of business. The AO noted that Article 7 of India-Spain DTAA
specifically prohibits any deduction of expenses relating to HO except
imbursement towards actual expenditure. Accordingly, the AO disallowed the
exchange fluctuation loss claimed by the PE.

The CIT(A) upheld the order of AO.

Held

The loan received by the
PE was towards working capital for project execution. Hence, it did not bring
any capital asset into existence. Also, the PE had shown the amount as a
liability in its balance sheet.

Nothing was brought on
record to show that the PE had contravened any provision of FEMA. The tax
authority has not disputed that depreciation of rupee has resulted in exchange
fluctuation loss in respect of the outstanding amount of advance received by
the PE.

Since the advance was
received towards project execution, it was on revenue account and consequently,
the loss too was revenue loss. Also, the project office being a PE, it could
not borrow from banks in India for project execution. Further, the expenditure
was not a notional expenditure. It was to be noted that in subsequent year the
PE had earned exchange fluctuation gain and had accounted it as income. If, in
the opinion of the AO, exchange fluctuation loss is not deductible, exchange
fluctuation gain should not be taxed as income since the tax proceedings must
follow the rule of consistency.

Accordingly, the PE was
entitled to claim deduction of exchange fluctuation loss from its income.

shailesh.kwebmaker

13. ITO vs. Dilip Kumar Shaw (Kolkata)(SMC) Member : P. M. Jagtap (AM) ITA No.: 1517/Kol/2016 A.Y.: 2006-07. Dated: 4th June, 2018. Counsel for revenue / assessee: Nicholas Murmu/ Tapas Mondal Section 154 – The difference between contract receipts as stated in Form 16A and as assessed while assessing total income u/s. 143(3) of the Act, cannot be brought to tax by passing an order u/s. 154 of the Act.

FACTS

For assessment year 2006-07, the
assessee, an individual, filed his return of income declaring therein a total income
of Rs. 8,85,386. The Assessing Officer
(AO) vide order dated 18.7.2008 passed u/s. 143(3) of the Act, assessed the
total income to be Rs. 9,25,390.
Thereafter, it was noticed by the AO that the contractual receipts
credited in the Profit & Loss Account of the assessee were to the tune of
Rs.2,91,42,128/- whereas the contract receipts of the assessee as per TDS Form
16A were Rs.2,99,89,617/-. He, therefore, held that there was a mistake in the
assessment order passed u/s. 143(3) in taking the contract receipts short by
Rs.8,47,489/- and the same was rectified by him vide an order dated 08.12.2012
passed u/s. 154, wherein an addition of Rs.8,47,489/- was made by him to the
total income of the assessee.

Aggrieved, the assessee preferred
an appeal to the CIT(A) who after considering the submission made by the
assessee as well as the material available on record set aside the order passed
by the Assessing Officer u/s. 154 by holding the same as not maintainable.

Aggrieved, the revenue preferred an
appeal to the Tribunal where on behalf of the assessee it was stated that the
said difference was due to the mistake committed by the concerned party in
deducting tax at source from the contract receipts of the earlier years, which
was corrected by them by deducting more tax from the contract receipts of the
year under consideration.

HELD

The Tribunal agreed with the
observations of the CIT(A) that there could be many reasons for the difference
noted by the AO in the contract receipts credited in the Profit & Loss
Account of the assessee and the contract receipts as shown in the relevant TDS
certificates. It observed that the difference in the contract receipts as
noticed by the AO, thus, required more investigation and enquiry to find out as
to whether there was any escapement of income of the assessee and as rightly
held by the CIT(A) it was not a case of obvious and patent mistake, which could
be rectified u/s. 154. This issue involved a debatable point which required
further enquiry and investigation and the same, therefore, was beyond the scope
of rectification permissible u/s. 154 as rightly held by the ld. CIT(A). The
Tribunal set aside the order passed by the AO u/s. 154 by treating the same as
not maintainable.

The appeal filed by the revenue was
dismissed.

shailesh.kwebmaker

12. Jessie Juliet Pereira vs. ITO (Mumbai) Members : R. C. Sharma (AM) and Amarjit Singh (JM) ITA No.: 6914/M/2017 A.Y.: 2009-10. Dated: 4th June, 2018 Counsel for assessee / revenue: Subhash Chhajed & S. Balasubramanian / Ms. N. Hemalatha Section 54 – Claim for exemption u/s. 54 needs to be considered in a case where assessee has surrendered his flat in exchange for corpus fund/hardship allowance and a new flat in a scheme of redevelopment.

