September Archives

Income or capital- A. Y. 2009-10- Income from sale of carbon credits- Carbon credits not a by-product of business but an offshoot of environmental concerns- Is capital receipt and not income-

CIT vs. Subhash Kabini Power Corporation Ltd.; 385 ITR 592 (Karn):

Tribunal held that the receipts on sale of carbon credits is capital receipt and not chargeable to tax.

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

“(i) In order to find out whether the particular amount received is a capital receipt or income out of business, there cannot be any standard yardstick or a straight jacket formula.

ii) Carbon credit is not an offshoot of business, but an offshoot of environmental concerns. Income received by sale of carbon credits is a capital receipt.”

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Revision- Sections. 143, 145 and 163 of I. T. Act, 1961- A. Y. 2005-06- Solicitor following cash system of accounting- Advance deposits received from clients treated as liabilities in accounts and adjusted towards fees for expenditure incurred on behalf of clients in subsequent years- No loss of revenue- Revision to bring deposits shown in balance sheet to tax not proper-

CIT vs. Bijoy Kumar Jain; 385 ITR 339 (Cal):

The assessee was a solicitor and followed the cash method of accounting. He received advance deposits from his clients which he treated in his books as his liability. In subsequent years when expenses were incurred both out of pocket and on account of his fees the liability was adjusted. The advances were not treated as his income in his assessment. The Commissioner passed an order of revision u/s. 263 of the Income-tax Act, 1961 holding that the order of assessment was erroneous and prejudicial to the interest of the Revenue because the deposits had not been included in the assessee’s income despite the assessee’s following cash system of accounting. The Appellate Tribunal set aside the order passed by the Commissioner u/s. 263 interalia holding that the assessee had established that all the advances as on March 31, 2005 had been adjusted in the subsequent assessment years and the Department could not contradict the case of the assessee and that there was no justification for invoking the provisions of section 263.

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

“The deposits were treated by the assessee as a capital receipt and the deposits were adjusted in the subsequent years against the expenditure incurred for or on behalf of the client from whom the deposit was received. Such expenditure also included the fees of the assessee himself. It was at that stage that the money was earned by him. Before that, he was holding the money as a agent or as a fiduciary of his client. The Appellate Tribunal was right in taking the view that it did.”

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Charitable purpose- Registration of trusts- Application for registration- Audited accounts submitted subsequently- Registration to be allowed from the date of filing application and not from date on which defects in application cured-

CIT vs. Garment Exporters Association of Rajasthan; 386 ITR 20 (Raj):

The assessee, a charitable trust had filed an application u/s. 12AA(1)(b)(ii) of the Income-tax Act, 1961 for registration without submitting the audited accounts while filing the application. The audited accounts were subsequently filed. The Commissioner granted registration from the date of filing the audited accounts and refused to grant it from the date of application. The Tribunal found that the filing of the audited accounts along with the application was not mandatory and allowed the registration from the date of submission of the application.

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

“i) The application was filed without any defect and the audited accounts were submitted later on because submission of audited accounts along with the application was not mandatory.

ii) There was no error in the order of the Tribunal which allowed the registration from the date of submission of the application by the assessee. The Tribunal and the Department had not pointed out any defect in the application other than non filing of the audited accounts with the application, which was not mandatory.

iii) We find no error in the order passed by the Tribunal.”

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Business expenditure- Disallowance u/s. 43B of I. T. Act, 1961- Provident fund- Employers and employees contribution- Although technical reading of section 43B and the provisions of subsection (2) of section 24 (x) read with section 36 (1) (va) creates the impression that the employees’ contribution would continue to be treated differently under a different head of deduction, as the head of deduction is separate u/s. 43B and section 36 but on a broader reading of the amendments made to section 43B repeatedly and the intention of Parliament, there appears to be sufficient justification for taking the view that the employees’ and the employer’s contribution ought to be treated in the same manner-

Bihar State Warehousing Corporation Ltd. vs. CIT; [2016] 71 taxmann.com 247 (Patna):

The assessee was a Public Sector Undertaking of the Government of Bihar and was carrying on the business of warehousing. During assessment, the Assessing Officer after considering the fact that the contribution had been made after due date statutorily prescribed disallowed the payment of employer’s contribution to EPF u/s. 43B and also disallowed the employees’ contribution to Provident Fund treating the same as income from other sources as per the provision of sub-section (2) of section 24 read with section 36(1)(va). On appeal, the Commissioner(Appeals) allowed the appeal so far as the delayed payment of employer’s contribution to EPF u/s. 43B was concerned and deleted said addition. So far as the delayed payment of the employees’ contribution to EPF is concerned, the addition of the same was confirmed holding that no relief was allowable on the ground of section 43B as the omission of second proviso to the said section with effect from 1-4-2004 does not apply to delayed payment of employees’ contribution to any Provident Fund or any fund mentioned in sub-section (2) of section 24. The same was confirmed by the Tribunal.

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

“Both the Bombay High Court in CIT vs. Ghatge Patil Transports Ltd. [2014] 368 ITR 749 (Bom) and Punjab and Haryana High Court in the case of CIT vs. Hemla Embroidery Mills (P.) Ltd. [2014] 366 ITR 167 (P. & H.)) have deallt with the issue as to whether a distinction can be made between the employees’ contribution and employer’s contribution with regard to applicability of section 43B and held that both the employees’ and employer’s contributions are covered by the amendment of section 43B. Thus following same both contributions were to be treated on the same footing.”

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Educational Institution – Exemption – Where an educational institution carries on the activity of education primarily for educating persons, the fact that it makes a surplus does not lead to the conclusion that it ceases to exist solely for educational purposes and becomes as intuition for the purpose of making profits – Assessing Authorities must continuously monitor from assessment year to assessment year whether such institutions continue to apply their income and invest or deposit their funds in accordance with the law laid down.

Chief CIT vs. ST. Peter’s Educational Society [2016] 385 ITR 66 (SC)

The petitioner Society registered under the Societies Registration Act, 1860 as well as under the provisions of the Bombay Public Trusts Act, 1950, was engaged in imparting higher and specialised education. It is specialised in imparting education in the field of communication including advertising and its related subjects. The petitioner had also been granted the registration u/s. 12A of the Act. The Director of Income Tax (Exemption) had issued a notice u/s. 12AA(3) of the Act and called upon the petitioner to explain as to why its registration u/s. 12A of the Act should not be withdrawn. The said notice came to be challenged by the petitioner before the Gujarat High Court by filing a writ petition, which was withdrawn at a later stage in view of the fact that only show-cause notice was under challenge. However, the procedure initiated by the Director of income tax (Exemption) u/s. 12AA(3) of the Act were dropped by an order dated March 3, 2014 and accordingly the registration granted in favour of the petitioner u/s. 12A of the Act, remained intact. The petitioner submitted an application for getting an exemption certification u/s. 10 (23C)(vi) of the Act, for the assessment year 2013- 14 and onwards on September 30, 2013. The petitioner was called upon to make submissions. By two letters dated February 28, 2014 and August 13, 2014 detailed submissions were made before the Commissioner with whom the application was pending for adjudication. By the order dated September 29, 2014 the Commissioner refused to issue the certificate u/s. 10(23C)(vi) of the Act on various grounds.

By way of a writ petition under articles 14, 19(1)(g) and 226 of the Constitution of India the petitioner challenged the order dated September 29, 2014 passed by the Commissioner by which the application submitted by the by the petitioner to issue exemption certificate in its favour u/s. 10(23C)(vi) of the Act. had been refused.

The High Court noted that it was an admitted position that a certificate u/s. 12A of the Act had already been issued in favour of the petitioner and the same had continued till date. Therefore, according to the High Court it was established that the petitioner-institution was a charitable trust as far as applicability of the Income-tax Act was concerned.

The High Court held that the sole object of the institution was to impart education. By providing latest information and thereafter training to those people who were already in the field of advertising communication, etc. and in such process if certain persons became super-specialists in a particular field, and for which the institution was charging fee, such a case would not fall under proviso to section 2(15).

The High Court concluded that the petitioner institution was established for the sole purpose of imparting education in a specialized field.

Before the Supreme Court, the learned Solicitor General appearing for the Income-tax Department and the counsel appearing for the respondent-assessee in the appeal did not dispute that the issue involved in these appeals was squarely covered by the judgment of the Supreme Court in Queen’s Educational Society vs. CIT [2015] 372 ITR 699 (SC). The Supreme Court noted that the matter pertained to the exemption to the educational institutions u/s.10(23C) of the Income-tax Act, 1961. In the said judgment, the court summarized the legal position as under:

“11. Thus, the law common to section 10(23C) (iiiad) and (vi) may be summed up as follow:

(1) Where an educational institution carries on the activity of education primarily for educating persons, the fact that it makes a surplus does not lead to the conclusion that it ceases to exist solely for educational purposes and becomes as intuition for the purpose of making profits.

(2) The predominant object test be applied- the purpose of education should not be submerged by a profit making motive. .

(3) A distinction must be drawn between the making of the surplus and an institution being carried on ‘for profit’. No inference arises that merely because imparting education result in making a profit, it becomes an activity for profit.

(4) If after meeting the expenditure, a surplus arises incidentally from the activity carried on by the educational institution, it will not cease to be one existing solely for educational purposes.

(5) The ultimate test is whether on an overall view of the matter in the concerned assessment year the object is to make profit as opposed to educating persons.”

The Supreme Court noted that there was a difference of opinion amongst various High Courts on the aforesaid issue. While summarizing the law, it approved the judgments of Punjab and Haryana High Court, Delhi and Bombay High Courts and reversed the view taken by the Uttarakhand High Court. In so far as the judgment of the Punjab and Haryana High Court was concerned, it was given in the case of Pinegrove International Charitable Trust vs. Union of India [2010] 327 ITR 73 (P&H). The relevant para in this behalf which also stated as to how such cases were to be dealt with reads as under:

“25. We approve the judgment of the Punjab and Haryana, Delhi and Bombay High Courts. Since we have set aside the judgment the Uttarakhand High Court and since the Chief Commissioner of Income-tax’s orders cancelling exemption which were set aside by the Punjab and Haryana High Court were passed almost solely upon the law declared by the Uttarakhand High Court, it is clear that these orders cannot stand. Consequently, the Revenue’s appeal from the Punjab and Haryana High Court’s judgment dated January 29, 2010, and the judgments following it are dismissed. We reiterate that the correct tests which have been culled out in the three Supreme Court judgment stated above, namely, Surat Art Silk Cloth, Aditanar and American Hotel and Lodging, would all apply to determine whether an educational institution exists solely for educational purposes and not for purposes of profits. In addition, we hasten to add that the 13th proviso to section 10(23C) is of great importance in that assessing authorities must continuously monitor from assessment year to assessment year whether such institutions continue to apply their income and invest or deposit their funds in accordance with the law laid down. Further, it is of great importance that the activities of such institution be looked at carefully. If they are not genuine, or are not being carried out in accordance with all or any of the conditions subject to which approval has been given, such approval and exemption must forthwith be withdrawn. All these cases are disposed of making it clear that the Revenue is at liberty to pass fresh order if such necessity is felt after taking into consideration the various provisions of law contained in section 10(23C) read with section 11 of the Income-tax Act.”

The Supreme Court dismissed the appeal clarifying that the observations made in para. 25 in Queen’s Educational Society (supra) shall be followed

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Business expenditure- TDS- Disallowance- Section 40(a)(ia) of I. T. Act, 1961- A. Y. 2006- 07- Freight charges- Supplier making payments to transporters- Assessee, buyer, reimbursing transportation expenses- Liability to deduct TDS on supplier under agreement- No liability on assessee to deduct tax and disallowance u/s. 40(a) (ia) not attracted-

Hightension Switchgear Pvt. Ltd. vs. CIT; 385 ITR 575 (Cal):

For the A. Y. 2006-07, the Assessing Officer disallowed the payments made by the assessee on account of freight charges on the ground that it had failed to deduct tax at source u/s. 194C of the Income-tax Act, 1961. In its appeal before CIT(A) and the Tribunal the assesee submitted that its supplier, IPCL, had reimbursed the total freight charges in its invoices and had paid them to the transporter, RLL after deducting tax at source which had been deposited by the supplier with the Department. The Commissioner (Appeals) and the Tribunal upheld the disallowance.

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

“i) Under the contract of sale, the seller was bound to send the goods to the buyer. The relevant part of the price list had showed that the seller was bound to pay the transportation charges to the transport agency and was entitled to recover it from the buyer. The assessee had merely reimbursed the cost of transportation incurred by the seller. The liability to deduct and pay the tax was that of the seller who have admitted to have done that. In case the seller was unable to show that he had made the deduction, section 40(a)(ia) might be applied to his case but not to the case of the assessee who was the buyer.

ii) Even if it was assumed that the supplier, when it had transported the goods to the assessee, had acted as an agent of the assessee and the assessee had reimbursed the freight charges to the supplier, who in turn had paid to the transporters as the Tribunal had held, it was conceptually correct and no other conclusion was possible. The agent being the supplier had admittedly paid to the transporters and had also deducted tax at source. When the agent had complied with the provision, the principal could not have been visited with penal consequences. For one payment there could not have been two deductions. Moreover, when a person acted through another, in law, he acted himself.

iii) The Tribunal was wrong in holding that the assessee was liable to deduct tax at source in respect of the freight component. When the assessee was not liable to make any deduction u/s. 194C the rigours of section 40(a)(ia) could not have been applied to it. The question is answered in favour of the assessee.”

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Reassessment – Rent enhanced in 1994 with effect from 1-9-1987- Notice issued u/s.148 seeking to reopen the concluded assessment for the assessment year 1989-90- The notice was without jurisdiction inasmuch as such enhancement though with retrospective effect, was made only in the year 1994.

P.G. And W Sawoo Pvt. Ltd. vs. ACIT (SC) [2016] 385 ITR 60 (SC)

The premises belonging to the appellant were let out on rent to the Government of India. The rent was enhanced from Rs.4.00 to Rs. 8.11 per sq. ft. per month effective from September 1, 1987. The said enhancement of rent was made by a letter dated March 29, 1994 of the Estate Manager of the Government of India. The enhancement was subject to conditions including execution of a fresh lease agreement and communication of acceptance of the conditions incorporated therein. Such acceptance was communicated by the appellant by letter dated March 30, 1994.

A notice was issued u/s. 148 of the Income-tax Act, 1961 (“the Act”) seeking to reopen the concluded assessment of the appellant-assessee for the assessment year 1989- 90 (for the period of 21 month commencing on July 1, 1987 and ending on March 31, 1989).

The contention of the assessee before the Supreme Court was that having regard to the provisions of sections 5, 22 and 23 of the Act and the decision of the Supreme Court in E. D. Sassoon and Co. Ltd. v. CIT [1954] 26 ITR 27 (SC), no income accrued or arose and no annual value which is taxable under sections 22 and 23 of the Act was received or receivable by the assessee at any point of time during the previous year corresponding to the assessment year 1989-90. Hence, the impugned notice seeking to reopen the assessment in question was without jurisdiction or authority of law.

The Respondent –Revenue contended that the enhancement of rent was retrospective, i.e. from September 1, 1987 and, therefore, the income must have to be understood to have been received in the said assessment year, i.e. 1989-90.

The Supreme Court held that no such right to receive the rent accrued to the assessee at any point of time during the assessment year in question, inasmuch as such enhancement though with retrospective effect, was made only in the year 1994. The contention of Revenue that the enhancement was with retrospective effect did not alter the situation as retrospectivity was with regard to the right to receive rent with effect from an anterior date. The right, however, came to be vested only in the year 1994.

The Supreme Court therefore concluded that the notice seeking to reopen the assessment for the assessment year 1989-90 was without jurisdiction and authority of law. The said notice, therefore, was liable to be interfered with and the order of the High Court set aside. The Supreme Court ordered accordingly and consequently, the appeal was allowed.

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Business of Derivatives Trading & Explanation to Section 73

Issue for Consideration
Section 73 of
the Income Tax Act, 1961 provides that any loss, computed in respect of a
speculation business carried on by the assessee, cannot be set off
except against profits of another speculation business. Explanation 2 to
section 28 provides that where speculative transactions carried on by
an assessee are of such a nature as to constitute a business, the
business is deemed to be distinct and separate from any other business,
and is referred to as ‘speculation business’ for the purposes of the
Act.

Section 43(5) defines the term “speculative transaction”,
as a transaction in which a contract for the purchase or sale of any
commodity, including stocks and shares, is periodically or ultimately
settled otherwise than by the actual delivery or transfer of the
commodity or scrips. Proviso to section 43(5) lists certain exceptions
to the ‘speculative transactions’, vide clasues (a) to (e). Clause (d)
of the proviso provides that an ‘eligible transaction’ in respect of
trading in derivatives referred to in section 2(ac) of the Securities
Contracts (Regulation) Act, 1956 carried out on a recognised stock
exchange shall be deemed not to be a speculative transaction.

Therefore,
derivatives transactions satisfying the needs of being treated as
‘eligible transactions’ are not regarded as speculative transactions for
the purposes of computing business profits u/s. 28.

The
explanation to section 73 provides for a deeming fiction where under
certain business carried on by a company is deemed to be a speculation
business. This fiction of explanation to section 73 applies only to a
company. If any part of the business of the company consists in the
purchase and sale of shares of other companies, such company is deemed
to be carrying on a speculation business to the extent to which the
business consists of the purchase and sale of such shares. Certain
exceptions to this fiction are provided in this regard.

An
interesting issue which has come up for consideration before the courts
is as to whether the business of derivatives transactions, which are not
regarded as speculative transactions by virtue of the proviso to
section 43(5), can be deemed to be a speculation business by virtue of
the explanation to section 73. While the Delhi High Court has taken the
view that the provisions of the explanation to section 73 do apply to
such derivatives trading business, and it is therefore deemed to be a
speculation business, the Calcutta High Court has taken a contrary view
and held that the explanation to section 73 applies only to transactions
in shares, and not to transactions in derivatives, and that therefore
derivatives trading business cannot be deemed to be a speculation
business.

DLF Commercial Developers’ Case
The issue first came up before the Delhi High Court in the case of CIT vs. DLF Commercial Developers Ltd 218 Taxmann 45.

In
this case, the assessee claimed a loss of Rs 492.71 lakh on account of
purchase and sale of derivatives. It claimed that the loss in trading of
derivatives was not a speculation loss in terms of section 43(5), and
could not be disallowed as a speculation loss under any provisions of
the Income Tax Act. The assessing officer rejected that submission, and
held that the explanation to section 73 applied, since it was
independent of section 43(5). He therefore treated the loss as a
speculation loss, and did not permit the adjustment of the loss against
business income.

The Commissioner(Appeals) rejected the
assessee’s contention. In further appeal to the tribunal, the tribunal
held that the explanation to section 73 was not applicable, and granted
relief to the assessee.

Before the Delhi High Court, on behalf
of the revenue, it was argued that the explanation to section 73
categorically provided that where any part of the business of the
company included purchase and sale of shares of another company, it
should l be deemed that the company was carrying on speculation business
to the extent to which the business consisted of that activity. It was
further argued that the intention of section 43 was to define certain
terms for the purposes of sections 28 to 41. It was argued that clause
(d) of the proviso to section 43(5) had restricted application, in that
it excluded transactions in derivatives only for a limited purpose. It
was claimed that section 73 had wider application and related to all
manner of losses concerning shares.

Reliance was placed on
behalf of the revenue on the decisions in the cases of CIT vs.
Intermetal Trade Ltd 285 ITR 536 (MP), CIT vs. Arvind Investments Ltd
192 ITR 365 (Cal) and Eastern Aviation and Industries Ltd vs. CIT 208
ITR 1023 (Cal). It was argued that the specific inclusion of the
activity of sale and purchase of shares of other companies from the
otherwise general application of principles underlying section 73 meant
that those transactions could not claim the benefit of the provision of
s.43(5). It was pointed out that derivatives of the kind and nature
traded by the assessee in the case before the court related to stocks
and shares, and were the subject matter of transactions on a stock
exchange. It was therefore claimed that the tribunal ought not to have
permitted the assessee the benefit of set of such loss.

On
behalf of the assessee, it was argued that the transactions in
derivatives were specifically excluded from the definition of
speculative transactions. Even though that definition was in section
43(5), it could not be ignored, since there was no other definition of
derivatives in the Income Tax Act. It was highlighted that derivatives
need not be only in respect of stocks and shares, but could also be in
respect of commodities. Reliance was placed on the decision of the
Madras High Court in Rajshree Sugars and Chemicals Ltd vs. Axis Bank Ltd
AIR 2011 Mad 144, for this proposition. The attention of the court was
also drawn to the decision of the Bombay High Court in the case of CIT
vs. Bharat R Ruia (HUF) 337 ITR 452, where the court had considered the
pre-amended section 43(5) before insertion of clause (d) in the proviso,
and held that derivatives in the light of the then existing law were
speculative transactions, but that the position had changed after
1.4.2006, when clause (d) was inserted in the proviso to section 43(5).
It was therefore argued that the tribunal had correctly held that the
assessee was entitled to the benefit of set off of the losses.

The
Delhi High Court analysing the provisions of section 73 and section
43(5) held that ; the term “speculative transaction” was defined only in
section 43(5) and the scope of the definition was restricted in its
application to working out the mandate of sections 28 to 41 in as much
as those provisions dealt with the computation of business income and
that it was not possible for the court to ignore or overlook that the
definition was confined in its application, to the extent it excluded
such transactions from the mischief of the expression “speculative
transactions”.

The Delhi High Court observed that while it was
tempting to hold that since the expression “derivatives” was defined
only in section 43(5), and since it excluded such transaction from the
odium of speculative transactions, and further, since it had not been
excluded from section 73, the explanation to section 73 did not apply,
however by doing so, the court would be doing violence to the
parliamentary intendment. This was because a definition enacted for only
a restricted purpose or objective should not be applied to achieve
other ends or purposes. Doing so would be contrary to the statute.

The
High Court stressed the contextual application of a definition or term.
The High Court observed that the stated objective of section 73, as was
apparent from the tenor of its language, was to deny speculative
businesses the benefit of set off of losses against other business
income.

The explanation to section 73 had been enacted to
clarify beyond any shadow of doubt that share business of of companies,
subject to certin exceptions, was deemed to be speculative. The fact
that in another part of the statute, which dealt with the competition of
business income, derivatives were excluded from the definition of
speculative transaction only underlined that such exclusion was limited
for the purposes of those provisions or sections. In the case before it,
the High Court noted that the derivatives were based on stocks and
shares, which fell squarely within the explanation to section 73.

According
to the Delhi High Court, it was therefore ideal to contend that
derivatives did not fall within the provision, when the underlying asset
itself did not qualify for the benefit, as derivatives were entirely
dependent on stocks and shares for the determination of their value. The
Delhi High Court therefore held that the explanation to section 73
applied to the case before it, and that the loss on trading in
derivatives could not be set off against other income.

Asian Financial Services’ Case
The
issue again came up recently before the Calcutta High Court In the case
of Asian Financial Services Ltd vs. CIT 70 taxmann.com 9.

In
this case, the assessee, a company, incurred a loss of Rs. 3,24,76,185
in futures and options transactions in shares being loss in derivatives
transactions. It claimed that this loss should be set off against other
business income, including profit from transactions in shares. The
assessing officer, for the purposes of s. 73, treated such loss as a
deemed speculation loss and did not allow set off of the loss against
the business income, by applying the explanation to section 73. While
the Commissioner (Appeals) allowed the assessee’s appeal, the tribunal
held against the assessee, holding that the explanation to section 73
applied, and the loss was a speculation loss, which could not be set off
against any other income.

Before the Calcutta High Court, on
behalf of the assessee, it was argued that the loss was on account of
derivatives being the futures and options which was excepted from the
definition of the speculative transaction and as a consequence the loss
was to be treated as a business loss under the proviso to section 43(5).
It was argued that once it was deemed to be a business loss under the
proviso to section 43(5), the question of applying section 73 or the
explanation to that section for the purpose of refusing the loss to be
set off against business income was palpably wrong. It was claimed that
the decision of the Delhi High Court relied upon by the tribunal did not
lay down good law, and that the Delhi High Court erred in holding that
dealing in derivatives was also a speculation loss within the meaning of
section 73.

On behalf of the revenue, it was argued that
section 43(5) was a general provision, while section 73 was a specific
provision. Attention was drawn to the explanation to section 73 to
submit that a company dealing in purchase and sale of shares amongst
others, which did not come within the exceptions carved out in the
explanation itself, was hit by the mischief of the explanation. A
question was raised that whether it could be said that when a business
consisting of purchase and sale of shares of other companies amounted to
a speculation business, business in derivatives, which depended on the
value of the underlying shares, was anything other than a speculation
business. It was argued that the view taken by the Delhi High Court in
DLF Commercial Developers’ case ( supra) was the correct view.

The
Calcutta High Court rejected the arguments of the revenue, observing
that, it could not be said that section 43(5) was a general provision
and section 73 was a specific provision. The Calcutta High Court in
fact, expressed the contrary view that the object of section 43(5) was
to define “speculative business”. The High Court observed that chapter
IV-D of the Income Tax Act, consisting of sections 28 to 44DB, dealt
with profits and losses of business or profession. It observed that when
the statute talked of profit, it also referred to losses, because loss
had been construed as a negative profit.

The Calcutta High Court
noted the language of the explanation to section 28 and observed that
from a plain reading of the explanation, the following deductions could
be made:

1. speculative transactions carried on by an assessee might be of such a nature as to constitute a business;

2. such speculation business carried on by an assessee should be deemed to be distinct and separate from any other business.

The
Calcutta High Court therefore concluded that speculation transactions
might partake the character of deemed business where the statute so
provided. The court then noted the definition of speculative transaction
contained in section 43(5), and the five exceptions contained in the
proviso thereto, and observed that such excepted transactions came
within the category of deemed business, which was distinct and separate
from any other business.

Addressing the question as to whether
loss arising out of such deemed business could be set off against the
profit arising out of other business or businesses, the High Court noted
that the provisions of section 70 permitted an assessee to set off loss
against his income from any other source under the same head, unless
otherwise provided. Therefore, the losses from the deemed business could
be set off against other business profits, unless otherwise provided.
The question was whether the explanation to section 73 provided
otherwise. According to the Calcutta High Court, a plain reading of the
explanation showed that it did not provide otherwise. Therefore,
according to the Calcutta High Court, the irresistible conclusion was
that the assessee was entitled to set of such loss arising out of deemed
business against other business income.

While the Calcutta High
Court agreed with the view of the Delhi High Court that shares fell
squarely within the explanation to section 73, it expressed its
disagreement with the treatment of derivatives at par with shares by the
Delhi High Court, since the Legislature had treated them differently.

The
Calcutta High Court therefore allowed the appeal of the assessee,
holding that the loss in derivatives transactions was not covered by the
explanation to section 73, and could be set off against other business
profits.

Observations
The definition of “securities”
u/s. 2(h) of the Securities Contracts (Regulation Act), 1956 makes it
clear that shares and derivatives are distinct from each other, though
both are securities, and even though derivatives derive their value from
the underlying shares or commodities.

The Companies Act, 2013
eliminates any possibility of treating the derivatives and shares to be
one. Section 2(84) defines ‘shares’ while section 2(33) defines the term
’derivatives’ and section 2(81) defines ‘securities’ and a combined
reading of all of them clearly confirm that the shares are not
derivatives for the purposes of the Companies Act, 2013 and if they are
not so there is no reason to treat as one and the same unless they are
defined to mean so for the purposes of the Income tax Act. In fact,
clause(d) of section 43(5) in turn refers to clause (ac) of section 2 of
the SCRA for providing the meaning to the term ‘derivatives’ for the
purposes of the Income tax Act.

It is well settled that a
deeming fiction is to be strictly construed. The explanation to section
73 deems certain business to be a speculation business, and is therefore
a deeming fiction. This deeming fiction merely refers to purchase and
sale of shares, and does not refer to purchase and sale of any other
securities. Therefore, given the fact that derivatives are not referred
to in the explanation, the deeming fiction of the explanation cannot be
extended to cover derivatives.

This view is supported by the
decision of the Supreme Court in the case of CIT vs. Apollo Tyres Ltd
255 ITR 273, where the Supreme Court held that units of mutual funds
were not shares, and therefore that the business loss in dealing in such
units was not covered by the explanation to section 73. In the case of
units of mutual fund also, as in the case of derivatives, the value of
the mutual fund units is derived from the underlying assets, which are
shares. If transactions of trading in mutual fund units do not fall
within the ambit of the explanation to section 73, logically,
transactions of trading in derivatives should also not fall within the
ambit of the explanation.

We have no doubt that the decision of
the Delhi high court could have been different had the court’s attention
been drawn to the decision of the apex court delivered in the context
of explanation to section 73 i.e on the same subject as is the subject
of discussion here.

Further, the provisions of section 43(5),
explanation 2 to section 28, and section 73 should be regarded as one
integrated scheme, for the limited purpose of set off of business loss
against any other income.

The term “speculation” is not used in
any other section of the Income Tax Act, and therefore this is a logical
interpretation. In the absence of section 73, there was no necessity of
the definition of speculative transaction in section 43(5), nor of
explanation 2 to section 28. When an item is specifically excluded from
the provisions of section 43(5), the intention clearly is to exclude it
also from the provisions of section 73, unless section 73 expressly
provides to the contrary. In any case, the explanation to section 73
while referring only to shares, clearly indicates that loss of trading
in derivatives does not fall within the deeming fiction of the
explanation.

The better view, therefore, seems to be that of the
Calcutta High Court, that loss on trading in derivatives is not
governed by the explanation to section 73, and that such loss incurred
by companies can be set off against other income.

shailesh.kwebmaker

Is there a limitation for ‘reassessment’ when the return is processed U/s.143(1)?

The culminating point of the return filing exercise under the Income-tax Act, 1961 is its assessment. It may so happen that the income returned is accepted per se or subjected to some increase by virtue of the provisions of law. Section 2(8) very briefly defines the term ‘assessment’ as “assessment includes reassessment”. However, there is no definition of the term ‘reassessment’ under the Act.

When a return of income is filed by the taxpayer , it could be accepted. Later on, it could also be selected for detailed verification technically known as “scrutiny assessment”. However, there is a time limit for selecting a return for scrutiny assessment viz. six months from the end of the financial year in which the return was filed. Once this time limit expires, whether the tax authorities can invoke reassessment provisions which provide longer time limit has been litigated..

Recently, the Gujarat High Court in Olwin Tiles India P Ltd v. Dy. CIT (2016) 130 DTR (Guj) 209 analysed whether the Assessing Officer without having any extra material / information could reopen the case. This article discusses this decision which dissented from the decision in the case of CIT v. Orient Craft Ltd (2013) 87 DTR (Del) 313 / 354 ITR 536 (Del) as well asthe recent statutory amendments which require further fine tuning for having hassle free tax compliance in respect of the majority of taxpayers whose returns are accepted as it is by the tax authorities.

Olwin Tiles India (P) Ltd ’s case
The assessee filed its return of income declaring “nil” income. It was processed u/s. 143(1) and later on, a notice u/s. 148 was issued for reopening the assessment.

The reason given by the Assessing Officer for reopening the assessment was that the assessee had issued 60,000 equity shares of Rs.10 each at a premium of Rs.990 per share. The Assessing Officer based on the assets and liabilities furnished in the return of income computed the ‘net worth’ of the company and found book value of equity share to be Rs.33 per share. Hence, the Assessing Officer concluded that the shares were issued to the shareholders at a premium which was far above their book value or intrinsic worth.

Readers may note that the facts of the case relate to assessment year 2011-12 and hence clause (viib) of section 56(2) could not be applied as the said provision became operational by virtue of the Finance Act, 2012 w.e.f. the assessment year 2013-14.

The assessee submitted that the return having been accepted by the Assessing Officer cannot be subjected to reassessment on the basis of materials which are already available on record. It was contended that the Assessing Officer must have some tangible material which did not form part of the original record to enable him to reopen the case or else, it would amount to mere review of the earlier assessment, which is impermissible in law.

The reason recorded by the Assessing Officer was that the investors invested in the shares of the company at a value far above the net asset value which implied that the additional amounts represent unexplained cash credits chargeable to tax under section 68 of the Act.

The assessee relied on the decision in the case of CIT vs. Orient Craft Ltd (2013) 354 ITR 536 (Del).

Orient Craft’s case
The assessee in this case for the assessment year 2002- 03 filed its return of income declaring total income of Rs.445.35 lakh. The income returned included inter alia (i) claim of deduction u/s. 80HHC; and (ii) deduction u/s. 10B. The return was processed u/s. 143(1).

Later, a notice u/s. 148 was issued on the ground that the income chargeable to tax had escaped assessment by virtue of the items such as (i) duty drawback; (ii) DEPB; (iii) premium on DEPB; and (iv) sale of quota all of which were included in the ‘export turnover’ and thus excess deduction was allowed u/s. 80HHC. The assessee filed a return in response to the notice issued under section 148 declaring the same total income as was admitted in the original return.

The assessee questioned the reopening of assessment which the Assessing Officer rejected by citing clause (c) of the Explanation to section 147. The Assessing Officer claimed that the assessee had claimed excess deduction under section 80HHC by including ineligible items. The reassessment was completed by scaling down the deduction u/s. 80HHC to Rs.683.95 lakh from the original claim of Rs.874.21 lakh.

The assessee challenged the reassessment order both on the grounds of jurisdiction and merit. The CIT (Appeals) rejected the objection to jurisdiction , but on merit decided the issue in favour of the assessee. Before the tribunal, both the assessee and the Revenue filed cross appeals. The assessee challenged the jurisdiction assumed for reopening the assessment u/s. 147 as also certain other issues on merit which were decided against it by the CIT (Appeals).

The tribunal examined the assessee’s claim and found that the issue was decided in favour of the assessee for the earlier assessment years and accordingly decided the case by citing decision in the case of CIT vs. Kelvinator of India Ltd (2010) 320 ITR 561 (SC) in which it was observed “since there was no tangible material available with the Assessing Officer to form the requisite belief of escapement of income, the reopening of the completed assessment is unsustainable in the eyes of law. The same is, therefore cancelled”.

The matter went to the Delhi High Court where the court held that even an assessment u/s. 143(1) can be reopened u/s. 147 subject to fulfillment of the conditions precedent, which includes that the Assessing Officer must have “reason to believe” that income chargeable to tax has escaped assessment.

Though no assessment order was passed and intimation u/s. 143(1) is sent, the apex court in Asstt. CIT vs. Rajesh Jhaveri Stock Brokers (P) Ltd (2007) 291 ITR 500 (SC) has held that for initiating the proceedings u/s. 147 the ingredients of section 147 are to be fulfilled. The ingredient is the presence of “reason to believe” that income chargeable to tax has escaped assessment. The court held that this judgment does not give carte blanche to disturb the finality of the intimation issued u/s. 143(1).

The Delhi High Court finally held that the reasons recorded by the Assessing Officer were not based on any tangible material which came to his possession subsequent to the issue of intimation u/s. 143(1). It held that reopening of assessment after issue of intimation without any fresh material reflects an arbitrary exercise of the powers conferred u/s. 147. The decision hence was in favour of the assessee.

Reasoning in Olwin Tiles case
The Gujarat High Court referred to its precedent in Inductotherm India (P) Ltd vs. M.Gopalan, Dy. CIT (2012) 356 ITR 481 (Guj) where it was held that no assessment had taken place when an intimation under section 143(1) was issued accepting the return filed by the assessee. It held that the Assessing Officer would not have formed any opinion with respect to any of the aspect arising in such return. The power to reopen assessment is available when a return has been accepted u/s. 143(1) or a scrutiny assessment has been framed u/s. 143(3) of the Act. The common requirement in both the situations is that the Assessing Officer should have reason to believe that any income chargeable to tax has escaped assessment.

The Gujarat High Court in Olwin Tiles case (Supra) hence held that it cannot accept the contention of the assessee that the Assessing Officer must have some material outside or extraneous to the records to enable him to form an opinion or entertain a belief that income chargeable to tax has escaped assessment. The only requirement to be fulfilled for issuing a notice for reopening the assessment is the ‘reason to believe’ that income chargeable to tax had escaped assessment.

It adverted to the decision of the Supreme Court in the case of Rajesh Jhaveri’s case (Supra) where it has been highlighted that ‘reason to believe’ does not have to be a final opinion that the additions would certainly be made to the income originally admitted / assessed. The reason recorded in Olwin Tiles case (Supra) by the Assessing Officer was that the share valuation of the company on the basis of balance sheet furnished in the return of income was only Rs.33 as against the issued price of Rs.1000 per share.

The court observed that the assessee-company had not commenced manufacturing activity and whether or not it has earned income cannot be gone into at this stage viz. at the time of deciding the validity of reassessment notice. The court accordingly held that it was not inclined to terminate the reassessment proceedings at this stage on the grounds put forth by the appellant.

Olwin Tiles vS. Orient Crafts – a comparative study
Prima facie the decision of the Gujarat High Court in Olwin Tiles case (Supra) was in favour of the Revenue and it dissented from the Delhi High Court decision in the case of Orient Crafts Ltd (Supra).

The decision rendered in Orient Craft’s case related to assessment year 2002-03 being an era preceding the electronic filing / processing of returns. Hence, at that time the assessee would have furnished the necessary details along with the return of income. Whereas in Olwin Tiles case (Supra) which pertained to assessment year 2011-12, the return of income would have been filed electronically and is an annexure-less return. No further details except the return form duly filled in were available with the tax authorities. This would show that a return processed u/s. 143(1) is prima facie an acknowledgement of the return, subject to a cursory verification of the claims contained therein.

Further tax returns are presently processed by Centralized Processing Centres (CPC). Though CPC is managed by the officials of the Department, it is not possible to analyse or validate the contents of the return filed by the taxpayers in the absence of supporting documents / evidences as the returns filed nowadays are annexure-less.

In this backdrop, it is debatable whether the return processed by CPC can be called as an appraisal of the return of income filed by the taxpayers. It appears that the e processing of the return is adequate only for detection of apparent errors or inconsistencies detected by the software based on the schedules forming part of the return, Thus processing of return and issue of intimation u/s. 143(1) in all fairness cannot taken as approval of the return filed by the taxpayers.

If the Delhi High Court (dealt with Orient Craft’s case) had dealt with the assessment year where the return is processed by CPC and not by the jurisdictional Assessing Officer, perhaps the decision may have been different. The decision of the Gujarat High Court (in Olwin Tiles case) is to be read in the context of the situation on the ground. Therefore a subsequent appraisal of the information contained in the return may also lead to formation of a reason to believe, and a consequent reopening.

Amendments in Finance Act, 2016
The Finance Act, 2016 probably taking note of the limitations in processing of returns by CPC enlarged the scope for adjustments on processing of returns which hitherto was limited to adjusting (i) arithmetical errors; and (ii) incorrect claims which are apparent from any information in the return.

Now w.e.f. 01.04.2017, four more sub-clauses to section 143(1) are inserted which validate adjustments to the returned income while processing the returns either by the Department (in the case of paper returns) or CPC which processes e-returns. These adjustments are popularly known as prima facie adjustments and they covers the following:

(i) Incorrect claim of brought forward loss when the return of the assessment year in which the loss was incurred, is filed beyond the ‘due date’ specified in section 139(1);

(ii) Disallowance of expenditure which could be deciphered from the audit report filed with the return but was not to be taken into account while computing the total income;

(iii) Disallowance of deduction under sections 10AA, 80- IA, 80-IAB, 80-IB, 80-IC, 80-ID or 80-IE when the return is furnished beyond the ‘due date’ specified in section 139(1); and

(iv) Addition of income due to mismatch of figures between Form 26AS or Form 16A or Form 16 vis a vis the income disclosed in the return.

Though the first three adjustments are are fully justified while processing the return u/s. 143(1), the fourth one could create substantial hardship, particularly when the mismatch arises on account of difference in method of accounting followed by the deductor and deductee. Consequently , if for any reason an adjustment falling within these categories is not made in processing u/s. 143(1), the provisions of section 148 cannot be resorted to subsequently. The tax authorities may invoke section 154 if such omitted adjustments would fall in the category of error apparent on record. Other debatable claim of expenditure or income, which do not require any disclosure in the return or in the audit report continue to remain beyond the scope of the said adjustments, and therefore possibly attract the provisions of section 148..An explicit amendment in sections 147 /148 would put an end to this kind of controversy.

Yet another subsisting controversy resolved by the Finance Act, 2016 relates to substitution of sub-section (1D) to section 143 by mandating processing of returns u/s. 143(1) before issue of notice u/s. 143(2). This is applicable w.e.f. 01.04.2017. However, processing of returns u/s. 143(1) is not permitted after issuance of an order u/s. 143(3). This amendment would provide the taxpayers the benefit of cash flow viz. refund of tax if any, on processing of return under section 143(1) which was hitherto kept in abeyance till the completion of assessment u/s. 143(3). Further as a corollary to insertion of sub-clauses (iii) to (vi) to section 143(1), the concept of limited scrutiny has been done away with by amending section 143(2) w.e.f. 01.06.2016.

Revision under section 263
Section 263 empowers the Commissioner to assume jurisdiction where any order passed by the Assessing Officer is erroneous or prejudicial to the interests of the revenue. Whether intimation u/s. 143(1) is an ‘order’ to permit the CIT to assume the revisionary jurisdiction u/s. 263 has also been litigated at various points of time.

The legislature by amending the law and the courts by interpreting the law have provided safeguards when Commissioner exercises revisionary powers u/s. 263 such as (i) revision not permissible in respect of debatable claims; (ii) mandating recording of reasons for revision; (iii) revision of matters limited to issues not pending in appeal; and (iv) wider meaning of ‘record’ for the purpose of permitting revision.

The catch phrase in section 263 is “any order passed therein by the Assessing Officer” which is erroneous or prejudicial to the interests of revenue. Prima facie, when the return is processed u/s. 143(1), there is no examination of the claims made in the return except prima facie items listed in section 143(1). Thus the intimation issued u/s. 143(1) may not qualify as an ‘order’ for the purpose of revision u/s. 263.

However, the Bombay High Court in CIT vs. Anderson Marine & Sons (P) Ltd (2004) 266 ITR 694 has held that the intimation u/s. 143(1) will have to be understood as having the force of an ‘order’ on self-assessment. By legal fiction, intimation u/s. 143(1) shall be deemed to be a notice of demand issued u/s.156 and all the provisions of the Act are applicable.

Thus the court held in the affirmative that intimation u/s. 143(1) is eligible for interference u/s. 263.

Conclusion
Based on the two legal decisions given at different points of time in the light of the fact that the returns were processed manually vis a vis electronically and the provisions of law as it stands now, one may summarize the position as follows:

(i) A return processed u/s. 143(1) in spite of the expanded scope of adjustments may be subjected to reassessment proceedings provided the Assessing Officer has reason to believe escapement of income or on the basis of some credible information from which he entertains the belief of escapement of income chargeable to tax.

(ii) Processing of a return u/s. 143(1), in the current scenario does not indicate appraisal of the return. Thus it appears that formation of the belief on the basis of a scrutiny of the return subsequent to the processing might result in a notice u/s. 148 and possession of information or knowledge by the tax authorities beyond the return may not be mandatory for issue of notice u/s. 148.

shailesh.kwebmaker

Let everyone play a game!

Three women, Sakshi, Sindhu and Deepa have done India proud by their achievements at the recently concluded Olympics in Rio. Predictably, they have been showered with awards and gifts by governments, individuals, associations and sponsors. While they undoubtedly deserve the honour that they have received, this postachievement support raises quite a few questions.

In the first few days when our athletes were not making a mark, many individuals were critical of their performance. It is a fact that while our sportspersons get bashed when they fail to perform, they get placed on a pedestal when they get results. However, very little attention is paid to their training and the effort that they have to put in, in the years before the competition takes place. A question is often raised as to why with a population of nearly 125 crore we have always faced a drought, in the medal tally. The problem I believe begins at home. Our children are rarely encouraged to participate in a sport. This is true across all households, with different economic backgrounds. In the case of the poor, it is of an economic constraint that prevents the child from taking up a sport; in the case of the middle class it is probably the desire to secure an economically sound future that drives the parents to force children to study rather than play. The situation is changing to some extent.

We must all realise, that merely having a large young population will not ensure Olympic medals for our country. For that all the children in the country must be able to play at least one sport of their choice. It is only then that we will have stellar achievers. In our country it is only those who achieve either national or international fame that can have an economically secure future. This must change. Even those who achieve some level in any sport must be in a position to make a reasonable living. This need not necessarily be achieved through reservation in jobs, but if the sport itself spreads far and wide, then that itself will give employment opportunities like, maintenance and creation of sports infrastructure, coaching et cetera. Every economist of repute has expressed the view that in order to achieve economic prosperity creation of a sound infrastructure is absolutely essential. This is equally true of any sport.

The next issue is in regard to the regulation of sports associations. It is true that over the last many decades many sports associations have been badly managed. There has been mismanagement of funds, in some cases even misappropriation. To run such institutions efficiently one has to strike a balance between those who have knowledge of the game and those who can administer it. A sportsman is not necessarily a good administrator and possibly a bureaucrat can fill in that role. Politicians can impress upon the government the requirements of the sport. While politicians and bureaucrats must not be permitted to misuse their positions to garner posts in such associations, a general bashing of these persons is also incorrect. When we are critical of politicians and bureaucrats as a class, we often forget that they have not fallen from heaven and are one amongst us. Many have actually contributed to the development of sport. Therefore while one welcomes regulation of sport, it must happen internally and through pressure from the public. The judiciary cannot do this job. Its role should be limited to nudging those concerned into action.

Finally, one must accept the role of sponsors and advertisers in the popularisation of a sport. Some are very critical of what they call “commercialisation” of a game. However, a game becomes popular only if it is viewed by more and more people. If that is so, then the needs of the public and their tastes have to be borne in mind. The IPL in cricket has been a total game changer. The format of the game has undergone a change. With the viewing public having less time on their hands, the T-20 form of the game has become more and more popular. With competition becoming more intense the skill levels have also increased tremendously. Very recently this format has been adopted by a local sport namely Kabaddi. A sport which was played mainly in Maharashtra and a few other parts of the country is now becoming a national sport and is increasing in popularity.

It needs to be accepted that sponsors and advertisers, the media moguls are here to stay. One must give them their due share, while ensuring that the game continues to be played fairly. A well regulated sport will be beneficial for those who enjoy it as well as those who play it. One hopes that the Olympic fever does not subside. If more and more children play a sport with standard facilities we will certainly see many more Olympic medals. It needs patience and perseverance. The Indian tricolour, being unfurled and the national anthem, being played at victory ceremonies will then not remain a dream but will become reality.

shailesh.kwebmaker

TS-438-ITAT-2016(Ahd) ITO(IT) vs. Susanto Purnamo A.Y.: 2011-12, Date of order: 4th August, 2016

Article 15 and Article 12 of India – USA Double Taxation Avoidance Agreement (DTAA ) – Software development services rendered by an individual qualified as Independent professional services (IPS) as per Article 15. In absence of satisfaction of conditions provided in Article 15, such income was not taxable in India.

Facts
The Taxpayer, an individual resident in USA, carried on his business as a sole proprietor. During the year, Taxpayer had rendered certain software development services to an Indian company (ICo). As part of the software development services, Taxpayer was required to design, build and maintain a complete video streaming website for ICo.

Taxpayer contended that the income from the software development services was in the nature of business income and in absence of a PE or a fixed base in India, income from such services is not taxable in India under Article 7 as well as Article 15 of the DTAA. Further, even if one were to contend that the services were in the nature of technical services, as such services did not make available any technical knowledge or skill, it would not be covered by Fee for Included Services (FIS) Article.

AO rejected Taxpayer’s contention on the ground that services rendered by the Taxpayer were not in the nature of IPS but in the nature of FIS. Further it was contended that the services satisfied the “make available condition” and hence, income from software development services was taxable in India.

On appeal, the First Appellate Authority (FAA) held that software development services are covered by the IPS article. Further due to a specific carve out in FIS article, services covered by IPS article would fall outside the ambit of FIS. Since the Taxpayer did not have a fixed base in India, nor did his presence in India exceed 90 days, the income from such services was not taxable in India. Aggrieved, the AO filed an appeal with the Tribunal.

Held
On a conjoint reading of Article 12 and Article 15 of the India-USA DTAA, it is clear that once an amount is found to be of such a nature as it can be covered by IPS article, the same shall stand excluded from the ambit of FIS article.

The applicability of Article 15 is substantially influenced by the status of the recipient; whether the recipient is an individual or a corporate entity. Thus, although there may be overlapping effect in the scope of services covered by Article 12 and Article 15, as long as the services are rendered by an individual or group of individuals, rendition of such services is covered by Article 15. Reliance in this regard can be placed on decision of Mumbai Tribunal in Linklaters LLP vs. ITO (2011) 9 ITR Tri 271. In the context of India-USA DTAA, this is specifically exemplified by way of a specific carve out in Article 12.

The definition of professional service in Article 15 is only illustrative and not exhaustive. The emphasis is on the nature of services.

Software development service which essentially requires predominant intellectual skill and is dependent on individual characteristics of the person pursuing software development, and is based on specialized and advanced education and expertise qualifies as a professional service under Article 15. Reliance in this regard was placed on Kolkata Tribunal decision in the case of Graphite India Ltd (2002) 86 ITD 384

It was not in dispute that the Taxpayer did not have a fixed base in India, nor did his presence in India exceed 90 days in the relevant year. Thus, although the services are in the nature of IPS, in absence of satisfaction of conditions of Article 15, income from software development services was not taxable in India.

Whether the services satisfied the make available clause under the FIS Article is wholly academic and infructuous considering the above discussion.

shailesh.kwebmaker

[2016] 71 Taxmann.com 351 (Delhi-Trib) ADIT(IT) vs. International Technical Services LLC A.Y.: 2009-10, Date of order: 11th July, 2016

Sections 44BB , 44DA, 115A of the Act – Section 44BB of the Act does not mandate that the services should be provided directly by the party engaged in prospecting etc. of mineral oil; Provision of services of technical personnel for carrying out drilling activities is covered by Section 44BB of the Act.

Facts
The Taxpayer a non-resident (NR) provided services of highly specialized offshore personnel to a third party. The third party (also a non-resident) required these personnel for carrying out drilling operations in relation to its contract with an Indian company.

Taxpayer contended that provision of technical personnel is for carrying out drilling operations and hence would be covered by presumptive taxation provisions of section 44BB. However, the Assessing Officer (AO) argued that the income of the Taxpayer would be determined on net basis as per the provisions of section 44DA.