FACTS

In the course of assessment
proceedings of MIG Group III Co-operative Housing Society Ltd. (society), it is
noticed that the society has entered into a development agreement with Suyog
Happy Homes (developer) on 30.4.2008 and the members of the society have
received payments from the said developer.
The details revealed that the assessee has received Rs. 40,75,302 and
had not filed return of income for assessment year 2009-2010. Accordingly, reasons were recorded and a
notice u/s. 148 of the Act was issued and served upon the assessee. In response to the notice, the assessee filed
return of income declaring total income of Rs. 1,94,290.

The society, of which the assessee
was a member, was the owner of property consisting of 9 buildings with 80
members. The society, on 30.4.2008, entered into an agreement with the
developer for development of the property in such a manner that each member of
the society shall receive a new flat in exchange of surrender of old flat
depending upon the size of the old flat along with interest in the additional
FSI allotted by MHADA. The property and the additional FSI would be with the
name of the society. All the expenses, costs and charges for the proposed
project of redevelopment of the said property including for purchase of
additional FSI from MHADA etc., were to be borne by the Developers alone and
the society and members were not liable to pay or contribute any amount towards
the same.

As per the agreement, the developer
was to pay the society being lawful owner of the property and the members an
aggregate monetary consideration of Rs.39.10 crore which was to be distributed
among the members of the society being shareholders depending upon the size of
their old flat.

During the year under
consideration, the assessee, as a shareholder of the society, received an
amount of Rs.40,75,302/- being consideration for surrender of his old flat
along with his interest in the additional FSI allotted by MHADA etc. The
developer issued the cheques in the name of the individual members which were
handed over to the society and in turn, the society diverted the same at source
to the members/shareholders. Thus, the said amount of Rs.39.10 crore never
routed through the books of accounts of the society though these cheques were
in the custody of the society before handing over to the individual members
being shareholder.

The said activity was treated as
commercial activity and the receipt of the amount of Rs.40,75,302/- was
considered as revenue receipt by AO and accordingly taxed as Income from Other
Sources.

Aggrieved by the order, the
assessee filed an appeal before the CIT(A) contending that the amount of corpus
money/hardship allowance is a capital receipt not chargeable to tax. The CIT(A) treated the said receipt as long
term capital gain.

Aggrieved, the assessee preferred
an appeal to the Tribunal on the ground that the amount of corpus
money/hardship allowance received by the assessee is a capital receipt not
chargeable to tax and without prejudice contending that the CIT(A) ought to
have appreciated that the Appellant has purchased a new house at Dahisar for
Rs.21,68,180/- out of the capital gains of Rs.31,68,313/- and hence the
proportionate deduction u/s. 54 ought to have been granted by the CIT (A).

HELD

At the time of argument, the
assessee did not contest that the amount of corpus money/hardship allowance
constitutes capital receipt not chargeable to tax but only argued that the
CIT(A) has treated the receipt of Rs.40,75,302/- as capital gain and the
assessee has also acquired new flat, therefore, the benefit u/s. 54 of the Act
is required to be given. The Tribunal observed that the Assessing Officer
treated the receipt as income from other sources whereas the CIT(A) has treated
the said receipt as long term capital gain. It is not in dispute that the
assessee has also acquired a new flat in lieu of his old flat. The receipt to
the tune of Rs.40,75,302/- has been treated as long term capital gain.
Undoubtedly, the claim u/s. 54 of the Act was not raised earlier before the
revenue. Anyhow, since the receipt to the tune of Rs.40,75,302/- has been
treated as long term capital gain, therefore, in the said circumstances, the
claim u/s. 54 of the Act is also liable to be considered in accordance with
law.

The Tribunal remanded the alternate
ground raised (viz. claim for deduction u/s. 54) before the AO for consideration
in view of the provision u/s. 54 of the Act in accordance with law after giving
an opportunity of being heard to the assessee. This ground of appeal was
allowed.

The appeal filed by the assessee
was allowed.

Contributor’s Note: The grounds of appeal state that the claim
u/s.54 ought to have been allowed in respect of flat purchased by the assessee
in Dahisar but the operative portion of the ITAT order refers to assessee
having acquired a new flat in lieu of old flat.

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