Aggrieved, the Taxpayer appealed before Dispute Resolution Panel (DRP), who subsequently directed the AO to compute income u/s 44BB.

The AO appealed before the Tribunal

Held
Taxpayer provided key technical personnel for conducting actual drilling operations. The service was an integral part of the drilling operations in connection with prospecting, extraction or production of mineral oil. Hence, it cannot be said that the activities of the Taxpayer were not “in connection with prospecting for or extraction or production of mineral oils”.

Section 44BB requires that the services/facilities provided by the Taxpayer should be “in connection with” prospecting etc. of mineral oil. It however, does not mandate that such services should be provided directly by the party engaged in prospecting etc. of mineral oil. Reliance in this regard was placed on the Mumbai Tribunal ruling in Micoperi S.P.A. Milano vs. DCIT (2002) 82 ITO 369 (Mum).

Section 115A was not applicable in the present case as payment was received from a NR. The decision in the case of CIT vs. Rolls Royce Pvt. Ltd. 170 Taxman 563 (Uttarakhand High Court) did not apply as in that case the services were rendered to an Indian company whereas in the present case services were rendered to a NR.

Thus services rendered by Taxpayer were covered by section 44BB.

shailesh.kwebmaker

GROWING SIGNIFICANCE OF PREVENTION OF MONEY LAUNDERING ACT, 2002

The Prevention of Money Laundering Act, 2002 [PMLA], which extends to whole of India including Jammu and Kashmir, came into force with effect from 1st July, 2005. Major amendments to the Law were made in the year 2009 and 2012. However, PMLA has been in news in recent past as in many cases PMLA is being regularly invoked and concrete action is visible and in some cases the same has been invoked against professionals closely associated with such persons, as well.

It is therefore, of utmost importance to understand PMLA and its growing significance not only for the professionals in practice but for those in industry as well.

In this article, we have attempted to provide a brief overview of the Law and recent developments relating to PMLA.

SYNOPSIS
1. Background
2. Object of pmla
3. Meaning of money laundering
a) proceeds of crime
b) meaning of the terms ‘property’, ‘person’ ‘offence of cross border implications’
c) scheduled offences
d) major acts covered in the schedule
4. Process of money laundering
5. Impact of money laundering
6. Steps taken by govt. Of india to prevent the menace of money laundering
7. Some recent cases where pmla is invoked
8. Flow of events under pmla
9. Obligations of the reporting entities
10. Possible actions which can be taken against persons / properties involved in money laundering
11. Invocation of pmla against professionals
12. Reciprocal arrangement for assistance in certain matters and procedure for attachment and confiscation of property
13. Conclusion

1. Background
Money-laundering has been a huge challenge for the international community for quite some time. Moneylaundering poses a serious threat not only to the financial and banking systems of countries, but also to their integrity and sovereignty. To obviate such threats, international community has taken various initiatives.

Some of the major initiatives taken by the international community, from time to time, to obviate such threats have been as follows:—

a) the United Nations [UN] Convention Against Illicit Traffic in Narcotic Drugs and Psychotropic Substances, to which India is a party, called for prevention of laundering of proceeds of drug crimes and other connected activities and confiscation of proceeds derived from such offence.

b) the Basle Statement of Principles, enunciated in 1989, outlined basic policies and procedures that banks should follow in order to assist the law enforcement agencies in tackling the problem of money laundering.

c) the Financial Action Task Force [FATF] established at the summit of seven major industrial nations, held in Paris from 14th to 16th July, 1989, to examine the problem of money-laundering had made forty recommendations, which provided the foundation material for comprehensive legislation to combat the problem of money laundering. The recommendations were classified under various heads. Some of the important heads are –

i. declaration of laundering of monies carried through serious crimes a criminal offence;

ii. to work out modalities of disclosure by financial institutions regarding reportable transactions;

iii. confiscation of the proceeds of crime;

iv. declaring money-laundering to be an extraditable offence; and

v. promoting international co-operation in investigation of money laundering.

d) the Political Declaration and Global Programme of Action adopted by UN General Assembly by its Resolution No. S-17/2 of 23rd February, 1990, inter alia, called upon the member States to develop mechanism to prevent financial institutions from being used for laundering of drug related money and enactment of legislation to prevent such laundering.

e) the UN in the Special Session on Countering World Drug Problem Together concluded on the 8th to the 10th June, 1998 had made another Declaration regarding the need to combat money laundering. India is a signatory to this Declaration.

2. Object of pmla
As stated in the Preamble to the Act, it is an Act to prevent money-laundering and to provide for confiscation of property derived from, or involved in, money-laundering and to punish those who commit the offence of money laundering.

3. Meaning of money laundering
The goal of a large number of criminal activities is to generate profit for an individual or a group. Money laundering is the processing of these criminal proceeds to disguise their illegal origin.

Illegal arms sales, smuggling and other organized crimes, including illicit gambling and betting drug trafficking and prostitution rings, can generate huge amounts of money. Embezzlement, insider trading, bribery and computer fraud schemes can also produce large profits and create the incentive to “legitimize” the ill-gotten gains through money laundering. The money so generated is tainted and is in the nature of ‘dirty money’. Money Laundering is the process of conversion of such proceeds of crime, the ‘dirty money’, to make it appear as ‘legitimate’ money. Section 2(p) of the PMLA provides that ‘“moneylaundering” has the meaning assigned to it in section 3.’

Section 3 of the PMLA provides for Offence of Moneylaundering as follows:

‘Whosoever directly or indirectly attempts to indulge or knowingly assists or knowingly is a party or is actually involved in any process or activity connected with the proceeds of crime including its concealment, possession, acquisition or use and projecting or claiming it as untainted property shall be guilty of offence of money laundering.”

a) PROCEEDS OF CRIME – Section 2(1)(u) “
“Proceeds of crime” means any property derived or obtained, directly or indirectly, by any person as a result of criminal activity relating to a scheduled offence or the value of any such property.”

b) MEANING OF THE TERMS ‘PROPERTY’, ‘PERSON’ ‘OFFENCE OF CROSS BORDER IMPLICATIONS’
“(v) “property” means any property or assets of every description, whether corporeal or incorporeal, movable or immovable, tangible or intangible and includes deeds and instruments evidencing title to, or interest in, such property or assets, wherever located;”

Explanation.—For the removal of doubts, it is hereby clarified that the term “property” includes property of any kind used in the commission of an offence under this Act or any of the scheduled offences;”

“(s) “person” includes;—

(i) an individual,
(ii) a Hindu undivided family,
(iii) a company,
(iv) a firm,
(v) an association of persons or a body of individuals, whether incorporated or not,
(vi) every artificial juridical person, not falling within any of the preceding sub-clauses, and
(vii) any agency, office or branch owned or controlled by any of the above persons mentioned in the preceding sub-clauses;”

“(ra) “offence of cross border implications”, means –

(i) any conduct by a person at a place outside India which constitutes an offence at that place and which would have constituted an offence specified in Part A, Part B or Part C of the Schedule, had it been committed in India and if such person 2[transfers in any manner] the proceeds of such conduct or part thereof to India; or

(ii) any offence specified in Part A, Part B or Part C of the Schedule which has been committed in India and the proceeds of crime, or part thereof have been transferred to a place outside India or any attempt has been made to transfer the proceeds of crime, or part thereof from India to a place outside India.

Explanation.—Nothing contained in this clause shall adversely affect any investigation, enquiry, trial or proceeding before any authority in respect of the offences specified in Part A or Part B of the Schedule to the Act before the commencement of the Prevention of Money-laundering (Amendment) Act, 2009.”

c) SCHEDULED OFFENCES

The offences listed in the Schedule to the PMLA are scheduled offences in terms of section 2(1)(y) of the Act. The scheduled offences are divided into three parts – Part A, B & C.

In Part A, offences to the Schedule have been listed in 28 paragraphs and it comprises of offences under Indian Penal Code, Narcotic Drugs and Psychotropic Substances Act, Explosive Substances Act, Unlawful Activities (Prevention) Act, Arms Act, Wild Life (Protection) Act, the Immoral Traffic (Prevention) Act, the Prevention of Corruption Act, the Explosives Act, Antiquities & Arts Treasures Act etc.

Prior to 15th February, 2013, i.e. the date of notification of the amendments carried out in PMLA, the Schedule also had Part B for scheduled offences where the monetary threshold of rupees thirty lakhs was relevant for initiating investigations for the offence of money laundering. However, all these scheduled offences, hitherto in Part B of the Schedule, have now been included in Part A of Schedule w.e.f 15.02.2013. Consequently, there is no monetary threshold to initiate investigations under PMLA.

The Finance Act, 2015, w.e.f. 14-5-2015 has again inserted section 132 of the Customs Act, 1962 relating to false Declaration, false documents etc. in Part B.

Part ‘C’ deals with trans-border crimes, and is a vital step in tackling Money Laundering across International Boundaries.

Every Scheduled Offence is a Predicate Offence. The Scheduled Offence is called Predicate Offence and the occurrence of the same is a pre requisite for initiating investigation into the offence of money laundering.

d) MAJOR ACTS COVERED IN THE SCHEDULE
(i) Indian Penal Code, 1860;
(ii) N arcotic Drugs and Psychotropic Substances
Act, 1985;
(iii) Unlawful Activities (Prevention ) Act, 1967;
(iv) Prevention of Corruption Act, 1988;
(v) Customs Act, 1962;
(vi) SEBI Act, 1992;
(vii) Copyright Act, 1957;
(viii) Trade Marks Act, 1999;
(ix) Information Technology Act, 2000;
(x) Explosive Substances Act, 1908;
(xi) Wild Life (Protection) Act, 1972;
(xii) Passport Act, 1967;
(xiii) Environment Protection Act, 1986;
(xiv) Arms Act, 1959.
(xv) The offence of wilful attempt to evade any tax, penalty or interest referred to in section 51 of the Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act, 2015.

4. Process of money laundering

Money laundering is a single process. However, its cycle can be broken down into three distinct stages namely, placement stage, layering stage and integration stage.

a) Placement Stage: It is the stage at which criminally derived funds are introduced in the financial system. At this stage, the launderer inserts the “dirty” money into a legitimate financial institution often in the form of cash deposits in banks. This is the riskiest stage of the laundering process because large amounts of cash are pretty conspicuous, and banks are required to report high-value transactions. To curb the risks, large amounts of cash is broken up into less conspicuous smaller sums that are then deposited directly into a bank account, or by purchasing a series of monetary instruments (cheques, money orders, etc.) that are then collected and deposited into accounts at another location.

b) Layering Stage: It is the stage at which complex financial transactions are carried out in order to camouflage the illegal source. At this stage, the launderer engages in a series of conversions or movements of the money in order to distant them from their source. In other words, the money is sent through various financial transactions so as to change its form and make it difficult to follow. Layering may consist of several bankto- bank transfers, wire transfers between different accounts in different names in different countries, making deposits and withdrawals to continually vary the amount of money in the accounts, changing the money’s currency, and purchasing high-value items such as houses, boats, diamonds and cars to change the form of the money. This is the most complex step in any laundering scheme, and it’s all about making the origin of the money as hard to trace as possible. In some instances, the launderer might disguise the transfers as payments for goods or services, thus giving them a legitimate appearance.

c) Integration stage: It is the final stage at which the ‘laundered’ property is re-introduced into the legitimate economy. At this stage, the launderer might choose to invest the funds into real estate, luxury assets, or business ventures. At this point, the launderer can use the money without getting caught. It’s very difficult to catch a launderer during the integration stage if there is no documentation during the previous stages.

The above three steps may not always follow each other. At times, illegal money may be mixed with legitimate money, even prior to placement in the financial system. In certain cash rich businesses, like Casinos (Gambling) and Real Estate, the proceeds of crime may be invested without entering the mainstream financial system at all.

The Process of money laundering may be explained simply by way of diagram as follows:

Various techniques or methods used: At each of the three stages of money laundering various techniques can be utilized. Following are the various measures adopted all over the world for money laundering, even though it is not exhaustive but it encompasses some of the most widely used methods:

1. Structuring Deposits: This is also known as smurfing. This is a method of placement whereby cash is broken into smaller deposits of money, used to defeat suspicion of money laundering and avoid antimoney laundering reporting requirements.

Smurfs – A popular method used to launder cash in the placement stage. This technique involves the use of many individuals (the “smurfs”) who exchange illicit funds (in smaller, less conspicuous amounts) for highly liquid items such as traveller cheques, bank drafts, or deposited directly into savings accounts. These instruments are then given to the launderer who then begins the layering stage. For example, ten smurfs could “place” $1 million into financial institutions using this technique in less than two weeks.

2. Shell companies: These are fake companies that exist for no other reason than to launder money. They take in dirty money as “payment” for supposed goods or services but actually provide no goods or services; they simply create the appearance of legitimate transactions through fake invoices and balance sheets.

3. Third-Party Cheques: Counter cheques or banker’s drafts drawn on different institutions are utilized and cleared via various third-party accounts. Third party cheques and travellers’ cheques are often purchased using proceeds of crime. Since these are negotiable in many countries, the nexus with the source money is difficult to establish.

4. Bulk cash smuggling: This involves physically smuggling cash to another jurisdiction and depositing it in a financial institution, such as an offshore bank, with greater bank secrecy or less rigorous money laundering enforcement.

5. Impact of Money laundering
Launderers are continuously looking for new routes for laundering their funds. Economies with growing or developing financial centres, but inadequate controls are particularly vulnerable as established financial centre countries implement comprehensive anti-money laundering regimes. Differences between national anti-money laundering systems are being exploited by launderers, who tend to move their networks to countries and financial systems with weak or ineffective counter measures.

The possible social and political costs of money laundering, if left unchecked or dealt with ineffectively, are serious. Organised crime can infiltrate financial institutions, acquire control of large sectors of the economy through investment, or offer bribes to public officials and indeed governments. The economic and political influence of criminal organisations can weaken the social fabric, collective ethical standards, and ultimately the democratic institutions of the society as is evident in many countries in Latin America. In countries transitioning to democratic systems, this criminal influence can undermine the transition.

If left unchecked, money laundering can erode a nation’s economy by changing the demand for cash, making interest and exchange rates more volatile, and by causing high inflation in countries where criminal elements are doing business. The draining of huge amounts of money a year from normal economic growth poses a real danger for the financial health of every country which in turn adversely affects the global market. Most fundamentally, money laundering is inextricably linked to the underlying criminal activity that generated it. Laundering enables criminal activity to continue and flourish.

Thus, the impact of money laundering can be summed up into the following points:

Potential damage to reputation of financial institutions and market

Weakens the “democratic institutions” of the society

Destabilises economy of the country causing financial crisis

Give impetus to criminal activities

Policy distortion occurs because of measurement error and misallocation of resources

Discourages foreign investors

Encourages tax evasion culture

Results in exchange and interest rates volatility

Provides opportunity to criminals to hijack the process of privatization

Contaminates legal transaction.

Results in provision of financial support toTerrorists activities

6. Steps taken by govt. of india to prevent the menace of money laundering

Government of India is committed to tackle the menace of Money Laundering and has always been part of the global efforts in this direction. India is signatory to the following UN Conventions, which deal with Anti Money Laundering / Countering the Financing of Terrorism:

1. International Convention for the Suppression of the Financing of Terrorism (1999);

2. UN Convention against Transnational Organized Crime (2000); and

3. UN Convention against Corruption (2003).

In pursuance to the political Declaration adopted at the special session of the United Nations General Assembly (UNGASS) held on 8th to 10th June 1998 (of which India is one of the signatories) calling upon member States to adopt Anti Money Laundering Legislation & Programme, the Parliament has enacted PMLA. This Act has been substantially amended, by way of enlarging its scope, in 2009 (w.e.f. 01.06.2009), by enactment of PML (Amendment) Act, 2009. The Act was further amended by PML (Amendment) Act, 2012 w.e.f. 15-02-2013.

7. Some recent high profile cases where PMLA is invoked

A. As per the media reports

a. Chhagan Bhujbal’s case:
Former Deputy Chief Minister of Maharashtra Mr. Chhagan Bhujbal and his family members and various real estate developer firms and other associated with them.

b. Himachal Pradesh’s Chief minister Virbhadra singh and family’s case

c. Former King Fisher Chairman Vijay Mallya’s case

d. FTIL promoter Jignesh Shah in the NSEL’s case

e. Gujarat Cadre IAS Officer Pradeep Sharma’s case

f. Zoom Developers Pvt. Ltd.’s promoters Vijay Choudhary and his co-director Sharad Kabra’s case

g. Lalit Modi’s case

h. Bank of Baroda Money laundering case

i. As per the Law reports

j. B. Rama Raju v. Union of India [2011] 12 taxmann .com 181 (AP)

k. Union of India v. Hassan Ali Khan [2011] 14 taxmann.com 127 (SC)

The number of cases filed under the Prevention of Money Laundering Act, 2002 from the year 2008 to mid-2015 in various High Courts and the Supreme Court are:

The number of cases filed in the Appellate Tribunal under the Prevention of Money Laundering Act, 2002 from the year 2009 till 2014 are:

8. Flow of events under PMLA

The flow of events under PMLA is graphically depicted as follows:

9. Obligations of the reporting entities

Section 2(1)(wa) – “Reporting Entity” means a banking company, financial institution, intermediary or a person carrying on a designated business or profession. Section 2(1)(sa) – Persons carrying on Designated Business or Profession means:-

(i) a person carrying on activities for playing games of chance for cash or kind, and includes such activities associated with casino;

(ii) a Registrar or Sub-Registrar appointed u/s. 6 of the Registration Act, 1908, as may be notified by the Central Government.

(iii) real estate agent, as may be notified by the Central Government.

(iv) dealer in precious metals, precious stones and other high value goods, as may be notified by the Central Government.

(v) person engaged in safekeeping and administration of cash and liquid securities on behalf of other persons, as may be notified by the Central Government; or

(vi) person carrying on such other activities as the Central Government may, by notification, so designate, from time to time.

Obligations [Section 12]

(i) Every reporting entity have to maintain a record of all transactions covered as per the nature and value of which may be prescribed, in such manner as to enable it to reconstruct individual transactions;

(ii) They shall furnish to the Director (FIU) within such time as may be prescribed information relating to such transactions, whether attempted or executed, the nature and value of which may be prescribed;

(iii) They shall verify the identity of its clients in such manner and subject to such conditions as may be prescribed;

(iv) They shall identify the beneficial owner, if any, of such of its clients, as may be prescribed;

(v) They shall maintain record of documents evidencing identity of their clients and beneficial owners as well as account files and business correspondence relating to their clients for a period of five years in case of record and information relating to transactions; and

(vi) They shall maintain the same for a period of five years after the business relationship between a client and the reporting entity has ended or the account has been closed, whichever is later.

10. Possible actions which can be taken against persons / properties involved in money laundering

Following actions can be taken against the persons involved in Money Laundering:-

(a) Attachment of property u/s. 5, seizure/ freezing of property and records u/s. 17 or Section 18. Property also includes property of any kind used in the commission of an offence under PMLA, 2002 or any of the scheduled offences.

(b) Persons found guilty of an offence of Money Laundering are punishable with imprisonment for a term which shall not be less than three years but may extend up to seven years and shall also be liable to fine [Section 4].

(c) When the scheduled offence committed is under the Narcotics and Psychotropic Substances Act, 1985 the punishment shall be imprisonment for a term which shall not be less than three years but which may extend up to ten years and shall also be liable to fine.

(d) The prosecution or conviction of any legal juridical person is not contingent on the prosecution or conviction of any individual.

11. Risk of invocation of pmla against professionals

a. As pointed out above, section 3 of the PMLA dealing with the Offence of Money-laundering provides that ‘Whosoever directly or indirectly attempts to indulge or knowingly assists or knowingly is a party or is actually involved in any process or activity connected with the proceeds of crime including its concealment, possession, acquisition or use and projecting or claiming it as untainted property shall be guilty of offence of money laundering.” Thus, the language of Section 3 of PMLA has widest possible amplitude.

b. As per the media reports, PMLA has been invoked against the Chartered Accountant involved in the Chhagan Bhujbal case.

c. In CBI vs V. Vijay Sai Reddy Criminal Appeal No. 729 of 2013, a case relating to offence under Prevention of Corruption Act, the Supreme Court in its order dated 9th May, 2013, after analysing the facts while cancelling the bail of the respondent Chartered Accountant, observed as follows:

“26) Finally, though it is claimed that respondent herein (A-2) being only a C.A. had rendered his professional advise, in the light of the various serious allegations against him, his nexus with the main accused A-1, contacts with many investors all over India prima facie it cannot be claimed that he acted only as a C.A. and nothing more. It is the assertion of the CBI that the respondent herein (A-2) is the brain behind the alleged economic offence of huge magnitude. The said assertion, in the light of the materials relied on before the Special Court and the High Court and placed in the course of argument before this Court, cannot be ignored lightly.”

d. In order to ensure that a professional is not caught into the quagmire of PMLA it would be advisable to do a proper due diligence and KYC of the prospective clients and to ensure that one does not fall within very broad scope and contours of section 3 of PMLA. In other words, a Professional should ensure that he does not deal with clients who are engaged in various criminal activities included in the Schedule PMLA.

12. Reciprocal arrangement for assistance in certain matters and procedure for attachment and confiscation of property

a. Meaning of “Contracting State”
“Contracting State” means any country or place outside India in respect of which arrangements have been made by the Central Government with the Government of such country through a treaty or otherwise [Section 55].

b. Mechanism to obtain evidence required in connection with investigation into an offence or proceedings under PMLA if such evidence may be available in any place in a contracting State

An application is to be made to a Special Court by the Investigating Officer or any officer superior in rank to the Investigating Officer and the Special Court, on being satisfied, may issue a Letter of Request to a court or an authority in the contracting State competent to deal with such request to—

(i) examine facts and circumstances of the case,
(ii) take such steps as the Special Court may specify in such letter of request, and
(iii) forward all the evidence so taken or collected to the Special Court issuing such letter of request.

Every statement recorded or document or thing received from a Contracting State shall be deemed to be the evidence collected during the course of investigation [Section 57].

c. Mechanism to provide assistance to a Contracting State

Where a Letter of Request is received by the Central Government from a court or authority in a contracting State requesting for investigation into an offence or proceedings under PMLA, 2002 and forwarding to such court or authority any evidence connected therewith, the Central Government may forward such Letter of Request to the Special Court or to any authority under the Act for execution of such request [Section 58].

d. Confiscation of the properties involved in money laundering located in India, where the offence of money laundering has been committed outside India

The properties involved in money laundering located in India, where the offence of money laundering has been committed outside India, can be ordered to be confiscated by the Special Court/Adjudicating Authority on an application moved to the Special Court/ Adjudicating Authority [Sections 58B & 62A].

e. Reciprocal arrangements for processes and assistance for transfer of accused persons

(1) A Special Court, in relation to an offence punishable under section 4 for the service or execution of a summons, a warrant or a search warrant in a Contracting State shall send such summons or warrant, in duplicate, in prescribed form to the Court, Judge or Magistrate through specified Authorities.

(2) Similarly, a summons, a warrant or a search warrant in relation to an offence punishable under section 4, received for service or execution from a Contracting State, shall be served or executed as if it were a summons or warrant received by it from another Court in the said territories for service or execution.

After execution of summon or search warrant received from a Contracting State, the documents or other things produced or things found during search shall be forwarded to the Court issuing the summons or search-warrant through the specified Authority [Section 59].

f. Attachment or seizure of the property involved in money laundering and located in the Contracting State

In such cases, after issue of an order for attachment of any property made u/s. 5 or freezing u/s. 17(1A) or confirmation of attachment by Adjudicating Authority under Section 8 or confiscation by Special Court under Section 8, the Special Court, on an application by the Director or the Administrator may issue a Letter of Request to a court or an authority in the Contracting State for execution of such order as per the provisions of corresponding law of that country [Section 60(1)].

13. Conclusion

India has taken up various Anti-Money Laundering measures to deal with this issue but these measures somewhere or the other have some loopholes or lacunas and thus are not fulfilling their intended purpose. Some of such problems are pointed out below:

a) Growth of Technology: With the advent of technology at such a greater speed, it has been possible for the money launderers to act on obscuring the origin of proceeds of crime by cyber finance techniques. The enforcement agencies are not able to catch up with the speed of growing technologies.

b) Lack of awareness about the problem: The issue of money laundering is growing at a very high pace. Its unawareness among the common public is an impediment for implementation of proper anti-money laundering measures. The poor and illiterate people, instead of going through lengthy paper work transactions in Banks, prefer the Hawala system where there are fewer complexities and formalities, little or no documentation, lower rates and they also provide security and anonymity. Thus, they become unwitting accessories. This is mainly because such people don’t know the seriousness of this crime and are not aware of its harmful after effects.

c) Non-fulfilment of the purpose of KYC Norms: RBI has issued the policy of KYC norms with the objective to prevent banks from being used by criminals for money laundering or terrorist financing activities. However, it does not cease or abstain from the problem of Hawala transactions as RBI cannot regulate them. Further, such norms are only a mockery as the implementing agencies are indifferent to it. Also, the increasing competition in the market is forcing the Banks to lower their guards and thus facilitating the money launderers to make illicit use of the banking system in furtherance of their crime.

d) The widespread act of smuggling: There are a number of black market channels in India for the purpose of selling goods offering many imported consumers goods such as food items, electronics etc. which are routinely sold. The black market merchants deal in cash transactions and avoid custom duties thus offering better prices than the regular merchants. After liberalization of the economy, though this problem has been lessened but it has not been done away with completely and still poses a threat to a nation’s economy.

e) Lack of comprehensive enforcement agencies: The offence of money laundering is no more stuck to one area of operation but has expanded its scope include many different areas of operation. In India, there are separate wings of law enforcement agencies dealing with money laundering, cybercrimes, terrorist crimes, economic offences etc. Such agencies lack convergence among themselves. The issue of money laundering, as we have seen, is a borderless world but these agencies are still stuck with the laws and procedures of the states.

Combating the offence of money laundering is a dynamic process since the criminals involved in it are continuously looking for new ways to do it and achieve their illicit motives.

Apart from that, many a people are of the opinion that money laundering seem to be a victimless crime. They are unaware of the harmful effects of such a crime on the Nation’s economy and Democratic Institutions. So there is a need to educate such people and create awareness among them and therefore infuse a sense of watchfulness towards the instances of money laundering. This would also help in better law enforcement as it would be subject to public examination.

shailesh.kwebmaker

MVAT Amendment (Fifth) Rules, 2016

VAT.1516/CR-86/Taxation-1 dated 6.8.2016

The Government of Maharashtra has issued Notification to amend Rule 17A whereby power has been given to Commissioner to issue Notification to specify order, certificate, notice, intimation or any other document which may be issued in an electronic form with or without digital signature.

New Rule 21A has been inserted with effect from 1.4.2011 to specify class of dealer, commodity and manner to determine fair market price under sec 28A.

shailesh.kwebmaker

MVAT Amendment (Fourth) Rules, 2016

VAT.1516/CR-85/Taxation-1 dated 6.8.2016

The Government of Maharashtra has issued this Notification to amend Rule 52A for set-off in respect of the goods manufactured by mega units and Rule 83A for declaration to be issued by mega units.

shailesh.kwebmaker

Service Tax Liability in case of hiring of goods without the transfer of right to use goods

Circular No. 198/8/2016 dated 17 08 2016

Transfer of Right to use goods for cash, deferred payment or valuable consideration is considered as deemed sales under sub-clause (d) of Article 366(29A) of Constitution of India and consequently liable to Sales Tax/VAT. Whereas in terms of Section 66E(f) of the Finance Act, 1994 transfer of goods by way of hiring, leasing, licensing or in any such manner without transfer of right to use such goods is a “Declared Service “ and hence liable to Service Tax.

The CBEC, vide this Circular has clarified the issue of applicability of service tax on hiring of goods without transfer of right to use of goods in line with the criteria laid down by the Hon’ble Supreme Court in BSNL case.

CBEC has clarified that whether a transaction is a transfer of the right to use the goods or a service is essentially a question of fact which has to be determined in each case having regard to the terms of the contract. The transfer of effective control and possession of the goods in each case is important in determining whether it is a deemed sale or service.

shailesh.kwebmaker

Service Tax on Freight Forwarders on transportation of goods from India :

SERVICE TAX UPDATES

Circular No. 197/7/2016-ST dated 12 08 2016

CBEC has issued this Circular to clarify doubts about “Service Tax liability of Freight Forwarders collecting “Freight”, for shipments moving from Indian Port to any place outside India”.

CBEC has clarified that as per Rule 10 of Place of Provision of Services (POPS) Rules 2012, since destination of the services is outside India, and the freight forwarder is acting as “Principal” therefore, the transaction will not attract Service tax.

CBEC has further clarified that as per Rule 2(f) read with Rule 9 of POPS Rules 2012, if the freight forwarder is acting as pure agent, then services of the freight forwarder will be taxable..

shailesh.kwebmaker

Mahyco Monsanto Biotech (India) Pvt. Ltd., vs. The Union of India And Others And M/S. Subway Systems India Pvt. Ltd V. The State Of Maharashtra And Others, WP. No. 9175 Of 2015 And 497 Of 2015, Dated 11th August, 2016 ( Bom).

(a) Value Added Tax- Transfer Of Technical Know How- Sale- Liable To Vat.
(b) Value Added Tax- Frenchise Agreements- Not A Transfer Of Right To Use- Not A Sale- Not Liable For Vat, Schedule Entry C-39 of The Maharashtra Value Added Tax Act, 2002.

Facts
i) The Petitioner Monsanto India, a joint venture company of Monsanto Investment India Private Limited (“MIIPL”) and the Maharashtra Hybrid Seeds Co. Monsanto India developed and commercialized insect-resistant hybrid cotton seeds using a proprietary “Bollgard Technology”, one that is licensed to Monsanto India by Monsanto USA through its wholly-owned subsidiary, Monsanto Holdings Private Limited (“MHPL”). This technology is further sublicensed by Monsanto India to various seed companies on a non-exclusive and nontransferable basis to use, test, produce and sell genetically modified hybrid cotton planting seeds. In return for this technology, Monsanto India received trait fees based on the number of packets of seeds sold by the sub-licensees. These sub-licensing agreements, with almost 40 seed companies, were the transactions in question. The petitioner paid service tax on these transactions and did not paid vat. The department levied vat on these transactions treating transfer of technical knowhow as sale liable to vat. The petitioner file writ petition before the Bombay High Court.

ii) In other case the petitioner Subway was granted a non-exclusive sub-license by Subway International B.V. (“SIBV”), a Dutch limited liability corporation to establish, operate and franchise others to operate SUBWAY – branded restaurants in India. This non-exclusive license was granted to SIBV itself by Subway Systems International Ansalt, which in turn was granted such a license by Doctor’s Associates Inc., an entity that owns the proprietary system for setting up and operating these restaurants. These restaurants serve sandwiches and salads under the trade mark ‘SUBWAY’. The agreement includes not only the trade mark SUBWAY, but also associated confidential information and goodwill, such as policies, forms, recipes, trade secrets and the like. Typically, Subway enters into franchise agreements with third parties, under which it provides specified services to the franchisee. In return, the franchisee undertakes to carry on the business of operating sandwich shops in Subway’s name. The agreement only provides for a very limited representational or display right, and the franchisee cannot transfer or assign these exclusive rights to any third person. Subway also reserves the right to compete with these franchisees in the agreement. Under this agreement, Subway received two kinds of consideration, one being a one-time franchisee fee which is paid when the agreement is signed; and the second is a royalty fee paid weekly by the franchisee on the basis of its weekly turnover. Under these agreements, the franchisees have no more than a right to display Subway’s intellectual property in the form of marks and logos, and a mere right to use such confidential information as Subway discloses and as prescribed by the franchise agreement. Since September 2003, Subway was paying service tax to the Union of India on the consideration received by it from the franchisees. The vat department took the view that this consideration should be subject to VAT and passed the orders levying tax, interest and penalty against which the Subway filed writ petition before the Bombay High Court.

The High Court disposed both writ petitions by common order.

Held
(a) In first case the High Court held that the first question is whether there is a ‘transfer’ within the meaning of Article 366(29A)(d) the answer is yes. It is true that the essence of a ‘transfer’ is the divesting of a right or goods from transferor and the investing of the same in the transferee, and this is what Salmond on Jurisprudence and Corpus Juris Secundum both say. The seeds embedded with the technology are, in fact, transferred. Monsanto India is divested of that portion of the technology embedded in those fifty seeds and those were fully vested in the sub-licensee. It is not correct to say that the effective control of the ‘goods’ is with Monsanto India. The effective control over the seeds, and, therefore that portion of the technology that is embedded in the seeds, is entirely with the sub-licensee. That sub licensee is not bound to use the seeds (and the embedded technology) in accordance with Monsanto India’s wishes. Monsanto India cannot further dictate to the sub-licensee what he or it may do with these technology-infused seeds. The sub-licensee can do as it wishes with them. It may not use them at all. It may even destroy the seeds. Once the transaction is complete, i.e., once possession of the technology-imbued seeds is effected, and those seeds are delivered, Monsanto India has nothing at all to do with the technology embedded in those fifty seeds given to the sub-licensee. At no point does Monsanto India have access to this portion of the technology. In other words, the transfer is to the exclusion of Monsanto India. Further, the High Court held that the Monsanto India sub-licensing transaction could only be a service in one circumstance, i.e., if the seed companies gave Monsanto India a bag of seeds to mutate and improve with the Bollgard Technology which would, thereafter, be returned to the seed companies. That might perhaps be a service contract. Accordingly, the High Court held that it is a clear case of sale of goods liable to tax (Vat).

As regards plea of petitioner for transfer of the amount paid as service tax from the Consolidated Fund of India to the Consolidated Fund of State of Maharashtra, the High Court did not give any direction and left it to Monsanto India to adopt suitable proceedings in this behalf, and left their contentions open to the necessary extent.

(b) It is not true that the eligibility of Vat is to be determined by the State, and therefore it could levy sales tax on a transaction which already attracts service tax. The decisions in BSNL, Imagic Creative, and Associated Lease Finance are exactly on this. Service Tax and Sales Tax are mutually exclusive of each other. The agreement between Subway and its franchisees is not a sale, but it is in fact a bare permission to use. It is, therefore, subject only to service tax. The fact that the agreement between Subway and its franchisee is limited to the precise period of time stipulated in the agreement is vital to Subway’s case. At the end of the period of the agreement, or before in case there was any breach of its terms, the right of the franchisee to display the mark ‘Subway’ and its trade dress, and all other permissions would also end. This is what sets this agreement apart from the case of Monsanto and its sub licensee. There, the seed companies could do as they pleased with the seeds; they could alienate or even destroy them. In Subway’s case, there are set terms provided by the agreement which have to be followed. A breach of these would result in termination of the agreement. There is no passage of any kind of control or exclusivity to the franchisees. In fact, this agreement is a classic example of permissive use. It can be nothing else. For all the reasons in law and fact that the sub-licensing of technology in Monsanto is held to be a transfer of right to use, this franchising agreement must be held to be permissive use. It does not mean every franchise agreement will necessarily fall outside the purview of the amended MVAT Act. There is conceivably a class of franchise agreements that would have all the incidents of a ‘sale’ or a ‘deemed sale’ (i.e., a transfer of the right to use). Black’s Law Dictionary defines a franchise, in the context of a commercial transaction as: “The sole right granted by the owner of a trade mark or a trade name to engage in business or to sell a good or service e in a certain area”.

On facts, the High Court found that the Subway franchise does not meet these tests. There is no such exclusivity. The agreement itself says that Subway may itself open and operate its own outlets in direct competition with the franchisee. The agreements themselves expressly contemplate that Subway may create further franchisees in the very area in which these franchisees operate. The franchisee cannot unilaterally sub-franchise. The right of transferability is extremely restricted and it is impossible without Subway’s control throughout. Similarly, if there is no requirement of having to cease display and use or return the intangible property at the end of the franchise agreement’s term, then the transaction might arguably be a sale. Exercises in co-branding or sub-branding, where one party franchises its mark on a territorially-restricted basis and allows the franchisee to combine it with its own or other marks may also well have an element of sale. Similarly, where a dealership for, say, automobiles, has a territorial exclusivity, then it may amount to a franchise. The Subway franchise model has none of these elements. The so-called ‘system’ is controlled by Subway and it is exclusive to Subway. At the end of the franchise term, it cannot be used. The agreement gives Subway deep and pervasive control and dominion over the franchisee’s daily operations, without, at the same time, ceding to the franchisee the slightest hint or latitude in what it may do with the permitted marks and technology. This is, therefore, diametrically opposed to the Monsanto model, for Monsanto India has no control whatever in what its licensee does with the BT-infused donor seeds; that licensee may choose not to use them at all. There is also no question of any ‘return’ or ‘cessation’ to Monsanto India. Thus, viewed from any perspective, and on the facts of the case, the Subway franchise agreements does not have any of the necessary elements of a sale or a deemed sale.

Equally, the High Court rejected any general proposition to the effect that anything that is nothing but a service can be artificially converted into or treated as a sale merely by the insertion of an omnibus clause in a state-level taxing statute. To accept this argument, one would have to accept that the State Legislature can encroach upon the legislative powers of the Union in respect of items in the Union List simply by inserting such amendments that would by some process of fiscal and legal alchemy convert a pure service into a sale. The introduction of the word ‘franchise’ in the amended MVAT Act by way of a notification will have to be read to mean those franchises that can reasonably and plausibly be construed to have the effect of a sale; it cannot be widened to include agreements styled as ‘franchise’ agreements simply because of the nomenclature. Presumably, what the Legislature intended was to include only those franchise agreements that involved a transfer of the right to use or some other aspect of a deemed sale as defined under Article 366(29A) of the Constitution. The Subway’s franchise agreement grants to the franchisee nothing more than mere permissive use of defined intangible rights. It is therefore a service, and is not amenable to VAT .

Accordingly, the High Court disposed both writ petitions.

shailesh.kwebmaker

Smt. B. Narsamma vs. The Deputy Commissioner Commercial Taxes, Karnataka & Anor., Civil Appeal Nos. 4149 of 2007,4318 of 2007,.4319 OF 2007, 7400 of 2016 , 7401-7872 of 2016 and 7873- 7916 of 2016, dated 11th August, 2016, (SC).

a) Value Added Tax – Works Contract – Use of Reinforced Iron and Steel used in Construction –Remains Declared Goods – Liable to tax @ 4%.
b) Value Added Tax- Works Contract – Use of Iron and Steel for Fabrication of Doors and Windows – Which are Used in Construction- Does not Remain Iron and Steel – Not Exempt From Payment of Tax, section 5B of The Karnataka Sales Tax Act, 1957 and section 4 of The Karnataka Value Added Tax Act, 2003.

FACTS
The group of appeals, concerning the rate of taxability o f declared goods i.e. goods declared to be of special importance u/s. 14 of the Central Sales Tax Act, 1956 were filed before the SC. The common issue involved in all these appeals was whether iron and steel reinforcements of cement concrete that are used in buildings looses their character as iron and steel at the point of taxability, that is, at the point of accretion in a works contract. All these appeals came from the State of Karnataka relatable to the provisions of the Karnataka Sales Tax Act, 1957, post 01.04.2005, and relatable to the Karnataka Value Added Tax Act, 2003. The facts in these appeals were more or less similar. Iron and Steel products were used in the execution of works contracts for reinforcement of cement, the iron and steel products becoming part of pillars, beams, roofs, etc. which were all parts of the ultimate immovable structure that is the building or other structure to be constructed.

In the other case appellant engaged in works contracts of fabrication and creation of doors, window frames, grills, etc. in which they claimed exemption under rule 6(4) of The Karnataka Sales Tax Rules, 1957, for iron and steel goods that went into the creation of these items, after which they said doors, window frames, grills, etc. were fitted into buildings and other structures. The High Court denied the exemption as the iron and steel is not used in the same form in which it was purchased against which appeal was filed by the appellant.

The SC heard all those appeals and delivered a common judgment.

HELD
Given the fact, situation in those appeals relating to use of iron and steel for reinforcement of cement for construction of building, the SC held that where, commercial goods without change of their identity as such, are merely subject to some processing or finishing, or are merely joined together, and therefore remain commercially the same goods which cannot be taxed again, given the rigor of section 15 of the Central Sales Tax Act. Accordingly it is taxable as declared goods attracting rate of 4% under both acts.

In case of use of iron and steel for fabrication and creation of doors, window frames, grills, etc. which were fitted into buildings and other structures the SC held that the iron and steel goods, after being purchased, are used in the manufacture of other goods, namely, doors, window frames, grills, etc. which in turn are used in the execution of works contracts and are therefore not exempt from payment of tax.

Accordingly, the SC disposed all these appeals.

shailesh.kwebmaker

2016 (43) STR 301 (Tri.-Bang.) Kirthi Constructions vs. CCE. & ST., Mangalore

Even if refund of service tax is on account of mistake of law, provisions of “time bar” and ‘unjust enrichment’ would apply.

Facts
Refund of service tax paid on construction services was claimed as it was not leviable to service tax. Appellants contested that since service tax was paid by mistake of law and it was not collected from buyers, refund claim cannot be held as time barred. Revenue demanded service tax as it was not a case of self-service, service tax was collected from buyers and in any case, the refund was time barred.

Held
Since the typical arrangement was that the Appellants were first selling the plot of land and then the buyer was appointing the Appellant for construction, it was covered by the exclusion clause of construction services. Accordingly, no service tax was payable. Relying on Hon’ble Supreme Court’s decision in case of Mafatlal Industries Ltd. vs. UOI (1997 (89) ELT 247 (SC)), it was held that all refund claims except unconstitutional levies have to pass the test of limitation of one year (time bar) and non-passing of service tax burden to buyers (unjust enrichment).

shailesh.kwebmaker

2016 (43) STR 280 (Tri.-Mum.) JSW Steel Coated Products Ltd vs. CCE, Thane II

CENVAT credit eligibility for input services and capital goods for generation of electricity which is partly consumed captively and partly sold to MSEB.

Facts
The Appellant is a manufacturer of excisable goods and had installed power plant for generating electricity. Some proportion of electricity generated was consumed captively and balance was sold. CENVAT credit on capital goods was rejected on the ground that they were used for the sale of electricity. Further, in view of non-maintenance of separate records for captive consumption and sale of electricity, demand was raised for payment on value of electricity sold vide Rule 6 (3) of CENVAT Credit Rules, 2004. It was argued that when exclusively used for exempted production CENVAT credit on capital goods is not available. Further, CENVAT credit on input services was taken at the end of the month having regard to the actual captive consumption and therefore, proper records were maintained and therefore, CENVAT credit was not deniable and no payment was required to be made as per Rule 6 (3).

Held
Relying on the decision of H.E.G. Ltd. 2012 (275) ELT 316 (Chhattisgarh), it was held that since capital goods were not exclusively used in electricity sold, CENVAT credit cannot be denied. Further CENVAT credit was not availed on input services used in generation of electricity sold and therefore, relying on the decision of Hon’ble Supreme Court in case of Maruti Suzuki Ltd. 2009 (240) ELT 641 (SC), payment was not required to be made under Rule 6 (3).

shailesh.kwebmaker

Coparcener – Vested right after adoption – A coparcener/son continues to have vested right in joint family property of birth even after adoption. [Hindu Adoptions and Maintenance Act, 1956, 12(b); Hindu Succession Act, 1956, Section 30].

Purushottam Das Bangur AIR 2016 Cal. 227.

In the present case, son (born in a Mithakshara Undivided Hindu Family) given in adoption filed a caveat in the proceedings for probate of the will of his deceased natural father. The propounders seeking probate of the will asked for the discharge of the caveator on the ground that the caveator being given in adoption, had ceased to have any right in the natural family in view of the provisions of section 12(b) of the Hindu Adoptions and Maintenance Act, 1956. The Propounders relied upon decisions of Devgonda Raygonda Patil vs. Shamgonda Raygonda Patil & Anr AIR 1992 Bom 189 and Santosh Kumar Jalan vs. Chandra Kishore Jalan & Anr AIR Patna 125, wherein it was held that until the joint family property is partitioned, there can be no vesting i.e. only if the Joint property is partitioned before the adoption, only then does the coparcenor continue to have a vested right in Joint family property even after adoption.

However, the Court, taking a contrary view held that, a vested interest in a property is understood to mean that a person has acquired proprietary interest therein. However, the enjoyment of such proprietary interest may be postponed till the happening of a certain event. Once that event happens such person would enjoy proprietary rights in respect of the property. A coparcener in a Mitakshara coparcenary acquires an interest in the properties of the Hindu family on his birth. His interest is capable of variation by events such as birth, adoption or death in the coparcenary. In the event of a partition of the coparcenary, a coparcener is entitled to a share of the properties belonging to joint Hindu family. On partition his share gets defined. He can still continue to enjoy his share in jointness with other family members or he can ask for partition of the properties by metes and bounds in accordance with the shares. On partition his share gets defined. This interest which the coparcener in a Mitakshara family acquires by his birth in the natural family continues to remain with him in spite of the adoption in view of section 12(b) of the Hindu Adoptions and Maintenance Act, 1956.

shailesh.kwebmaker

Twitter Treats

When the Constitutional Amendment Bill to pave the way for GST was passed, the world of Twitter was flooded with GST related tweets. Some of these are shared below for our readers:

@adhia03
We are ready with state of art IT design for GST implementation. Hardware and software will all be ready for testing by january 17.

@v_shrivsatish
Passing of 15 bills including that of GST shows the maturity and the real spirit of cooperative federalism reflected by meaningful debates.

@bhawnakat
In the Lists of items that can’t be understand GST reached at second place!! Wife’s mood still on top

@MVenkaiahNaidu
Congrats to d people of Assam and its CM Shri @ sarbanandsonwal 4 becoming d 1st State 2 ratify GST bill. This time North East has taken lead

Twitter Storm of the month
Often, a controversial tweet by a well known personality causes a storm in the world of social media. This month, there was one such controversial tweet by well known socialite Shobhaa De. Her tweet criticising the Indian contingent’s performance at the Rio Olympics evoked immediate response. Her tweet and some of the responses are reproduced below:

@DeShobhaa
Goal of Team India at the Olympics: Rio jao. Selfies lo. Khaali haath wapas aao. What a waste of money and opportunity.

Abhinav Bindra @Abhinav_Bindra
@DeShobhaa that’s a tad unfair. You should be proud of your athletes perusing human excellence against the whole world.

Nishant Gambhir @madnish30 Aug 8
Not even worth a selfie. If scaring babies was Olympic sport, @DeShobhaa would strike gold!

Ra_Bies@Ra_Bies
By the time our kids put their feet in the swimming pool & scream “Mummy paani bahut thhanda hai”, Micheal Phelps wins another gold medal

#USA @CJBForHeisman Aug 8
If you ever feel useless just remember that someone is a lifeguard for the Olympic #swimming events Ra_Bies

@Ra_Bies 2h2 hours ago
Bill for 6 months maternity leave for women passed. Too glad, ultimately parliament delivered

Zeddonymous @ZeddRebel Aug 10
Trump voter: “I like Trump because he says exactly what he means.” Trump: ‘Somebody shoot my opponent’ Trump voter: ‘He didn’t mean that’

@_Buddha_Quotes
Let no one deceive another or despise anyone anywhere, or through anger or irritation wish for another to suffer.

@FinMinIndia
Till 5th August 2016, about 20.81 lakh refunds for AY 2016-17(current year returns) totaling Rs 2,922 crore have been issued by IT dept

And here are this month’s recommendations of famous people that you can follow. This time, the celebrities are from the corporate world.

Aanand Mahindra @anandmahindra
Harsh Mariwala @hcmariwala
Kiran Mazumdar Shaw @kiranshaw
Nita Mukesh Ambani @NitaMAmbani
Bill Gates @BillGates
Richard Branson @richardbranson
Ronnie Screwvala @RonnieScrewvala
Uday Kotak @udaykotak
Sajjan Jindal @sajjanjindal59
Harsh Goenka @hvgoenka

shailesh.kwebmaker

Banking overhaul

Most of the current discussion on Indian banks is naturally focused on the bad loans mess.

Reserve Bank of India governor Raghuram Rajan has done well to highlight more fundamental challenges as well. The banking system is a mess at various levels. The multiplicity of regulators has led to poor outcomes. Bank boards have few powers. The government often uses the banks it owns to further its political goals. There is no reason to have central bank appointees on bank boards. The lack of talent means a missing middle in organizational charts. Bank officials are often generalists rather than specialists.

All this creates a problem of perverse incentives.

An organizational overhaul is overdue. So is a regulatory one. But these will take time. The longer they take, the more market share will public sector banks lose to more nimble private sector competitors. People in the financial markets are already describing the process as privatization by stealth. Will it be the airlines story all over again?

(Source: Mint Newspaper dated 17-08-2016)

shailesh.kwebmaker

Lesson for the state

Abhinav Bindra bowed out of the Olympics and signed off on his career with a brave performance that came within a whisker of securing him another medal. Sania Mirza and Rohan Bopanna suffered heartbreak in the tennis mixed doubles semi-finals. Dipa Karmakar has pushed herself to the limit, as has the rest of India’s Olympics contingent. Union sports minister Vijay Goel, meanwhile, has managed to earn an official rebuke from organizers who threatened to cancel his accreditation for allegedly unbecoming and aggressive behaviour.

This feels like a teachable moment-a particularly apt one at the time of India’s 70th Independence Day.

Ordinary citizens trying to do their best while the state absents itself from giving them adequate support? Check. The state making its presence abundantly known where it has no business? Also check.

We’ve seen this plenty of times before in every walk of life. It’s time to actually learn the lesson.

(Source: Mint Newspaper dated 15-08-2016)

shailesh.kwebmaker

Waiting for justice: Resolve the faceoff over judges’ appointments fast, it is really hurting citizens

In the year 2016 Indians deserve a modern and streamlined judicial system. Instead what they are stuck with is a deficient structure groaning under a great pendency of cases. And the crisis only seems to be worsening, as a bench headed by Chief Justice T S Thakur has accused government of bringing the judiciary to a standstill by stalling judges’ appointments.

This eyeball to eyeball confrontation is part of a prolonged battle over the procedure to appoint judges. While the judicial collegium is criticised for opacity and favouritism, the National Judicial Appointments Commission, which envisaged a broader panel to choose judges and was passed by Parliament, was struck down by the apex court in October 2015.

The longer government and the collegium take to finalise a new memorandum of procedure to appoint HC and SC judges, the more citizens awaiting justice suffer. In practical terms, the high courts are now operating with 44.3% vacancies; pendency has risen to four million cases.

Any attempt at securing justice is an ordeal on its own, and financially ruinous for many people. As the CJI himself has noted, “By the time an appeal can be heard, the accused would already have served a life sentence.” Clearly the current clash of wills between the executive and the judiciary has only worsened matters. Remember that appointments had also remained frozen for nearly a year when the apex court scrutinised the constitutional validity of the proposed NJAC. Instead of wallowing on their respective sides of the legal logjam, both government and the judiciary must show much more teamsmanship – not only to finalise a new procedure to appoint judges but also to implement broader reforms to remedy judicial delays.

(Source: The Times of India dated 15-08-2016)

shailesh.kwebmaker

Representation in respect of the Model Goods and Services Tax Law.

18th August, 2016

To,
Mr. Ravneet Khurana,
Deputy Commissioner (GST),
CBEC, Ministry of Finance,
Directorate General of Goods & Service Tax
NACEN, Centre of Excellence, 3rd Floor,
Tower 3 & 4, NBCC Plaza, Pushp Vihar,
Sector -5, Saket, New Delhii- 110017.

Dear Sir,

Subject:- Representation in respect of the Model Goods and Services Tax Law.

We enclose herewith our representation and suggestions in respect of the Model Goods & Service Tax Law, for your consideration.

We sincerely hope that our representation would receive favourable consideration.

Thanking you,
We remain,
Yours truly,

For Bombay Chartered Account ants ‘ Society

Chetan Shah
President

Govind G. Goyal
Chairman – Indirect Taxation Committee

GOODS AND SERVICE TAX SUMMARY OF IMPORTANT REPRESENTATIONS

1. Structure Of GST

1.1. Currently, the role of the GST Council under Article 279A is merely “recommendatory” in nature. This could result in some States deviating from the model GST law or the substantive provisions therein. Since GST is an indirect tax ecosystem, with each constituent dependent on another for smooth implementation of the law, it is suggested that though the role of GST Council under Article 279A is merely “recommendatory” in nature, the Centre as well as the States respect all the recommendations made by the GST Council and do not deviate from the same.

1.2. One important reason for the implementation of GST is to bring about uniformity of taxation across the country. It is therefore strongly recommended that the exemptions, rate of tax, classification and all other rules should be uniform for all the States. It may be noted that any deviation by a particular State can result in tax arbitrage, distortion of business processes and increased business compliances. Further it would also complicate the operations of the GST Network and could derail the entire GST Mechanism in the country.

1.3. The Constitution as well as the model GST Laws provide for the notification of the effective date from which GST will be implemented. It is recommended that this effective date should be common for all the States and that GST should be implemented from the first date of any financial year. Further, it is recommended that sufficient time should be provided to the industry and the Department Officers to prepare for GST and therefore, all relevant information should be made available in public domain at earliest opportune time.

2. SUPPLY

2.1. Section 3(1) and Schedule I of the model GST Law provides for taxation of supplies whether they are made for a consideration or otherwise. This can result in many difficulties and unforeseen situations of tax liabilities. Essentially, free supplies of not only goods but also services will become taxable. For example, retail chains providing products under free scheme would be required to discharge GST. Similarly, a common citizen downloading free software from the internet and using websites like Google, Facebook, etc. will be exposed to GST. Volunteers and NGOs will also be required to discharge GST on activities carried out by them without any charge.

2.2. It is therefore recommended that supplies should be taxed only if there is a consideration. Supplies made without consideration, especially in the case of services, should not be taxed.

2.3. Further, if the intent is to tax branch transfers, only such branch transfer of goods should be deemed to be supply and the term should be clearly defined to include only goods transferred from a branch in one State to another branch in another State for the purposes of further manufacture or resale.

2.4. The proviso inserted in Schedule I excludes supplies to the job worker following procedure under Section 43A. As per Section 43A, there is requirement to obtain permission from the Commissioner for such exempt movement of goods on account of job work. Such requirement for permission would not only increase the process time but would also conflict with the core attribute of GST being system driven.

3. NATURE OF SUPPLY

3.1. Under the model GST Law, on a reading of the definition of goods u/s 2(48) and services u/s 2(88), it appears that only supply of money and employment services are excluded from the scope of supply. This results in certain cases where the transaction is essentially of investment and not of consumption (like immoveable properties and securities) becoming liable for GST.

3.2. It is therefore recommended that supplies of immoveable properties and securities should be excluded from GST

4. TIME OF SUPPLY

4.1. Sections 12 and 13 of the model GST Law provides for complicated provisions requiring discharge of GST at the earliest of 4-5 trigger points. This should be done away with, since the provisions relating to time of supply do not create a tax liability but only state the time of paying the liability

4.2. It is therefore recommended that the time of supply should be the date of invoice. As an anti-avoidance measure, if required, the law may prescribe a maximum time (currently 30 days under the service tax law) from the date of removal of goods/ completion of service for the raising of the invoice

5. VALUE OF SUPPLY

5.1. The model GST Law provides for inclusion of various amounts in the value of the taxable supply. Since each of the specific inclusions in the value under Section 15(2) is an independent supply liable for GST, such inclusions are uncalled for and would result in double taxation. It is therefore recommended that the provisions for such notional inclusions should be done away with and only the consideration should be included in the value of supplies

6. PLACE OF SUPPLY

6.1. High Seas Sale should be excluded from the purview of IGST since the subsequent transaction is a subject matter of Customs Duty

6.2. The benefit of ‘zero rating’ provided under Section 2(109) to exports should be extended to deemed exports and supplies to SEZ, EOU and STP

6.3. It should be clarified that the location of supplier under Section 2(65) would be determined based on the person/establishment entitled to receive the consideration, this would bring parity with the definition of location of recipient of service.

6.4. Section 6(4) provides for the source rule in case of services connected with immoveable property. The said rule should cover only services “directly in relation to immovable property…” and should not cover services connected with vessels since they are moveable in nature

6.5. In case of re-classification issues between IGST vs. CGST/SGST, the respective Governments should internally transfer the funds and not require the assessee to once again pay the tax. Similar relaxation should be provided in case of issues of interpretation of place of supply in case of IGST transactions. Section 30 of the IGST Act may be suitably amended.

7. INPUT TAX CREDIT
7.1. Since GST has comprehensive coverage, all credits should be allowed. In fact the FA Q issued by the Government clearly acknowledges that it is a tax on value addition at each stage and there would be no cascading effect. In the light of this core aspect of GST, the restrictions provided under Section 16(9) should be done away with.

7.2. Genuine Credit should not be denied merely due to non reflection in the GST Network. The provisions for reversal of credit on account of mis-match under Section 29 should be done away with.

7.3. Non payment of tax by the vendor should not result in denial of credit to the taxpayer. The condition under Section 16(11)(c) should be deleted.

7.4. Input Service Distributor should be permitted to freely transfer the credits to any of its’ branches. Provisions of Section 17 should be suitably amended.

7.5. The current CENVAT Credit Rules defer the entitlement of credit in certain cases to a future date. While transition provision has been enacted for the claim of credit of second instalment of capital goods, many other transition provisions are not incorporated. It should therefore be provided that in all cases where the credit would have been allowable under the erstwhile CENVAT Credit Rules, the same should be permitted under the GST Law as well. Some examples are listed below

• Re-credit of service tax under proviso to Rule 4(7) in case of delayed payment to the vendor.
• Re-credit of amount revered under Rule 6(3) on finalisation of ratio of exempted turnover to total turnover
• Delayed receipt of invoices from the vendors
• Staggered Credit in respect of Spectrum Payments

8. RATES AND EXEMPTIONS
8.1. Threshold of Aggregate Turnover of Rs. 10 lakhs is across all States, includes exempted and exported supplies and therefore is fairly low when compared to the excise threshold of Rs. 150 lakhs. This will result in substantial hardship to small entrepreneurs. Further, this will also result in substantial increase in the number of assesses to be administered by the Centre (a rough estimate suggests at least 40 times the current bench strength), resulting in a huge pressure on the officials as well as on the network. It is therefore suggested that the aggregate turnover for exemption should be Rs. 50 lakhs with an optional compounding scheme upto Rs. 150 lakhs.

8.2. Exemption provided for agriculturist under Section 9 needs to be extended to cover agricultural produce throughout the supply chain. Further the definition of agriculture under Section 2(7) needs to be widely provided and activities like poultry, diary, etc. should be considered as part of agriculture.

8.3. At present, various tax exemptions are provided to units set up in specific areas. The said exemptions should also continue under the GST law since the units were set up in those areas due to the tax benefit provided. The government should provide clarity on the same.

8.4. In view of the comprehensive coverage and the self policing nature of GST, the base for taxation would increase fundamentally. Therefore, the revenue neutral rate suggested by the Arvind Subramaniam Committee is fair and adequate to meet the revenue requirements of the Centre and the States. It is therefore recommended that the standard rate of GST should not be higher than 18%.

8.5. The rates of GST need to be realigned considering the current rate structures. Many products which are currently exempted or liable for a very low rate of tax should not be directly moved to the RNR but either the exemption should be continued or such products should be kept under the merit rate.

9. REFUND
9.1. Section 38 allows refund only in two situations i.e. Export and Inverted Duty Structure. However, refund should also be allowed in cases where the credit which is accumulated due to other reasons.

10. PROCEDURAL ASPECTS

10.1. The model GST Law provides for strict timeline for various compliances as under
• Filing of Details of Outward Supplies by 10th
• Filing of Details of Inward Supplies by 15th
• Filing of Return by 20th

10.2. S ince transaction level details are to be uploaded onto the GST Network, the above timelines are too short. Considering the diversity of the country, with frequent power cuts and unavailability of internet network in many parts of the country, these timelines cannot be complied with. Further, the volume of data to be uploaded on the GST Network is unprecedented and we do not have any prior benchmark of the same. Therefore, it is suggested that for the first two years, the time lines provided above should be relaxed and based on the stability of the new system, the timelines can be revisited

10.3. There is no justification to subject the taxpayer to two assessments for the same base and similar law. It is suggested that some suitable allocation of the taxpayers be decided such that some taxpayers are assessed by the State Authorities and some taxpayers are assessed by the Centre.

10.4. There are very wide powers to make rules, prosecution, confiscation, etc. which should be avoided. All such provisions merely result in harassment of the asssesees and reduce the ‘ease of doing business’ without any corresponding benefit to the exchequer.

shailesh.kwebmaker

Brexit- A Few Thoughts

Query:
Why Britain separated from EU? What are its implications on – Britain, EU, and on India.

I submit my views.

Summary:
Britain is already on a downward slide. By exiting from European Union, it has hastened its fall. It is a non-event for rest of the world. Unless…the Britishers wake up and put their act together.

There is nothing unique in Britain’s tendency to bring harm upon itself. India has done it repeatedly. US is doing it right now very seriously.

1. Details.
History is Process Driven :
In studying human history, we tend to look at events. This is micro view. It would be better to look at the whole process that has resulted into the event; and then see:

(i) What caused the event;
(ii) If the process continues, what can be the consequences; and
(iii) If the process stops or reverses itself, what can be the consequences.

For this we also have to consider the human psychology, and the laws of philosophy. Realise that the process itself consists of several cycles – some virtuous cycles and some vicious cycles. The cycles keep changing in several manners – speed, intensity, direction etc. The interaction of all these cycles produces several events. We notice some.

This may be the practical Macro view, encompassing more than what the economists call a “Macro View”.

2. The British Process of Exit:
2.1 The Britishers left EU because, they still believe – majority still believes – that they are superior to rest of the world. (This is a universal human weakness). And their currency – Pound sterling is the best currency. They cannot be subordinate to anyone. EU was perceived as – making them lose their sovereignty and hence unacceptable. This was the first cause.

2.2 British economy is downhill. There is unemployment. The American economic crisis of the year 2008, has only exacerbated the British economic crisis. All the supply of additional money (Bail outs & Quantitative Easing) has not lifted the economy. People who are unemployed are dissatisfied with their own Government; EU Government and with many other causes that they can identify. After changing the British Governments, economy has not improved. So what do you do? Can’t change EU Government. So leave EU.

2.3 The U.K. current account deficit at 7% is an all-time high. With Brexit this deficit is likely to increase. This will devalue the sterling pound further. However, some believe it is good for Britain. Hence leave EU.

2.4 Despite the fact that British economy is down, the perception of majority of Britishers is that EU is dysfunctional and is a sinking ship. So leave EU.

2.5 The EU policy is that any citizen of EU can move anywhere within EU and can settle down anywhere that he likes. People from Eastern Europe and many countries where economy is far worse than in UK, did migrate into the UK and started working there for a lower pay. This was perceived as causing unemployment amongst the Britishers. This perception ignored the fact that many Britishers live in EU.

2.6 The Syrian refugee crisis exacerbated the fear of unemployment. Sheer number of refugees, and the fact that almost all of them were Muslims, made them unacceptable. And then media publicized news that the refugees were raping European women, terrorists enter Europe with refugees etc. These are big reasons for making refugees unacceptable. But refugees cannot be prevented from entering Britain as long as Britain is part of EU. So leave EU.

Remember the year 1971 when more than a crore of Bangladeshi refugees came into India. Western World advised India to accept them on humanitarian grounds. The refugees are still in India. At Wadala – Antop Hill, there is a whole area known as Bangladeshi Colony. This is just one of the areas spread all over India.

Also note that the USA – which is at the root of the Syrian crisis is not affected by the refugee crisis.

2.7 Then came a sheer coincidence. Cameron made a promise in his election campaign that he will call for a referendum – ‘whether UK should continue in the EU or not’. Having made the promise, when he won election, he was duty bound to call for the referendum. Cameron himself believed that UK should continue with the EU. He had made the promise just to get more votes. If no referendum was called, there would be no exit. But the referendum was called and there is BREXIT.

There were people who were dissatisfied with the EU for psychological reasons. Economics & Geopolitics were not on their mind. They seized the opportunity, canvassed heavily for exit. Most Britishers do not understand Global politics & economics. They only know whether they or their close ones have lost their jobs. People canvassing for Brexit also did not expect a win. When they won the referendum, they were shocked and went in the background.

3. Impact:
3.1 “United we stand & divided we fall” is understood by all. However, this is practised by few. European Union together is the largest economy. It can influence global politics and even challenge US influence. When one unit out of the Union separates, the strength of the Union certainly goes down. Hence, to that extent EU will suffer. To that extent, US might be happy.

3.2 Culturally and psychologically, Britain and Europe have always considered themselves separate and different. British ego increased and sharpened that separation.

However, the irony is that Britain is seeking to delay the exit whereas EU is working for an early exit.

3.3 Also, Britain has no strong leader. It is not in a position to impact world sentiment, leave aside world economics and politics. Its own economy is in doldrums. By exiting EU, worst sufferer will be UK. Pound sterling has already lost 10% of its value since the exit vote making import of raw materials and consumables expensive. This increases both the cost of production and cost of living – impacting industry, jobs and the common Britisher. Scotland and Ireland are reviewing their relationship with Britain.

3.4 If we consider the theory of “Butterfly Effect”, everything affects everything. There will be some impact on India as our exports to UK will become expensive. But the impact will be so small that does not merit discussion. Because of Brexit Netherlands, one of EU’s founding members will call for a UK like referendum and Hungary’s forthcoming October referendum will be on EU migrant policy. Mr. Geert Wilders leader of the Party for Freedom of Netherlands in the party’s manifesto has pledged to withdraw from EU. As opposed to this Germany is working for ?better Europe’ and not `more Europe’. Despite these developments E.U. will still be the second largest economy. Hence I am of the opinion that there will be little impact on world economy.

4. Principles of analysis :
Considering an event and then trying to project future events and consequences – amounts to ignoring an important principle of analysis. Human beings are an important cause of all the cycles and the total process. After the event, they are not going to sleep. They will act. How they will act will affect the cycles and hence future course of events. How humans will act in future is a difficult matter to project and I cannot cover it in this brief article. Hence my view: Future was always unpredictable, and will remain unpredictable and

‘Brexit is a non-event’.

shailesh.kwebmaker

Withdrawal of Open offer – lessons from Supreme Court/SAT/SEBI decisions

Background
What happens when an open offer is made under the SEBI Takeover Regulations and thereafter the offerer, for some reason, changes his mind? Should he be allowed to withdraw his offer? If yes, under what circumstances? Can it be a unilateral withdrawal at his discretion or should it be under certain conditions only? Or should he be required to take approval of SEBI? Should SEBI have wide powers – and hence duty – to allow such withdrawal? What is the criteria SEBI should follow for permitting such withdrawal?

The stakes involved in such a case are large. For example there is a listed company whose market capitalisation is Rs. 1000 crore. The market price of its share is Rs. 100. An offerer believes that the shares are under priced and decides to acquire control and makes an open offer at Rs.150 per share. However, sometime later, for reasons such as new information coming to light, fresh developments or even change of mind, he wants to withdraw the open offer. However, the offer would have had consequences on the market. There may be persons who would have bought shares from the market at higher price. The Company would have faced restrictions in carrying out certain activities during the offer period under the Regulations. Further, withdrawal without regulation may make the whole process frivolous since offerers may make offers, disrupt the company and the market, perhaps profit from such disruption and then withdraw. Open offers thus may lose sanctity. At the same time, an absolute bar from withdrawal may result in heavy costs for the offerer even where there were genuine reasons for withdrawal. In the example, the offerer would have to pay about Rs. 390 crore to acquire the 26% from the shareholders. The offerer would thus be stuck with a huge lot of shares, whose value may have diluted for reasons beyond his control and perhaps not gain control of the company too.

Considering the huge stakes involved and also considering that this issue could often arise, the matter has been subject matter of serious litigation. The matter has twice reached the Supreme Court and litigated before the Securities Appellate Tribunal. Recently, once again, SEBI has passed an order (dated August 1, 2016 in respect of open offer for Jyoti Limited) which is under the latest SEBI (SAST) Regulations 2011 (“the Takeover Regulations”). Curiously, in each of these cases, the application to withdraw the open offer was rejected, but for differing reasons/facts. Study of these issues has importance for persons acquiring large stakes in companies to know whether and when they may be allowed to withdraw. They would carefully need to structure and prepare for their transactions since an inadvertent lapse may result into an irreversible open offer and huge losses. At the same time, the Regulations, which have been drafted in the interests of investors, are such that open offer is triggered off at a very early stage.

This issue is also relevant because the relevant provisions for withdrawal have been tweaked in the 2011 Takeover Regulations as compared to the 1997 Regulations. While these changes have not affected the outcome in each of these matters, they are relevant to future open offers.

Provisions of the Regulations for withdrawal of open offer Regulation 23(1) of the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011, deals with withdrawal of open offer. Regulation 23(1) provides 3 specific reasons and one general/residuary one under which an open offer can be withdrawn. Amongst the specific reasons, the first permits withdrawal where statutory approvals required for the open offer/acquisitions have not been received, provided due disclosures were made. The second reason permits withdrawal where the offerer, a natural person, has died. The third sub-clause provides for a situation where the agreement to acquire shares contained a condition that the acquirer/offerer could not meet for reasons beyond his reasonable control and provided that conditions were disclosed in advance, and that lead to rescinding of the agreement, withdrawal of offer is allowed.

Finally, there is the general/residuary ground, which is also the ground under which litigation has arisen. SEBI has discretion to grant withdrawal pursuant to “such circumstances as in the opinion of the Board, merit withdrawal.”. The question is whether this means there has to be an impossibility, taking color from the previous three grounds, as contended by SEBI? Or whether withdrawal can be permitted on other grounds such as the offer becoming uneconomical or other reasons, as contended by offerers? On this aspect, the law under the 1997 Regulations, on which preceding decisions have been rendered, is the same as under the 2011 Regulations on which the latest decision of SEBI has been rendered.

Decisions of the Supreme Court
The Supreme Court has on two occasions to dealt with this issue. In Nirma Industries Limited vs. SEBI (2013] 121 SCL 149 (SC) (“Nirma”), the offerer, a lender company, had lent monies to certain promoter entities of a listed company against pledge of shares of such listed company. On default, it exercised the pledge and thus acquired the shares which in turn resulted in obligation to make an open offer. However, it was claimed that later investigation brought to light that the Promoters of such listed company had allegedly siphoned off huge amount of funds, there were undisclosed liabilities, etc. and, thus, the value of the shares suffered in value. Yet, the lender was now stuck with the open offer at a price being as per the formula under the Regulations. Obviously, this would result in huge losses to the lender. It approached SEBI seeking withdrawal. SEBI rejected such application. Finally, the issue came before the Supreme Court. The core issue was whether the power of SEBI to grant withdrawal under the residuary clause was wide. Thus, whether it could allow withdrawal under varying circumstances at its discretion? Or whether it had very narrow powers, limited, on principles of ejusdem generis, to the nature of circumstances under the first three clauses under which withdrawal was permitted? In essence, thus, the issue was, whether power of SEBI to grant withdrawal was only if the offer was impossible to be proceeded with? The Supreme Court considered the facts of the case and the nature, scheme and purpose of the Regulations and held that SEBI could grant withdrawal only if there was impossibility in proceeding with the open offer. In the case before it, the offerer could still go ahead with the open offer and it has not become impossible merely because of changed circumstances.

The Court thus concluded that “Therefore, the term such circumstances in clause (d) would also be restricted to situation which would make it impossible for the acquirer to perform the public offer. The discretion has been left to the Board”. Merely because the offerer may suffer losses does not make the offer impossible to make or to be proceeded with. In the words of the Hon’ble Supreme Court, “The possibility that the acquirer would end-up making loses instead of generating a huge profit would not bring the situation within the realm of impossibility.” Thus, the plea of the lender/offerer was rejected.

The Supreme Court had soon thereafter again to deal with a similar matter. In SEBI vs. Akshya Infrastructure (P.) Ltd. (126 SCL 125 (SC)(2014))(“Akshya”) too, the question was whether, if the open offer becomes uneconomical owing to changed circumstances (curiously, this was allegedly owing to huge delay by SEBI in approving the open offer document), should it be allowed to be withdrawn? The Court followed Nirma and observed that:-

“This impossibility envisioned under the aforesaid regulation would not include a contingency where voluntary open offer once made can be permitted to be withdrawn on the ground that it has now become economically unviable.”.

The Court also explained the rationale of this conclusion as follows:

“Accepting such a submission, would give a field day to unscrupulous elements in the securities market to make Public Announcement for acquiring shares in the Target Company, knowing perfectly well that they can pull out when the prices of the shares have been inflated, due to the public offer.”

Decision of SAT
A similar issue was agitated in case of an open offer for shares of Golden Tobacco Limited (“GTL”) (in Pramod Jain vs. SEBI [2014] 48 taxmann.com 226 (SAT – Mumbai)). Here too, an open offer was made to acquire shares at a certain point of time. However, during the intervening time (which again included a huge delay allegedly caused by time taken by SEBI in approving the offer document), the offerer alleged that owing to acts by the Promoters of GTL, the shares of the Company lost hugely in value. The offerer thus sought to withdraw the open offer. Following and applying Nirma and Akshaya, the SAT, in a majority decision, refused to allow the offer to be withdrawn since there was no impossibility in proceeding with the offer.

Decision in case of open offer for shares of Jyoti Limited. In this latest case, SEBI had occasion to consider a peculiar case though with underlying similar issues. The offerer had made an open offer to acquire 75% of the shares and thus control of the listed company at a price of Rs. 63 per share. However, it came to light that the Company was a sick industrial company, having lost its net worth. The BIFR ordered status quo on operations/controlling stake and change in control of the Company was prohibited in the interim. Appeal of the offerer against such order of BIFR was dismissed by the Appellate Authority for Industrial and Financial Reconstruction. The question was whether, since the open offer could not be proceeded with, this was a fit case for permitting withdrawal of open offer. SEBI noted that the BIFR had not prohibited the open offer, but had merely given a stay to it, pending final decision. It was thus possible for the offerer to proceed with the open offer post such decision. In other words, the pre-condition of impossibility did not exist. Hence, applying Nirma and Akshaya, SEBI rejected the application of the offerer to withdraw the open offer.

Conclusion
It would be a rare case, thus, that an open offer would be allowed to be withdrawn. The offerer will have to demonstrate that either one of the three specific circumstances as laid down in Regulation 23(1) existed or there should be some other impossibility in proceeding with an open offer. If something happens in between, even if caused by SEBI’s delay or actions by the Company/its Promoters, or other unavoidable circumstances, so long as it is possible to proceed with the open offer, SEBI will not allow withdrawal. As explained earlier, the Regulations have sensitive triggers for the open offer to arise and once a trigger is set off, it is more or less irreversible. The offerer would thus have to proceed warily and with adequate planning to ensure that (i) either the open offer does not arise (ii) if it does arise, he is prepared to proceed through it till completion, whatever arises in between. Apart from difficulties in negotiated takeovers, this can make hostile open offers near-infeasible. Even in negotiated cases, often owing to delayed processing by SEBI, disputes in the interim with the Company/Promoters, changed circumstances, etc. could create problems. Nevertheless, there is an underlying sensible principle involved here. Offerers should not be given a broad leeway that offers can be made and withdrawn at their discretion. This would, inter alia, play havoc with markets and harm interests of investors.

shailesh.kwebmaker

Benami Transactions

Introduction
A Benami Transaction is a transaction in which the property is acquired by one person in the name of another person or a business may be carried on by some person in the name of another person. Thus, the real or beneficial owner remains unknown and the apparent owner is only a name lender. As the word ‘benami” suggests it is one without a name. This practice of benami transactions has been extremely prevalent in India for several years. Benami transactions are one of the main sources of utilisation of black money, tax and duty evasion, corruption, etc. Benami transactions are quite common in the real estate business. However, they have also entered the arena of the stock market and other areas. Benami transactions were also used as a device for asset protection as the creditors would never be able to get their hands on a property which did not legally belong to their debtor. To deal with and curb benami transactions, the Benami Transactions (Prohibition) Act, 1988 (“the Act”) was passed. However, this law suffered from various inadequacies. Accordingly, the Benami Transactions (Prohibition) Amendment Bill, 2016 was moved by the Central Government to substantially modify the Act. This Bill was passed by the Lok Sabha on 27th July 2016 and by the Rajya Sabha on 2nd August 2016 and has also received the assent of the President and has been notified in the Official Gazette on 11th August 2016, thereby, becoming the Benami Transactions (Prohibition) Amendment Act, 2016 (“the Amendment Act”). One important feature of the Amendment Act is that it empowers the Government to frame Rules something which the original Act did not have.

Definitions

Benami Transaction
A Benami Transaction had been originally defined to mean a transaction in which the property is transferred to one person for a consideration paid or provided by another person. Thus, in a benami transaction, there are two persons, the real or beneficial owner who actually owns the property, but the property does not stand in his name and the second person is the one in whose name the property stands who is but a mere front i.e., the benamidar. The term “Benami” means one which has no name. Thus, the definition of a benami transaction may be summarised as under :

It is a transaction
(i) in which a property is bought by one person and transferred to another person; or

(ii) in which the property is directly bought by one person in the name of another person

The Amendment Act seeks to considerably enhance the definition of a benami transaction. The modified definition defines it as under:

(A) a transaction or an arrangement-

(i) 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

(ii) the property is held for the immediate or future benefit, direct or indirect, of the person who has provided the consideration;

(B) a transaction or an arrangement in respect of a property carried out or made in a fictitious name; or

(C) a transaction or an arrangement in respect of a property where the owner of the property is not aware of, or, denies the knowledge of, such ownership;

(D) a transaction or an arrangement in respect of a property where the person providing the consideration is not traceable or is fictitious.

Thus, even a transaction wherein the real owner is not aware of ownership has been added. Further, in cases where the consideration provider is untraceable or fictitious would also qualify as a benami transaction. The Amendment Act also seeks to carve out certain exceptions to the definition of a benami transaction:

(i) property held by a Karta, or a member of an HUF on behalf of the HUF where the consideration for such property has been paid by the HUF;

(ii) property held by a person standing in a fiduciary capacity for the benefit of another person towards whom he stands in such capacity and includes a trustee, executor, partner, director of a company, a depository or a depository participant and any other person as may be notified by the Central Government for this purpose;

(iii) property held by an individual in the name of his spouse / his child and the consideration for such property has been paid by the individual;

(iv) property held by any person in the name of his brother or sister or lineal ascendant or descendant, where the names of such relative and the individual appear as joint-owners, and the consideration for such property has been paid by the individual.

(v) property the possession of which has been obtained in part performance of a contract referred to in section 53 of the Transfer of Property Act, 1882 provided the contract has been stamped and registered.

The Supreme Court in the case of SreeMeenakshi Mills Ltd., 31 ITR 28 (SC) has defined a benami transaction as thus:

“……..The word benami is used to denote two classes of transactions which differ from each other in their legal character and incidents. In one sense, it signifies a transaction which is real, as for example, when A sells properties to B but the sale deed mentions X as the purchase. Here the sale itself is genuine, but the real purchaser is B, X being his benamidar. This is the class of transactions which is usually termed as benami. But the word “Benami” is also occasionally used, perhaps not quite accurately, to refer to a sham transaction, as for example, when A purports to sell his property to B without intending that his title should cease or pass to B.

The fundamental difference between these two classes of transactions is that whereas in the former there is an operative transfer resulting in the vesting of title in the transferee, in the latter there is none such, the transferor continuing to retain the title notwithstanding the execution of the transfer deed.

It is only in the former class of cases that it would be necessary, when a dispute arises as to whether the person named in the deed is the real transferee or B, to enquire into the question as to who paid the consideration for the transfer, X or B. But in the latter class of cases, 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 was paid.”

Property
The definition of Property has been expanded by the Amendment Act and is now defined to mean, Property of any kind:

(a) Whether movable or immovable,

(b) Whether tangible or intangible,

(c) Including any right or interest or legal documents evidencing title or interest in such property. I t includes proceeds from the property also

Benami Property
This is a new definition and is defined to mean any property which is the subject matter of a benami transaction and includes proceeds from such property.

Benamidar and Beneficial owner
The Amendment Act adds two new definitions. While a benamidar is defined to mean the person / the fictitious person in whose name the benami property is transferred or one who is the name lender; the beneficial owner is the mysterious person for whose benefit the benamidar holds the benami property.

Prohibition of Benami Transactions
Section 3 is the operative section of the Act. It provides that no person shall enter into any benami transactions. The Act provided that a benami offence would be bailable and non-cognizable. This has now been deleted by the Amendment Amendment Act.

Consequences of Benami Properties
In case of a benami property, the real owner of the property cannot enforce or maintain any right against the benamidar or any other person. Thus, the real owner or any person on his behalf is prevented from filing any of a suit, claim or action against the namesake owner.

Similarly, the real owner or any person on his behalf cannot take up a defence based on any right in respect of the benami property against the benamidar or any other person.

Confiscation of Benami Properties
All benami properties are liable to be confiscated by the Central Government. For this purpose, the Amendment Act seeks to appoint an Adjudicating Authority and Initiating Officers. The Deputy Commissioner of the Income tax would be the Initiating Officer. Where the Initiating Officer has, based on material he possesses, reason to believe that any person is a benamidar of a property, he may ask him to show cause why the property should not be treated as benami property. He can also provisionally attach the property for a maximum period of 90 days. He must then draw up a statement of case and refer it to the Adjudicating Authority. The Authority must provide a hearing to the person affected and pass an order either holding the property to be a benami property or holding it not to be a benami property. The Authority has a maximum period of 1 year from the date of reference to pass its order. The affected person can appear before the Authority in person or through his lawyer / CA.

Once an order is passed by the Authority treating a property to be a benami property, it must pass an order confiscating the benami property. An appeal lies against the orders of the Adjudicating Authority to the Appellate Tribunal to be constituted under the Act. An appellant can appear before the Tribunal in person or through his lawyer / CA. The orders of the Appellate Tribunal can appealed before the High Court.

Once a property is confiscated, the Income-tax Officer would be appointed as the Administrator of such benami property who will take possession of the property and manage it.

The Act provides that if an Initiating Officer has issued a notice seeking to treat a property as benami property, then after the issuance of such a Notice, the subsequent transfer of the property shall be ignored. If the property is subsequently confiscated then the transfer will be deemed to be null and void.

Re-transfer of Benami Property
A benamidar cannot re-transfer the benami property held by him to the beneficial owner or any other person acting on his behalf. If any benami property is re-transferred the transaction of such a benami property shall be deemed to be null and void. However, this does not apply to a re-transfer of benami property initiated pursuant to a declaration made under the Income Declaration Scheme, 2016. In this respect, section 190 of the Finance Act, 2016 provides that the Benami Act shall not apply in respect of the declaration of the undisclosed asset, if the benamidar transfers such benami property to the declarant who is the real beneficial owner within the period notified by the Central Government, i.e., on or before 30th September 2017.

Repeal of Certain Sections
The original Act had repealed the following sections, which continue under the Amendment Act:
(a) Sections 81, 82 and 94 of the Indian Trusts, Act, 1882;
(b) Section 66 of the Code of Civil Procedure, 1908; and
(c) Section 281A of the Income-tax Act.

Trusts Act
The Trusts Act originally recognised and allowed the concept of benamidar under certain situations which were covered under the repealed sections.

(i) Section 81 originally provided that where the owner of a property, transfers / bequeaths (by will) it and It is not possible to infer from the surrounding circumstances that the transferor intended to depose of the beneficial interest contained therein, then the transferee may hold the property for the benefit of the owner or his legal representative.

(ii) Section 82 originally provided that where the property is transferred to one person and the consideration is paid for by another person and it appears that such other person did not intend to pay for the same then the Transferee must hold the property for the benefit of the payer.

(iii) Section 94 originally applied where there was no trust and the possessor of the property did not have the entire beneficial interest in the property, then in such a case he must hold the property for the benefit of the beneficiary. Thus, now even honest benami transactions are prohibited.

Civil Procedure Code
Section 66 of the Code originally provided that no suit shall be maintained against any person claiming title under a Court certified purchase on the ground that the purchase was made on behalf of the plaintiff. Thus, after the repeal of section 66 it is no longer possible to raise a defence on the plea of benami.

Income Tax Act
Section 281A of this Act originally provided that in case the real owner desired to file a suit in respect of a benami property against the benamidar or any other person, then he could not do so unless he had first given a notice in prescribed format to the Commissioner of Income tax within one year of the acquisition of the property. In case the suit related to a property exceeding Rs. 50,000 in value, then it was sufficient if the notice was given at any time before the suit.

Thus, the above sections provided statutory recognition to certain genuine benami transactions but after the enactment of the 1988 Act they were rendered inconsistent and hence, the 1988 Act has repealed them which repeal has been continued under the Amendment Act.

Punishment
If any person enters into a benami transaction in order to defeat the provisions of any law or to avoid payment of statutory dues or to avoid payment to creditors, the beneficial owner, benamidar and any other person who abets or induces any person to enter into the benami transaction, shall be guilty of the offence of a benami transaction. Any person guilty of the offence of benami transaction shall be punishable with rigorous imprisonment for a term which shall not be less than one year, but which may extend to seven years and shall also be liable to fine which may extend to 25% of the fair market value of the property.

Thus, in addition to the compulsory acquisition of the property, the Act also provides for a severe penalty. The offence of entering into a benami transaction is not bailable and is non-cognizable.

The penalty for giving false information is punishable with rigorous imprisonment from 6 months to 5 years and fine up to 10% of the fair market value of the property.

In case a Company enters into any benami transaction, not only is the property liable to be acquired but the every person who at the time of the contravention was in charge of and responsible for the conduct of the business would be proceeded against and punished.

Conclusion
This is one more step in the Government’s fight against black money. While the Black Money Act, 2015 is a weapon against foreign black money, the Benami Act seeks to fight domestic black money.

shailesh.kwebmaker

Independence

Arjun (A) — Slogging! Slogging!! Slogging!!! Please help me God. Oh Shrikrishna, where are you?

Shrikrishna (S) — My dear Arjun, I am always with you. I am everywhere! Omni-present!.

A — And Omnipotent, Omniscient as well! You have no boundaries; but we are bound by so many constraints.

S — Didn’t you celebrate your Independence Day?

A — There was that flag – hoisting in our housing society. But who will wake up early on a holiday? I never attend it.

S
— Oh! Shame on you. Don’t you remember the martyrs that sacrificed
everything for independence of the country? Even their lives! How dare
you be so callous about independence?

A — Oh, Lord, please pardon me. I never meant offence to anyone.

S — I thought, at least you would be valuing the independence above all!

A — Yes. I do. In fact, our profession is expected to be ‘independent’. We are supposed to act without fear or favour.

S — Then how can you afford to sleep when flag hoisting is on? You CAs should be in the forefront.

A
— I agree. But you know, we get so tired. So much of tension. Last
time, I narrated all our difficulties. You advised us to gear ourselves
up.

S — Then what have you done about it? You are in the habit of mere crying.

A — What to do? We are so helpless. Clients are not serious. Our staff is also useless. Everything comes on us.

S
— But you are an independent professional. You have to overcome the
situation some day or the other. How many years you can pull on like
this?

A — Lord, ‘Independence’ is a myth. Everybody dictates on
us. Regulators, Clients, staff, articles, our Institute; and even our
family members.

S — Ha ! Ha !! Ha !! Rukmini and Satyabhama also
keep dominating on me. Jokes apart; tell me, have you taken steps to
complete the audits in time?

A — Ah! There is so much time upto 30th September. Clients wake up only after 15th of September.

S — Let clients not wake up. What about you yourself? You need to be eternally vigilant. That is the cost of independence!

A
— So many holidays in August. Independence Day, Parsi New Year, then
Rakhi, then your own birthday of Krishnashtami. Again in September,
Ganapati will take away our time! I think, we cannot do things in time.
We must start crying for extension. You only said, we need to be
‘proactive’!

S — Wah! Great thought! You are very much aware
that this year courts will not support you. Tell me, have you studied
new CARO; have you looked into IFC?

A — IFC? What is that?

S — Internal Financial Controls. You have to specifically report on that. And CFS?

A — You are giving me surprises. What is this new ghost?

S — Consolidated Financial Statements. Are you at least aware that even your CARO format is changed?

A — Yes, Yes. I have heard about it. Frankly, I have not studied the new company law as yet. So much of ambiguity there!

S
— True. But you can’t afford to be totally ignorant. Remember,
Government is appointing new regulatory authority to look into the
quality of your work.

A — Baap Re! Already we have disciplinary
committee, consumer forum, NFRA, and what not! And on the top of it,
this new Authority? God save the profession.

S — I will surely save you, only if you are vigilant and diligent.

A — Oh Lord, I know, I am rather lethargic. I have to be constantly on my toes. Even slightest of relaxation may be suicidal.

S
— Assure you that so long as you can prove honest efforts and support
it by documentation, your Council will always help you. Don’t worry.

A — Thank you, Lord!

Om Shanti.

The
above dialogue aims at highlighting the importance of having the right
attitude towards the profession. Being alert and proactive towards the
dynamic laws becomes extremely important in today’s world.

shailesh.kwebmaker

Interpretation of Statutes – Construction of Rules – Prospective or Retrospective – Any legislation said to be dealing with substantive rights shall be prospective in nature and not retrospective. [General Clauses Act, 1897, Section 6]

Collector vs. K. Govindaraj (2016) 4 SCC 763 (SC)

In the present case, a notification dated 09.10.1996 was published by the Appellant (Collector) inviting applications for grant of stone quarrying leases. This notification was issued under the provisions of Rule 8(8) of the Tamil Nadu Minor Mineral Concession Rules, 1959 and it was stated therein that lease would be granted for a period of five years. However, when these leases were still in operation and the said period of five years for which these leases were granted had not expired, rule came to be amended vide G.O. dated 17.11.2000. The amended rule provided that the period for quarrying stone in respect of virgin areas, which had not been subjected to quarrying earlier, shall be ten years whereas the period of lease for quarrying stone in respect of other areas shall be five years. On the basis of this amendment, the Respondents pleaded that since they were granted lease for quarrying stone in respect of virgin areas, amended provision was applicable in their cases and they were entitled to continue on lease for a period of ten years.

The Supreme Court held that, “though the Legislature has plenary powers of legislation within the fields assigned to it and can legislate prospectively or retrospectively, the general rule is that in the absence of the enactment specifically mentioning that the concerned legislation or legislative amendment is retrospectively made, the same is to be treated as prospective in nature. It would be more so when the statute is dealing with substantive rights. No doubt, in contrast to statute dealing with substantive rights, wherever a statute deals with merely a matter of procedure, such a statute/amendment in the statute is presumed to be retrospective unless such a construction is textually inadmissible. At the same time, it is to be borne in mind that a particular provision in a procedural statute may be substantive in nature and such a provision cannot be given retrospective effect. To put it otherwise, the classification of a statute, either substantive or procedural, does not necessarily determine whether it may have a retrospective operation”. It was thus held by the Hon’ble Supreme Court, that the right which is substantive in nature, accrued to the virgin areas for the first time by way of amendment only.

It was thus an unamended Rule under which the notification dated 09.10.1996 was issued and tenders were invited and auction held. Rule 8(8) of the 1959 Rules which prescribes period for grant of lease is not procedural but substantive in nature. It is only in respect of virgin areas that the period of lease stands enhanced to ten years whereas in respect of other areas the period of lease continues to be five years. This was clearly a substantive amendment which had nothing to do with any procedure. There was no concept of “virgin area” in the unamended rule which has been introduced for the first time by way of aforesaid amendment.

These appeals were accordingly allowed.

shailesh.kwebmaker

Evidence – Compact Disk – Primary or Secondary evidence – A Compact Disk produced as a source of information of corrupt practice is inadmissible as a primary evidence . [Evidence Act, 1872, Section 65-B]

Mohammad Akbar vs. Ashok Sahu & Ors. AIR 2016 (NOC) 428 (CHH).

The Court held that where a compact disk is produced as a source of information of corrupt practice, it shall be admissible only as a secondary evidence and not as a primary evidence, where the compact disk did not contain any certificate as required u/s 65-B(4), hence not admissible as Evidence.

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Contempt – Non-Compliance of order of a Court on the ground that the appeal is pending against the Court’s order is not permissible. [Contempt of Courts Act, Section 2]

Sk. Abdul Matleb vs. R.P.S. Khalon & Ors. AIR 2016 Cal. 235.

The alleged respondents were not ready to comply with the Court’s directions on the ground that they had filed an appeal.

It is a well settled law that till the order passed by a competent Court is set aside/or stayed and/or varied and/ or modified, the said order remains valid and subsisting and is required to be complied with, both in law and in spirit.

However, if one has to accept the stand taken by the respondents, it would mean that no order passed by any competent Court will be ever complied with, till the person aggrieved exhausts all his appellate remedies which certainly is not in conformity with the scheme for rendering effective justice in any matter. The Court in such circumstances, issued Rule of Contempt against the respondents.

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Arrest – Procedure to be followed by Police Officer – The police must follow the procedures laid down by the courts – if any situation/circumstance is covered u/s. 41 and 41-A of the CR.P.C proper reasoning for the arrest is required [Criminal Procedure Code, 1974 Section 41, 41-A]

Dr. Rini Johar & Another vs. State of M.P. & Ors. AIR 2016 SC 2679

In the present case, Petitioners being a lady doctor and a lady advocate, against whom a complaint was filed and an FIR u/s. 420 (cheating) and 34 of IPC and Section 66D of the Information Technology Act, 2000, was registered by the Cyber Police. Petitioners submitted that this Court should look into the manner in which they had been arrested, how the norms fixed by this Court had been flagrantly violated and how their dignity was sullied permitting the atrocities to reign. It was urged that if this Court is prima facie satisfied that violations are absolutely impermissible in law, they would be entitled to compensation.

The Hon’ble Supreme Court (SC) held that before the police proceed to arrest, certain guidelines as prescribed by the SC in the case of D.K. Basu vs. State of W.B. (1977) SC 416 should be adhered to.

Thereafter, the Court referred to Section 41 of the Code of Criminal Procedure (inserted by Amendment Act of 2009) and analysing the said provision, opined that a person accused of an offence punishable with imprisonment for a term which may be less than seven years or which may extend to seven years with or without fine, cannot be arrested by the police officer only on his satisfaction that such person had committed the offence. It has been further held that a police officer before arrest, in such cases has to be further satisfied that such arrest is necessary to prevent such person from committing any further offence; or for proper investigation of the case; or to prevent the accused from causing the evidence of the offence to disappear; or tampering with such evidence in any manner; or to prevent such person from making any inducement, threat or promise to a witness so as to dissuade him from disclosing such facts to the court or the police officer; or unless such accused person is arrested, his presence in the court whenever required cannot be ensured.

It has been held that section 41A of the Code of Criminal Procedure makes it clear that where the arrest of a person is not required u/s. 41(1) of the Code of Criminal Procedure, the police officer is required to issue notice directing the accused to appear before him at a specified place and time. Law obliges such an accused to appear before the police officer and it further mandates that if such an accused complies with the terms of notice he shall not be arrested, unless for reasons to be recorded, the police officer is of the opinion that the arrest is necessary. At this stage also, the condition precedent for arrest as envisaged under Section 41 of the Code of Criminal Procedure has to be complied and shall be subject to the same scrutiny by the Magistrate as aforesaid.

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Representation on Model GST Law

29th August, 2016

To,
Shri Arun Jaitley
The Finance Minister
Government of India
134/North Block
New Delhi – 110 001

Respected Sir,

Subject:- Representation on Model GST Law

This is with reference to draft Model GST Law released by the Empowered Committee and hosted on the website of DOR inviting comments from stake holders and public at large. We would like to take this opportunity to present before you some of the views and suggestions of our members.

May we request your good selves to kindly consider the same appropriately while preparing the final Model GST Law and related business processes on proposed Goods and Services Tax (GST).

Yours sincerely,

For Bombay Chartered Accountants ‘ Society

Chetan Shah
President

Govind G. Goyal
Chairman – Indirect Taxation Committee

Indirect Taxation Committee Observations and Suggestions on DRAFT MODEL GST LAW

Major Areas of Concern, which need to be addressed appropriately

1. The Draft Model GST Law, coupled with Reports on Business Processes under GST, has conveyed a very negative feeling among the trade and industries. The same needs to be addressed immediately (may be through a 2nd revised draft or so).

2. There is wide spread confusion about the uniformity of taxation across the country particularly regarding classification, valuation, exemptions and rates of tax.

3. There is an urgent need to dispel the fear of artificial disallowance of Input Tax Credit (ITC), through monthly matching concepts, etc., and, excessive compliance burden in the proposed GST regime.

4. Sanctity of ‘Tax Invoice’, issued by a registered dealer, and seamless Input Tax Credit are basic tenet of any successful VAT law. The same should be maintained.

5. It is also necessary to clarify how dual control by Central and States will be exercised over the same assessee in respect of same transaction liable to tax for CGST and SGST, or for IGST.

6. Small manufacturers, vendors and job workers, in small scale industries (SSI) and Cottage Industries, etc., are clueless about their future in the proposed GST regime. It may be noted that such units constitute a significantly large number of business population of India. Their genuine concerns need to be addressed satisfactorily before deciding about introduction of GST in the proposed format.

7. The proposed threshold of Rs. 10 lakh for compulsory registration is too low a limit. It may back fire. Considering various aspects of smooth transition it would be necessary to seriously reconsider the same. (An appropriate limit, in present conditions, may be Rs. 50 lakh of taxable supplies)

8. It would be necessary to design simple and convenient Composition Schemes for various categories of dealers and for certain specific types of businesses (may be on the lines of composition schemes designed in some of the State VAT laws and various other countries who have successfully implemented VAT /GST).

9. Being entirely new system of taxation across the country, it may not be possible for anyone to determine correct RNR at present. There are several factors, particularly in the present scenario of diverse system of indirect taxation by the Centre and States, and, organized as well as unorganized sectors of manufacture, trade and services, etc. It would be necessary, therefore, that the rates of tax are decided in accordance with the acceptability of such rate/s by the ultimate consumers (who are the real tax payers).

10. The best policy in deciding rates of tax is that the Government should get adequate revenue, trade & industry should not have any burden and the consumers feel happy. To achieve this, it may be necessary to decide in advance (a) the list of exempted goods and services, (b) list of goods and services which deserve a merit rate, (c) list of goods and services which needs to be taxed at very low rate in the beginning (special merit rate) and (d) list of goods and services which can be taxed at fairly high rate. However, it should be ensured that all States apply the same rate on such commonly agreed lists of goods and services.

11. Taking clue from various sources, the general rate of GST @ 15% may be the most appropriate rate, with merit rate (5% to 8%), special merit rate @ 2% and higher rates (25% to 35%).

12. Various definitions, contained in section 2 of draft Model GST Act, need appropriate review and necessary modifications.

13. The terms like ‘supply’ in section 3 and Schedule-1, ‘nature of supply’ in section 2, ‘time of supply’ in section 12 &13, ‘value of supply’ in section 15 and ‘place of supply’ in various sections, need a thorough review.

14. The provisions like RCM, TDS and TCS have made the draft law much more cumbersome. Only those provisions need to be kept, which are necessary. The Reverse Charge Mechanism (RCM) should apply in respect of international transactions only.

15. One needs to look into whether such elaborate provisions of valuation are required in the proposed GST regime where tax is being levied till final stage of consumption. Ultimately tax cannot be levied at a price (value) more than what the consumer has paid to the supplier.

16. Procedural aspects have to be designed in such a manner that all assessees, all over India, are able to comply with the requirements well within time and without facing undue burden of time and money.

17. Appropriate transition provisions need to be spelled out clearly so there is no undue burden on the existing tax payers. Similarly taxation of continuing contracts may need to be clarified appropriately.

18. Interest of those units, presently enjoying exemption under various promotional schemes, needs to be protected.

19. Applicability of IGST on various types of transactions of supply of goods as well as services needs much more clarity.

20. Although, the Government has shown its intention to implement GST with effect from 1st April 2017, there is no harm if it is implemented from a later date. For smooth implementation of such a major reform, it is necessary that the final law is designed after considering all aspects. And sufficient time is given to trade, industry and the Government Departments to gear up for the new regime.

Our observations and suggestions on some of the important provisions are enclosed herewith for your kind consideration.

Complete Representation on Model GST Law can be viewed and downloaded from BCAS home page www.bcasonline.org

shailesh.kwebmaker

Impact on MAT from First Time Adoption (FTA) of Ind AS

The MAT Ind AS Committee (hereinafter referred to as ‘Committee’) on 18th March 2016 issued a draft report on the ‘Framework for computation of book profit for the purposes of levy of Minimum Alternate Tax (MAT) u/s. 115JB of the Income-tax Act 1961 for Indian Accounting Standards (lnd AS) compliant companies in the year of adoption and thereafter’. The Report was revised on 23rd July 2016 (hereinafter referred to as ‘Framework’). The Framework is a draft and is subject to public comments and final changes. Once the Framework is final, the same will have to be incorporated in the Income-tax Act, to make it effective.

This article discusses the issues and challenges on first time adoption (FTA ) of Ind AS and the consequences for companies that fall under MAT . Though the revised Framework is an improvement from the pre-revised draft, the provisions do not appear to be fair or reasonable, and will significantly hamper the ease of doing business. In addition, the environment is most likely to become very litigious and painful.

The accounting policies that an entity uses in its opening Ind AS balance sheet at the time of FTA may differ from those that it previously used in its Indian GAAP financial statements. An entity is required to record these adjustments directly in retained earnings/reserves at the date of transition to Ind AS. The Committee noted that several of these items would subsequently never be reclassified to the statement of P&L account or included in the computation of book profits.

Consider a company has a net worth of Rs 500 crore, and therefore falls under phase 1of Ind AS implementation. Its date of transition to Ind AS is 1 April, 2015; comparative period is financial year 2015-16, and first Ind AS reporting period is financial year 2016-17. The company is engaged in several businesses and makes the following seven transition decisions at 1 April, 2015 in order to comply with Ind AS.

1. The company’s accounting policy for fixed assets is cost less depreciation under Ind AS. However, as per option available in Ind AS 101 all fixed assets are stated at fair value at date of transition. The revalued amount is a deemed cost of fixed assets at 1 April, 2015. In other words, the company’s policy is not to use revaluation on a go forward basis as the accounting policy. The uplift on revaluation is recorded in retained earnings and will never be recycled to the P&L account.

2. In the stand-alone accounts the company has several investments in subsidiaries which under Indian GAAP are stated at cost less diminution other than temporary. Under Ind AS the company will continue to account them at cost less impairment. However, as per option available in Ind AS 101 the investments in subsidiaries are stated at fair value at date of transition. The fair value is the deemed cost of investments at 1 April, 2015. Subsequently, the investments in subsidiaries are not fair valued but tested only for impairment. The uplift on fair valuation is recorded in retained earnings and will never be recycled to the P&L account.

3. Under Indian GAAP, the company discloses assets under a service concession arrangement (SCA) as intangible assets at cost and which does not include construction margin. On date of transition, the company accounts for the intangible assets in accordance with Ind AS 11 (Appendix A), treating them as service concession assets. Consequently, under Ind AS 11 (Appendix A), the construction margin is also reflected in the value of the intangible asset.Therefore at transition date, the value of the intangible assets will be increased with a corresponding increase in retained earnings. The increase in retained earnings will never be recycled to the P&L account. However, the increase in the value of the intangible asset will be amortized in the future years.

4. At 31 March 2015, the Company has a lease equalization liability under Indian GAAP for an operating lease. Under Ind AS 17, the Company is required to charge operating lease payments in the P&L account without equalizing the lease payments, since those lease payments are indexed to inflation. Consequently on the transition date, the company reverses the lease equalization liability and takes the credit to retained earnings. The increase in retained earnings will never be recycled to the P&L account.

5. The Company has a cash flow hedge reserve at 31 March 2015 under Indian GAAP, which meets all hedge accounting requirements under Ind AS. In accordance with Ind AS 101, the Company is required to maintain the cash flow hedge reserve, and recycle the same to the P&L account, in accordance with the principles of Ind AS 109.

6. The Company has a foreign branch and a positive foreign currency translation reserve (FCTR) in Indian GAAP stand alone accounts at 31 March 2015. In accordance with Ind AS 101, it restates the FCTR to zero on 1 April, 2015 – the date of transition. Consequently the corresponding effect is taken to retained earnings. The increase in retained earnings will never be recycled to the P&L account.

7. In addition to investments in subsidiaries the company has investments in unquoted securities that are held long term for strategic reasons, but which are neither, subsidiaries, associates or joint ventures. The Company designates these investments as FVOCI (Fair Value through Other Comprehensive Income). As per this accounting policy choice, the fair value changes are permanently recorded in reserves (not retained earnings) and are never recycled to the P&L account.

As per the Framework, the MAT implication for the above seven FTA items is given below, along with the author’s recommendation of the changes required and grounds for such recommendations.

The FTA adjustments made at 1 April, 2015 are to be appropriately dealt with to determine the book profits for MAT purposes. The big question is – Is it included in the book profits over three years starting from the comparative period, ie, financial year 2015-16 or in the year of FTA, ie, financial year 2016-17? Though the intent of the government may have been to include the adjustments in the book profits for 2015-16, it is no longer practically feasible to do so. It is most likely that the adjustments would be included to determine the book profits starting from the financial year 2016-17. Hopefully that clarity will come in the forthcoming budget, as this requirement would require an amendment to the Act. This is again an unpleasant outcome, given that companies would be paying advance taxes without the knowledge of the final law on this subject.

Conclusion
Companies need to make careful choices of FTA options to minimize a negative MAT impact. They can make those choices up till financial statements for year ended 31 March 2017 are finalized. However, changes in those choices will cause significant fluctuations in 2016- 17 quarterly results. For example, a company decides to carry forward fixed assets at previous GAAP carrying value as a transition choice to avoid any MAT liability on fair value uplift. Subsequently, in the last quarter, the budget clarifies that the fair value uplift on fixed assets will be completely tax neutral from MAT perspective. Because of the clarity, the Company prefers to fair value the fixed assets from the transition date instead of carrying them at previous GAAP carrying value. This would mean that the lower depreciation charge in the earlier quarters and the comparative period will have to be adjusted, thereby resulting in significant change in the reported numbers in the last quarter.

As a bold step, the Government may consider simplifying the MAT provision, and lower the MAT rates. Alternatively, AMT (Alternate Minimum Tax) regime applicable to noncorporate assesses and which is highly successful may be introduced for corporate assesses. However, given the time constraint it is generally understood, that the Government may not explore these choices.

shailesh.kwebmaker

Mutual benefit company – Principle of mutuality – Income from sale of shares and the occupancy rights – cannot be assessed in the hands of the assessee – Land continues to be owned by the assessee – No transfer of any FSI attached to the land – Tax under the head ‘capital gain’ in the hands of the shareholder not company:

CIT- 6 vs. M/s. Calico Dyeing and Printing Mills Pvt. Ltd. [ Income tax Appeal no 14 of 2014 dt – 04/07/2016 (Bombay High Court)].

[The ITO 6(2)(1) vs. M/s. Calico Dyeing and Printing Mills Pvt.Ltd . [ITA No. 4297/MUM/2009 ; Bench : C ; dated 05/06/2013 ; A Y: 2006- 2007. Mum. ITAT]

The assessee was engaged in the business of construction and started construction of 15 storied building consisting of 85 dwellings units in the year 2002-03. The assessee had finished major construction activity in early 2005 and had received the “Occupation Certificate” from BMC authorities upto the 13th floor on 31st May, 2005. As per the details, totally 67 flats weresold 67.

It was the claim of the assessee that it was a mutual benefit company therefore it had not made any profit from the construction activity as it had only collected the construction cost from the flat owner. The company has entered into a tripartite agreement with the flat owners. The parties to the sale agreement being the flat purchaser, the assessee company and a partnership firm Viz., M/s. Calico Associates who held 12,100 shares of the assessee company.

After considering these facts, the AO issued show cause asking the assessee why the activity of construction and sale of residential units should not be considered as a business of the assessee company and the profits arising out of the same not be taxed in its hands as business income. The assessee explained to the AO that the activity of construction and allotment of residential flat cannot be treated as business venture because it was a Non Trading Company doing activities of construction of residential buildings for the benefit of its members. Therefore, there was no motive of earning any profits or gains from the activity. It was explained that the assessee was working solely for the benefit of its members/share holders. The AO did not accept the contention of the assessee and was of the firm belief that the flat owners at the time of booking of the premises were not share holders of the company. The AO further observed that the flat owners had no right other than the flats occupied by them. The AO further observed that principle of mutuality did not apply on the facts of the case because there is no reciprocity or mutual dependence which are necessary conditions in the case of mutuality. The AO was of the view that the claim of the assessee is nothing but a sham and a colourable device used by it to divert and avoid taxable income in its own hands.

Being aggrieved by this finding of the AO, the assessee carried the matter before the Ld. CIT(A). Before the Ld. CIT(A), the assessee explained the entire nature of transaction and contended that only the share holders are liable to tax on the income arising from such transfer and the share holders have already offered the income to tax. If the income was taxed in the hands of the assessee, it would amount to double taxation. The Ld. CIT(A) was convinced that what was attached to the shares and subject matter of transfer were the occupancy rights of the constructed flats in the building Kamal Darshan and not the land. Such rights did not belong to the assessee since before rights came into existence, they were attached to the shares of the company.

CIT(A) held that in terms of Section 27(iii) of the Act, the shareholder was the owner of the flat. It found that in fact what had been sold were its shares held by its shareholder one M/s.Calico Associates. The sale of shares by its shareholder – M/s. Calico Associates was brought to tax under the head ‘capital gain’ in the hands of the shareholder for the subject Assessment Year. It also held that there was no sale of the land by the asseseee nor any sale of FSI available on the land which continued to be owned by the asseseee. In these circumstances, it allowed the asseseee’s appeal.

Aggrieved by the above finding of the Ld. CIT(A), Revenue carried the matter before ITAT . This ground of appeal was dismissed by the ITAT .

The Revenue filed an appeal before the High court challenging the order of ITAT . The High Court held that the question as raised was in respect of impairment of land (use of FSI) was not canvassed before the Tribunal. Therefore, the question raised does not arise out of the Tribunal’s order. In any case, the finding of fact rendered by the CIT(A) that land continued to be owned by the assessee and there was no transfer of any FSI attached to the land was not shown to be perverse and/or arbitrary. In the above view, the Appeal was dismissed.

shailesh.kwebmaker

EMPTY HANDED

It is said we come into this world `empty handed’ and will leave `empty handed’. Alexander – the Great – believed in this and that is the reason he directed that when he is carried to his grave both his hands should be out of the coffin for people to see that the conqueror is leaving the world `empty handed’. However, the issue is : Is this true – Is this a fact ! The answer is No.

However, those who believe in the concept of `free will’ – that is – karma – do not / will not accept that a person comes into or goes out of this world empty handed. The believers of `free will’ believe that they are masters of their actions and are doers. They accept responsibility for their actions. In other words, they enjoy the fruits of their actions and also suffer the consequences of their mistakes.

Hence, they are born to live the consequences of deeds of their present and past life or lives. In short, they are once again given the opportunity to do good deeds so that in their next birth they enjoy the result of their good actions alongwith suffering for their mistakes. There is no quid pro quo. It also affords an opportunity through good deeds and prayer to merge with the Lord and get out of this cycle of birth-death-birth.

Every religion preaches this concept and that is why we have the concept of the? day of judgement’. Guru Nanak advised ‘Do good deeds’ – `share what you have’ and above all? remember the Giver – the Lord’. Hence, it can be said guru advocated ‘free will’. It is upto the individual to choose his path and to write his destiny. Fethullah Gulen writes : `God does not look at your body or your physical appearance. He looks at your heart and the sincerity of your deeds – and deeds determine misery or happiness in the next world’. Barnet Bain, express the same thought when he writes : ‘know that each one of us is the writer and director of our own unforgettable life story’. Further one of the Ten Commandments is ‘Do unto others what you wish them do unto you’ is based on the concept that every action has a reaction. What a dynamic philosophy – nay – concept of life – which gives one the liberty to choose the way one wants to live.

The issue is : what is the impact of this concept. The impact is that it makes us conscious – aware – of our actions and believe me if one is conscious of what one is doing one will desist – nay – never do anything that is wrong or hurts someone. ‘Free will‘ makes us conscious – aware – of the good old saying that ‘every action has a reaction’. It brings awareness in our life. William Penn advises us to do good without waiting when he says :

‘I expect to pass through life but once. If, therefore, there be any kindness I can show, or any good thing I can do to any fellow being, let me do it now, and not defer or neglect it, as I will not pass this way again’.

Hence, – it is wrong to say we come `empty handed’ and go `empty handed’. The reality is we come with full hands and go with full hands. It is upto us : what we fill in our hands.

So to have a contended and happy life and a happy life thereafter let us be conscious of our thoughts and actions. Let us not forget that `thought is also an action’. I would conclude by quoting an often quoted saying :

‘we reap what we sow’.

NB :The author believes that to the aim of life in accounting jargon is to have a zero balance sheet – a balance sheet with no debits and with nil credits. The issue is this possible ! The answer is yes based on the belief that one is not the doer – In other words, one has to give up ownership of both – one’s thoughts and actions.

shailesh.kwebmaker

‘Real Beauty’

A few years ago, I read a news item
that the sense of beauty in Indian men’s perception is not mature enough! It
was in the context of the ‘vital statistics’ of a woman’s figure, her complexion
and other criteria.

I wondered as to who are the
Americans or Europeans to dictate the standards of beauty. After all, the
beauty lies in the eyes of the beholder –as rightly said by an Urdu ‘Shayar’
–

“Kubsoorti dekhnewale ke dilme hoti
hai”

There is a story of Jesus Christ.
His mother went to his school a little before the school recess. She was in a
hurry; so she handed over the tiffin to another lady waiting to give tiffin to
her child. Jesus’s mother requested her to hand over the tiffin box to Jesus.
The lady said she did not know Jesus. The mother said when the children would
come out, the most beautiful child would be Jesus. The lady agreed.

Obviously, the lady handed over the
tiffin to her own son!

This is a universal truth. ‘Beauty’
– like many other qualities is a relative and subjective term. It varies from
viewer to viewer.

Once upon a time, there was a great
quarrel between Shree Laxmidevi – Lord Vishnu’s wife – Goddess of
riches and Shree Shanidev (God of planet Saturn who is known to trouble
the people for a period of seven and a half years – called sade sati).
The dispute was as to who between them looks more beautiful.

About the beauty of Goddess
Laxmi, all of us know well. But Saturn as a planet also looks very nice –
with the three illuminating rings around him. The dispute was not getting
resolved. Fortunately, there was no judicial system like it is of today.
Otherwise, the litigation could have continued for thousands of years; and
perhaps even Laxmiji would not have afforded the lawyers’ fees!

When they were arguing between
themselves at the top of their voice, Shree Naradmuni was passing by. He
heard it, saw them and tried to escape from there. He smelt that he was in
trouble!

Laxmiji and Shaniji
saw Naradji and called him close. They referred the dispute to his sole
Arbitration. He was not like present arbitrators and being a Sanyasi,
had no greed for money! At the same time, he wanted to avoid the embarrassing
‘assignment’ since he could not afford the frown of either! But despite his
request, and the pretext of ‘hurry,’ they would not let him go.

After all, Narad
was the son of Lord Brahma – and had extraordinary intelligence. He
thought of an idea. He asked both of them to walk upto a distant tree and come
back. They were wild. They said – “Naradji, we are asking you to decide who
between us is more beautiful and you are asking us to walk to the tree?”. But
they had no choice as the arbitrator had certain powers!

They walked reluctantly and
returned.

“No, No, No, No, No, No!” said Naradji;
“I didn’t see properly. You should not have anger on your faces. It mars the
beauty! Please do it again”. Poor Laxmiji and Shaniji were
furious in their minds; but could not express their displeasure before him.
They performed the ‘walking’ act again.

Naradji smiled and said
“yes, yes! Now I realised. While walking away from here, Shanidev looked
more beautiful and while coming back from the tree, Laxmiji was more
beautiful!

So friends, beauty lies in your
perception; your mood and your expectations!

Can
the same thing be said about ‘GST’?

shailesh.kwebmaker

Furnishing of Form GSTR-3B

August 9, 2017

To,

The Revenue Secretary

Shri Hasmukh Adhia

The Government of India

Ministry of Finance,

(Department of Revenue)

(Central Board of Excise
& Customs)

New Delhi.

Dear Sir,

Ref: Notification No.
21/2017 – Central Tax dated 08.08.2017 [F. No.349 /74 /2017-GST(Pt.)]

Sub.: Furnishing of
Form GSTR-3B

This has a reference to the
above referred Notification issued by your office regarding the dates by which
the summary return in Form GSTR-3B has to be filed.

As per the said notification,
the Form GSTR-3B for the month of July 2017 has to be filed before 20^th
August 2017. Accordingly, the effective last date for filing the same is 19^th
August 2017.

While filling the Form GSTR-3B,
we are able to fill in all the details but when we try to upload the Form by
clicking on the “submit” tab, the uploading does not take place. We are
unable to move further.

Further, between the date of the
notification and the last date of filing the Form GSTR-3B though there are
eleven days but out that, five are holidays as listed hereunder:

Sr.
No.

Date

Nature
of Holiday

12^th August
2017

Second Saturday of the
month

13^th August
2017

Sunday

14^th August
2017

Janmashtami

15^th August
2017

Independence Day

17^th August
2017

Parsi New Year

As such, the effective working
days are just 6 days which are too short to ensure timely filing of the Form.

In view of the above, we request
your goodself to kindly consider the difficulties faced by the tax payers and
the professionals and extend the said date to 1^stSeptember 2017.

Thanking you

For
Bombay Chartered Accountants’ Society,

Narayan
Pasari Deepak
R. Shah

President Chairman
– Indirect Tax Committee

shailesh.kwebmaker

38. Revision – Scope of power of Commissioner – Section 264 1 – A. Y. 2006-07 – Record includes all records relating to any proceedings – Not confined to return of income and assessment order in case of assessee – Order passed on other party treating lease rent received by it from assessee as its income – Application by assessee for revision on basis of order – Order can be considered and applied to allow deduction in assessee’s hands – Remedy u/s. 264 appropriate

Selvamuthukumar vs. CIT; 394 ITR 247 (Mad):

The petitioner had entered into an agreement with S for the
purchase of its hostel buildings. The hostels were being managed by the
petitioner pending finalisation of sale and depreciation claimed thereupon in
respect of A. Ys. 2003-04 to 2005-06. The transaction could not be completed
and upon cancellation of the agreement the hostels reverted back to S in
December 2005. The petitioner received back only a sum of Rs. 8,63,70,652 as
against the consideration of Rs. 9,79,44,847 paid by it originally.
Accordingly, no depreciation was claimed in the A. Y. 2006-07. For the purpose
of taxability on the transaction, an order u/s. 144A of the Act, 1961 was
passed to the effect that the transaction was one of lease. The Assessing
Officer of S was directed to bring to tax the difference between the amount of
the original sale consideration received and the amount returned by it to the
assessee pursuant to the cancellation of the sale agreement, considering it as
lease rent to be spread over four years pro rata. The order u/s. 144A had
attained finality. Consequently, the assessee claimed the lease rentals paid by
it over the period of the four A. Ys. 2003-04 to 2006-07, as business
expenditure u/s. 37. Notices u/s. 148 were issued to the assessee for
reassessment in respect of the A. Ys. 2003-04 to 2005-06 and the claims for
depreciation and the claim of lease rentals as business expenditure were allowed
in the reassessment. The assessee filed revision petition u/s. 264 before the
Commissioner for deduction of lease rentals for the A. Y. 2006-07. The
Commissioner rejected the application on the ground, that, (a) the order u/s.
144A was passed in the case of S and as such was not relevant in the case of
any other assessee and, (b) the power to revise u/s. 264 was specific to
consideration of any issue discussed or decided in an order of assessment which
was not the case of the assessee. He was of the view that the contention raised
by the assessee did not emanate from either the return filed by him or the
order of assessment and therefore, jurisdiction u/s. 264 could not be invoked.

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

“i) The embargo placed on an Assessing Officer in
considering a new claim would not impinge on the power of the appellate
authority or revisional authority.

ii) Section 264 of the Act has been inserted as a
parallel and alternate remedy and relief available to an assessee. It provides
powers to the Commissioner to make or cause such enquiry to be made as he
thinks fit in dealing with an application for revision. The power u/s. 264 is
wide and extends to passing any order as the Principal Commissioner or
Commissioner may think fit after making an inquiry and subject to the
provisions of the Act, suo moto or on an application by the assessee.

iii) The order passed u/s. 144A of the Act in the
case of S had relevance in the assessment of the assessee for the reason that
the transaction dealt with in that order was one between S and the assessee.
Effect had been given to the directions in the order u/s. 144A in the
assessment of S as well as in the assessment of the assessee for the A. Ys.
2003-04 to 2005-06. There was no reason why a different conclusion was taken
for the A. Y. 2006-07, when the transaction, the facts, the circumstances and
the law remained identical and unchanged throughout. Even applying the
principle of consistency, the treatment accorded to an issue that arose in a
continuing transaction should be consistent for the entire period.

iv) Section 264 provides powers to the Commissioner
to make or cause such inquiry to be made as he thought fit while deciding an
application for revision which included taking into consideration, the relevant
material that had a bearing on the issue under consideration, which in the
assessee’s case, include the order issued to S u/s. 144A. The order u/s. 144A
ought to have been taken into consideration and applied.

v) The order u/s. 264 was appropriate and ought
to have been exercised in favour of the assessee by the Commissioner.”

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37. Penalty – Block assessment – Sections 132(4), 158BC and 158BFA(2) – On mutual understanding with department, director of assessee – company filed return showing undisclosed income and assessee filed Nil return – Undisclosed income assessed finally partly in hands of director and partly in hands of assessee – Penalty not leviable on assessee

CIT vs. Saraf Agencies Ltd.; 394 ITR 444(Cal):

Pursuant to a search and seizure, the assessee company and
its director filed returns. On a mutual understanding with the Department, the
director of the assessee-company filed return showing undisclosed income of Rs.
2,02,66,971 and the assessee filed Nil return. The Assessing Officer assessed
the undisclosed income of the assessee company at Rs. 491.50 lakh and initiated
penalty proceedings u/s. 158BFA(2) of the Act, 1961. The undisclosed income of
the assessee was reduced to Rs. 37 lakh by the Commissioner (Appeals). The
Assessing Officer imposed penalty u/s. 158BFA(2) on the undisclosed income of
Rs. 37 lakh. The Commissioner (Appeals) deleted the penalty. The Commissioner
(Appeals) held that the developments in the course of the assessment
proceedings did not modify the quantum of undisclosed income but only the
proportion of distribution of the undisclosed sum between the assessee and the
director. He also held that the director was acting upon some kind of understanding
about the person who should make the declaration and that the levy of penalty
on the technical ground that the assessee declared nil undisclosed income u/s.
158BC of the Act and that there was some income found after the appellate
decision, was not justified and cancelled the penalty. The Tribunal upheld the
order of the Commissioner (Appeals).

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

“i) The imposition of penalty, when the returns of
undisclosed income were filed in consultation with the Department, was
inequitable. What had emerged after the search and seizure was that the
Department itself was unable to conclude whether the undisclosed income
belonged to the assessee or its director. It was on the basis of an
understanding arrived at between the parties that the director had made a
disclosure of Rs. 2.16 crore and the assessee filed a nil return. Finally, the
undisclosed income of the director was assessed at Rs. 2.02 crore approximately
and that of the assessee at Rs. 37 lakh.

ii) Both
the Commissioner (Appeals) and the Tribunal had held that in the facts of the
case no penalty should be levied upon the assessee. The understanding arrived
at between the Department, the assessee and the director had not been disproved
nor had that finding been assailed. The cancellation of penalty was justified.“

shailesh.kwebmaker

36. Income- Exempt income – A. Y. 1991-92 – When the royalty and interest income were claimed as exempt on accrual basis in earlier years, forex fluctuation gain or loss arising on receipt of such income in subsequent period could not also be considered as exempt. Such gain or loss could not be considered as part of royalty or interest income and it should be taxed on basis of AS-11

Ballarpur Industries Ltd. vs. CIT; [2017] 84 taxmann.com
61 (Bom)

Assessee-company had accounted for royalty and interest
income on accrual basis, which were exempt under the then India-Malaysia DTAA.
During the subsequent period (A. Y. 1991-92), the assessee had received such
income that was more than what was accounted in earlier years due to exchange
differences. The assessee argued that the exchange difference should be treated
as part of royalty and interest income. Accordingly, it would be exempt from
tax as per India-Malaysia DTAA. The Assessing Officer did not accept the
assessee’s claim and assessed the exchange difference as taxable income. The
Tribunal upheld the decision of the Assessing Officer.

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

“i) Gain or loss arising on account of foreign
exchange variation could not bear the same character of exempt income

ii) The revenue had correctly placed reliance on
AS 11 which indicates that benefit derived on account of currency fluctuation
after the year of accrual is to be considered as income or expense in the
period in which they arise

iii) This gain/loss on account of foreign exchange
fluctuation is not part of royalty and interest nor is it any accretion to it.
In this case, it is the generation of further income which is taxable in the
subject assessment year when the variation in foreign exchange has resulted in
further income in India

iv) Thus,
differential amount arising on account of exchange fluctuation was an extra
income which would be subject to tax in the year in which it was received.”

shailesh.kwebmaker

Sections 45, 48 – The cost of construction incurred by the Builder cannot be the consideration for exchange of land in the scheme of Joint Development. It is the FMV, based on the value of the Sub-Registrar, on the date of JDA, which needs to be taken as full value of consideration

16. Y. S. Mythily vs. ITO
(Bangalore)

Members : Inturi Rama Rao (AM) and Lalit
Kumar (JM)

ITA No. 235/Bang./2016

A.Y.: 2006-07.
Date of Order: 9^th June, 2017.

Counsel for assessee / revenue: H. Guruswamy / Swapna Das

FACTS

The assessee owned vacant site in respect of which she
entered into a Joint Development Agreement (JDA) with M/s Sai Dwarka Builders
and Developers. As per the terms of JDA entered into by the assessee, the
assessee agreed to transfer to the developer 55% of the undivided portion of
the land measuring 3153 sq. ft. (sic mts) out of total 5733 sq. ft. (sic mts)
and the remaining undivided portion of 2580 sq. mts was retained by the
assessee. The proposed built up area to be constructed was about 19,836 sq. ft.
out of which the assessee was entitled to 45% of the built-up area measuring
8735 sq. ft. in exchange of 3153 sq. ft of undivided portion of land and
developer was entitled to 55% of the built-up area measuring 11000 sq. ft.

In the course of assessment proceedings, the Assessing
Officer (AO) proposed to adopt cost of construction incurred by the Builder as
consideration for exchange of 55% of the undivided portion of land measuring
3153 sq. ft. According to the AO, the cost of construction, as provided by the
Builder to the AO, was Rs. 1238 per sq. ft. The AO accordingly, determined the
consideration to be Rs. 1,08,13,930 in respect of 55% of undivided portion of
land transferred by the assessee in favor of the Builder. The assessee, relying
on the ratio of the decision of Karnataka High Court in the case of Sri. Ved
Prakash Rakhra (2015) 370 ITR 762 (Kar.) submitted that the cost of
construction incurred by the Builder cannot be the consideration for exchange
of land in the scheme of Joint Development. The AO did not accept the
contentions of the assessee.

Aggrieved, the assessee preferred an appeal to the CIT(A) who
dismissed the appeal on the ground that the decision of the Karnataka High
Court in the case of Sri. Ved Prakash Rakhra (supra) is distinguishable
in as much as in the case of the assessee the agreement does not mention the
price of land transferred by the assessee.

Aggrieved, the assessee preferred an appeal to the Tribunal.

HELD

The Tribunal upon going through the relevant clauses of the
JDA observed that neither the AO nor the CIT(A) had adjudicated as to the date
of transfer i.e. as to when the property would be transferred in terms of JDA.
In the opinion of the Tribunal, prima facie, the property would not be
transferred to the assessee during the assessment year under consideration in
terms of JDA. However, since this was not urged before the Tribunal, it did not
adjudicate this issue on merit.

The Tribunal held that for the purposes of
determining the cost of construction, in identical facts and circumstances of
the case, the Hon’ble jurisdictional High Court has in the case of Ved Prakash
Rakhra (supra) held that the date of entering into the JDA would be “the
date” for the purposes of arriving at the cost of transfer i.e. cost of
structure as on the date of agreement would be the cost of transfer instead of
cost of actual construction in terms of JDA. Following the decision of the High
Court, the Tribunal allowed the appeal filed by the assessee.

shailesh.kwebmaker

Sections 43(5), 271(1)(c) – Penalty cannot be levied in a case where set off of loss against normal business income was not allowed because the AO assessed the loss to be speculative loss as against normal business loss claimed by the assessee in its return of income. Such a change amounts to change in sub-head of loss and not furnishing of inaccurate particulars of income invoking penal provisions.

18. [2017] 84
taxmann.com 63 (Kolkata – Trib.)

DCIT vs. Shree Ram Electrocast (P.) Ltd.

A.Y.: 2009-10
Date of Order: 2^nd June, 2017

FACTS

The assessee in its return of income for AY 2009-10 claimed
deduction of Rs. 51,00,000. This sum represented amount paid by the assessee as
damages to Global Alloys Pvt. Ltd. with whom assessee had entered into a
contract on 9.7.2008 for purchase of 200 MT of “Silicon Magnum” and 50MT of
“Ferro Silicon” at the rate of Rs. 78,000/MT and Rs. 86,000/MT respectively.
The contract was valid till 28.2.2009. The contract interalia provided
that in case of failure on the part of the assessee to lift the material on the
date fixed for performance of the agreement, the assessee would pay damages to
seller. Similar was the provision in case the supplier failed to supply the
material. The quantification of damages was with reference to market price on
the date of failure.

The Assessing Officer (AO) held that –

(i) the agreement read as a whole showed that the
loss in question was speculative in nature;

(ii) the element of speculation was embedded in
clauses 7 and 8 of the agreement;

(iii) non-delivery of material was contemplated in
the contract itself and the payment of Rs. 51 lakh was emanating directly from
the settlement of the contract rather than on account of any arbitration award
on account of any separate suit filed by counter party for breach of the
contract;

(iv) non-delivery of material was never a breach of
the contract but was a part of the contract under clauses of the contract and
either assessee or the seller could lose or gain depending upon whether price
of the material decreases or increases in future.

The AO rejected the contention of the assessee that the
amount paid was damages and damages paid for breach of contract was not to be
regarded as speculative loss was not accepted by the AO.

As a result of the AO treating the loss to be speculative in
nature, there was a consequent addition to the total income of the assessee.
Further, the AO initiated penalty proceedings u/s. 271(1)(c) for furnishing
inaccurate particulars and concealing particulars of income. He levied penalty
u/s. 271(1)(c) of the Act.

Aggrieved, the assessee preferred an appeal to the CIT(A) who
held that a loss declared in the income was treated as a speculative loss and
consequently not allowed to be set off against the normal business income would
only be a change of the sub-head of the loss and it could not be said that
there was furnishing of inaccurate particulars. He decided the appeal in favour
of the assessee.

Aggrieved, the revenue preferred an appeal to the Tribunal.

HELD

The Tribunal noted that in the quantum proceedings, the
Tribunal has vide order dated 22.3.2013 confirmed the action of the CIT(A) that
the loss under consideration is a speculation loss and cannot be set off
against income of a non-speculative nature. It observed that the question that
requires consideration and decision is whether the disallowance of the
assessee’s claim for set off of share trading loss against other income by
treating the same as speculation loss will attract penalty u/s. 271(1)(c). It
observed that the issue is covered in favour of the assessee by the following
judicial pronouncements –

(i) CIT vs. SPK Steels (P.) Ltd. [2004]
270 ITR 156 (MP);

(ii) CIT vs. Auric Investment & Securities
Ltd. [2009] 310 ITR 121 (Delhi)

(iii) CIT vs. Bhartesh Jain [2010] 323 ITR
358 (Delhi).

The Tribunal noted that the Delhi High Court in the case of
Auric Investment & Securities Ltd. (supra) has held that penalty
imposed by the AO u/s. 271(1)(c) was not sustainable as mere treatment of
business loss as speculation loss by the AO did not automatically warrant
inference of concealment of income and there was nothing on record to show that
in furnishing return of income, the assessee has concealed its income or had
furnished any inaccurate particulars of income.

The Tribunal upheld the action of the CIT(A) in deleting the
penalty levied by the AO.

The Tribunal dismissed the appeal filed by the
revenue.

shailesh.kwebmaker

Section 5: Where foreign employer directly credited the salary, for services rendered outside India, into the NRE bank account of the non-resident seafarer in India, same cannot be brought to tax in India u/s. 5.

17. [2017] 82
taxmann.com 209 (Kolkata – Trib.)

Shyamal Gopal Chattopadhyay
vs. DDIT

A.Y.: 2011-12
Date of Order: 2^nd June, 2017

FACTS

The assessee, a Marine Engineer, engaged with Wallem Ship
Management Ltd., in capacity as a Master was paid USD 74271.36 on different
dates, convertible into Indian Rupees of Rs. 33,47,312. The amount was received
in USD outside India and on request of the assessee, was remitted to the
Savings Bank NRE Account maintained by the assessee with HSBC in India. The
above income was not offered for taxation on the ground that it has been
received from outside India in foreign currency.

In the course of assessment proceedings, the Assessing
Officer (AO) issued asked the assessee to show cause why remuneration received
in India should not be brought to tax in terms of section 5(2)(a) of the Act.

The AO rejected the assessee’s contention that the payments
were received outside India and at the request of the assessee, were remitted
to his savings bank NRE account maintained in India. The AO charged to tax the
sum of Rs. 33,47,112 as income chargeable to tax in India. For this
proposition, he placed reliance on the Third Member decision of Mumbai Tribunal
in the case of Capt. A. L. Fernandes vs. ITO [2002] 81 ITD 203, wherein
it has been held that salary received by the assessee in India is taxable u/s.
5(2)(a) of the Act.

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

Aggrieved, the assessee preferred an appeal to the Tribunal
where it contended that its case is squarely covered by the following decisions
–

(i) DIT
(Int Tax) vs. Prahlad Vijendra Rao [2011] 198 Taxman 551 (Kar.)

(ii) CIT
vs. Avtar Singh Wadhwan [2001] 247 ITR 260 (Bom.)

It was also submitted that the issue is now squarely covered
in favour of the assessee by CBDT Circular No. 13/2017 dated 11.4.2017 wherein
it has been categorically clarified by CBDT that the subject mentioned receipt
is not taxable as income u/s. 5(2)(a) of the Act.

HELD

The Tribunal observed that the decision in the case of Tapas
Kumar Bandhopadhya vs. DDIT (Int. Tax) [2016] 159 ITD 309 (Kol.-Trib.),
relied upon by the ld. DR, was rendered by placing reliance on the Third Member
decision of Mumbai Tribunal in case of Capt. A. L. Fernandes (supra).
This decision clearly lays down that the receipt in India of salary for
services rendered on board a ship outside the territorial waters of any country
would be sufficient to give the country where it is received the right to tax
the said income on receipt basis. Such a provision is found in section 5(2)(a)
of the Act which was applied in the aforesaid decision. It is trite that
decision of a Third Member would be equivalent to a decision of a Special Bench
and thereby would become a binding precedent on the division bench. However, we
find that the impugned issue has been duly addressed by the CBDT Circular No.
13/2017 dated 11.4.2017 as rightly relied upon by the ld AR.

A perusal of the Circular referred to above, shows that
salary accrued to a non-resident seafarer for services rendered outside India
on a foreign going ship (with Indian flag or foreign flag) shall not be
included in the total income merely because the said salary has been credited
in the NRE account maintained with an Indian bank by the seafarer. Remittances
of salary into NRE Account maintained with an Indian Bank by a seafarer could
be of two types: (i) Employer directly crediting salary to the NRE Account
maintained with an Indian Bank by the seafarer;
(ii) Employer directly crediting salary to the account maintained
outside India by the seafarer and the seafarer transferring such money to NRE
account maintained by him in India. The latter remittance would be outside the
purview of provisions of section 5(2)(a) of the Act, as what is remitted is not
“salary income” but a mere transfer of assessee’s fund from one bank
account to another which does not give rise to “Income”. It is not
clear as to whether the expression “merely because” used in the
Circular refers to the former type of remittance or the latter. To this extent,
the Circular is vague.

In the instant case, the employer has directly
credited the salary, for services rendered outside India, into the NRE bank
account of the seafarer in India. In our considered opinion, the aforesaid
Circular is vague inasmuch as it does not specify as to whether the Circular
covers either of the situations or both the situations contemplated above.
Hence, we deem it fit to give the benefit of doubt to the assessee by holding
that the Circular covers both the situations referred to above. The result of
such interpretation of the Circular would be that the provisions of sec.5(2)(a)
of the Act are rendered redundant. Be that as it may, it is well settled that
the Circulars issued by CBDT are binding on the revenue authorities. This
position has been confirmed by the Hon’ble Apex Court in the case of Commissioner
of Customs vs. Indian Oil Corpn. Ltd. [2004] 267 ITR 272, wherein their Lordships
examined the earlier decisions of the Apex Court with regard to binding nature
of the Circulars and laid down that when a Circular issued by the Board remains
in operation then the revenue is bound by it and cannot be allowed to plead
that it is not valid or that it is contrary to the terms of the statute.
Accordingly, the grounds raised by the assessee are allowed.

shailesh.kwebmaker

Sections 23, 198, 199 – Credit has to be granted even in respect of TDS on the part of annual value which has been claimed as unrealised rent.

16. [2017] 82 taxmann.com 456 (Mumbai- Trib.)

Shree Ranji Realties (P.) Ltd. vs. ITO

A.Y.: 2010-11
Date of Order: 9^thJune, 2017

FACTS

The assessment of total income of the assessee company having
investment in shares, mutual funds and immovable properties, etc. was
completed u/s. 143(3) of the Act.
Subsequent to completion of assessment, the Assessing Officer (AO)
noticed that the assessee had offered income under the head `Income from House
Property’ after deducting amount of unrealised rent under Rule 4 of the
Income-tax Rules, 1962 (“Rules”) and had claimed credit of TDS on both,
realized as well as unrealised rent. The
AO, in an order passed u/s. 154 of the Act restricted the credit of TDS to the
extent of actual amount of rent received.

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

Aggrieved, the assessee preferred an appeal to the Tribunal
where relying on the decision of the Apex Court in the case of T. S.
Balaram, ITO vs. Volkart Bros. [1971] 82 ITR 50 (SC), it was contended that
the issue is highly debatable and cannot be rectified u/s. 154 of the Act.

HELD

The Tribunal observed that –

(i) the facts are not in dispute that the
assessee has disclosed rental income but claimed deduction of unrealised rent
u/s. 23(1) read with rule 4 of the Rules;

(ii) the Unrealised rent is duly offered to tax by
the assessee at the first instance, and then the same is claimed as deduction from
Rental Income u/s. 23(1) of the Act r.w. Rule 4 of the rules;

(iii) the assessee duly fulfils all the conditions
as laid down in section 198 r.ws. 199 read with Rule 37A of the Act.

(iv) TDS had been deducted and paid to the Central
Government by the deductee and Payment / Credit of Rent Income has been
included in the accounts of the assessee;

(v) the deductor had duly filed requisite TDS
returns as per Rules and also issued TDS certificate to the assessee and the
same was furnished to the AO;

(vi) amount of TDS claimed, corresponding to claim
of unrealised rent, is duly offered to tax as income of the assessee, in view
of section 198 of the Act and also assessed by the AO.

It held that the Unrealised rent is deduction which is
claimed u/s. 23(1) of the Act, read with Rule 4 of the Rules, from the total
rental income offered during the year. The unrealised rent is not an exempt
income. As the total rental income (including unrealised rent) is duly offered
to tax under the head ‘Income from House Property’, corresponding TDS credit
needs to be allowed. The Tribunal observed that there are similar instances,
where although the deduction is allowed with respect to total income offered
during the year, still the claim of TDS with respect to such deduction is duly
allowable under the Act i.e. TDS credit is allowed on deduction of Income u/s.
8OIA, 8OIB, 80IC of the Act, etc. and also TDS credit is allowed on bad
debts claimed u/s. 36(1)(vii) of the Act.

Further, the issue is covered by the decision of co-ordinate
bench of this Tribunal in the case of Chander Shekhar Aggarwal (2006) 157 ITD
626 (Delhi).

The Tribunal held that the assessee’s action is in accordance
with provisions of section 199 of the Act and the assessee is eligible for seeking credit of the TDS amount.

The Tribunal set aside the order of the authorities below and
decided the issue in favour of the assessee. It also held that this issue is
highly debatable and cannot be acted upon by the revenue.

The Tribunal allowed the appeal filed by the
assessee.

shailesh.kwebmaker

10. Capital Gain – purchase and sale of shares and mutual funds – Whether chargeable to tax under the head ‘capital gains’ or as business income

CIT, vs. Mohan Vallabhdas Bhatiya. [ Income tax Appeal no
1201 of 2014 dt : 24/01/2017 (Bombay High Court)].

[ACIT , vs. Mohan Vallabhdas Bhatiya., [dated 31/01/2014;
A Y: 2005-06. Mum.ITAT]

The assessee carries on business as a trader in shares. He
also has investments, consequently he holds two portfolios one an investment
portfolio showing the capital assets and the other is trading portfolio. The
assessee was consistently showing gains on account of his investment portfolio
and offering them to tax under the head ‘capital gains’. In fact, right from
the AY : 2003-04 till AY: 200-10, the Revenue has consistently accepted the claim
of the assessee with regard to the gain made on its investment portfolio is
taxable under the head Capital gain except for the subject AY, the Revenue is
seeking to take a different view. The grievance of the Revenue is that in the
subject Assessment Year, there were borrowed funds. Thus, the gains claimed to
have been made on investments are in fact trading gains.

So far as borrowed funds are concerned, the Tribunal records
the fact that a small amount of loan was taken from the relatives and it did
not bear any interest. Moreover, the use of borrowed funds is not necessarily
attributable to the investments made, as there is no such finding given by the
authorities below.

The Hon. High Court dismissed the Revenue’s appeal upholding
the stand of the Assessee that the income earned on account of purchase and
sale of shares and mutual funds were chargeable to tax under the head ‘capital
gains’ and not as business income.

The High Court observed that even before the Tribunal, the
Revenue did not point out any variation in the facts and circumstances of the
case for the subject Assessment Year from those of the earlier and subsequent
years on account of income earned on investment. Moreover, the loan which has
been taken from relatives were for a small amount and further the use of these
borrowed funds were not established to be for purchase of shares for investment
by the authorities.

Therefore, in view of the fact that the Revenue
has been consistently taking a view that the income earned on investments is
taxable under the head capital gains no difference in facts and /or in law has
been pointed out to take a different view for the subject AY. Moreover, both
the CIT(A) as well as the Tribunal have concurrently come to a finding of fact
that the income earned on the investment portfolio is chargeable under the head
capital gains and not under the head ‘profits from trading of shares’ which is
not shown to be perverse. In the above view, the revenue’s Appeal was
dismissed.

shailesh.kwebmaker

9. TDS – Payments made for hiring of cranes – the crane owner responsible for day-to-day maintenance and operating costs – liable for TDS u/s. 194C of the Act – not u/s. 194I of the Act.

CIT (TDS) vs. M/s. UB Engineering Ltd. [ Income tax Appeal
no 1312 of 2014 With 1313 of 2014, dt : 23/01/2017 (Bombay High Court)].

[ITO , (TDS – 3), vs. M/s. UB Engineering Ltd. [ ITA NO.
2025 & 2026/PN/2012; Bench : A ; dated 30/09/2013 ; A Y:2007-08 &
2008-09. Pune. ITAT ]

The assessee is engaged in the business of erection and
commissioning of Industrial Plants and also in A.Ys. 2008-09 & 2009-10
undertakes maintenance of operational plants. The assessee undertakes such work
on contractual basis. Amongst the machinery deployed, it includes ‘cranes’
which are mobilised for movement of heavy machinery. Apart from the deployment
of machinery, assessee also allocated specific activities to labour
contractors. In the case of such activities, assessee incurred expenditure of
Rs.1,21,14,506/- for mobilisation of cranes. The assessee company deducted tax
at source on such payments treating the same to be contractual payments and
applying the provisions of section 194C of the Act. Accordingly, the assessee
deducted tax at source u/s. 194C @ 1% whereas as per the AO the tax was liable
to be deducted in terms of the provisions of section 194I of the Act @ 10% plus
surcharge, treating the payments as rental payments. For the said reason, the
AO treated the assessee as an assessee in default in terms of section 201(1) of
the Act for short deduction of tax to the extent of Rs.12,39,043/- and also
held the assessee liable for the payment of interest on such short deduction in
terms of section 201(1A) amounting to Rs.4,46,055/-.

The CIT(A) considered the facts of the case and concluded
that assessee had correctly applied the provisions of section 194C of the Act
while deducting the tax at source on the impugned payments. The CIT(A) has
noticed that assessee hired services of cranes for which entire maintenance,
repairs, drivers’ salaries etc. was borne by the supplier. The CIT(A) relied
upon the decision of the Pune Tribunal in the case of Wings Travels, ITA No.
1136/PN/2009 and also the judgement of the Hon’ble Gujarat High Court in the
case of Swayam Shipping Services (P) Ltd., 339 ITR 647 (Gujarat) and concluded
that the AO was not justified in invoking the provisions of section 194I of the
Act in respect of the ‘crane hire charges’.

The Tribunal observed that factually, it is not in dispute
that the crane owner not only provides the services of a crane but is also
responsible to provide the operator and incur maintenance & repairs costs, etc.
The Hon’ble Gujarat High Court in the case of Swayam Shipping Services (P) Ltd.
(supra) held that the payments for hiring cranes and Trailers were
liable for deduction of tax at source in terms of section 194C of the Act and
not in terms of section 194I of the Act. The Tribunal also relied on decision,
of the Pune Bench decision in the case of Wings Travels (ITA
No.1136/PN/2009, dated 30^th August, 2011 and Bharat Forge Ltd.
vs. Addl. CIT vide ITA No.1357/PN/2010, wherein a similar view to the
effect that in cases where the crane owner provides the operator as also is
responsible for day-to-day maintenance and operating costs, the payments made
for hiring of cranes would be liable for deduction of tax at source u/s. 194C
of the Act and not u/s. 194I of the Act, as contended by the Revenue. Accordingly,
the order of the CIT(A) was affirmed.

Being aggrieved, the Revenue carried the issue in appeal to
the High Court. The High Court observed that the impugned order dismissed the
Revenue’s appeal before it by inter
alia placing reliance upon the decision of the coordinate
bench in the case of Wings
Travels (Supra). In the affidavit dated 13^th January, 2017, Mr.
Rajesh Gawali, Deputy Commissioner of
Income Tax (TDS) stated that the
decision of the coordinate bench
of the Tribunal in Wings Travels (supra) has been accepted by the Income
Tax Department in view of an earlier
view taken in the case of Accenture
Services (P) Ltd. (ITAT No.5920,
5921 and 5922/Mum/2009).

In the above view, Revenue Appeal was dismissed.

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8. Advance received for exports – shown in the accounts as a liability for a period of more than 10 years – no addition of the amount shown as a liability u/s. 41(1)

CIT vs. M/s. Aasia Business Ventures Pvt.Ltd. [ Income tax
Appeal no 1010 of 2014, dt : 24/01/2017 (Bombay High Court)].

[M/s. Aasia Business Ventures Pvt. Ltd. vs. ITO. [ITA
No.430/MUM/2011 ; Bench : A ; date:08/11/2013 ; A Y: 2007- 2008. MUM. ITAT ]

The assessee is engaged in giving advisory services and
traded in shares. Earlier, the assessee was a trader in SKO Superior Kerosene
Oil. It imported SKO and was selling the same in domestic market. During the
course of assessment, the AO noticed that an amount of Rs.3.04 crore was
reflected under the head “current liabilities” (being advance against exports)
in its balance sheet for the year ending 31^st March, 2007. On
inquiry, the AO found that the advance had been received as far back as on 24^thJanuary, 1997 from one Amas Mauritius Ltd. in order to export goods.
However, the exports could not be made till date and the balance is still due
and payable to Amas Mauritius Ltd. in
the books of assessee. The AO in the above view held that the transaction of
advance from Amas Mauritius Ltd. was not a genuine transaction and it was not
to be repaid. Therefore, an addition of Rs.3.04 crore was made on application
of section 41(1) of the Act as cessation of liability.

The CIT(A) upheld the order of AO. Being aggrieved by the
order of the CIT(A), the assessee filed an appeal to the Tribunal. The assessee
pointed out that it had approached the Reserve Bank of India for permission to
return the amount of Rs.3.04 crore shown as an advance against export to Amas
Mauritius Ltd. However, the approval of RBI had not yet been received. The
Tribunal allowed the assessee’s appeal by following the decisions of this Court
in Commissioner of Income Tax vs. Chase Bright Steel Ltd. 177 ITR 128 to
hold that where an amount is shown as an advance in the balance sheet by the
assessee, it amounts to acknowledgment of liability and it does not cease to
exist. So far as the genuineness of the transaction as well as creditworthiness
of the creditor is concerned, the impugned order holds that the same was appearing
in the books of account for all the earlier assessment years and the same was
accepted by the Revenue as genuine. Further, the ITAT placed reliance upon a
decision of its Co-ordinate bench in Jayram Holdings Pvt. Ltd. (ITA
No.6914/Mum/2010) rendered on 4th July, 2012 wherein in almost identical fact
situation, advance received for exports was also shown in the accounts as a
liability for a period of more than 10 years, the Tribunal took a view that
there can be no addition of the amount shown as a liability either u/s. 41(1)
and/or u/s. 28(iv) of the Act. This is so as long as the liability exists.

Before the High Court, the grievance of the Revenue was that
the above transaction is not genuine. This particularly in view of the fact
that Amas Mauritius Ltd. is a 40% shareholder in the assessee company. Thus
related.

Therefore, the impugned order of the Tribunal requires
consideration by this Court to determine its correctness.

The High Court observed that the issue as arising herein was
also a subject matter of consideration before the Tribunal in the case of M/s.
Jayram Holdings Pvt. Ltd. (supra) and it is relied upon in the impugned
order to conclude that section 41(1) of the Act cannot be applied in the
present facts. The Court noticed that in the above case also, the assessee
therein had received from its sister concern an advance for export and shown in
its books over a period of 10 years as a liability.

However, the Tribunal held that section 41(1) of the Act
cannot be applied so long as the liability is acknowledged. The Court held that
the liability does not cease, so long as the party acknowledges its liability.
The order of the Tribunal in Jayram Holdings Pvt. Ltd. (supra) has been
accepted by the revenue. No distinguishing features in the present case have
been indicated during the course of the hearing.

Moreover, it was stated that on obtaining the
permission from Reserve Bank of India on 21^st April, 2014, the
amounts have been repatriated to Amas
Mauritius Ltd. on 16^thMay, 2014. Thereafter, this amount is not now
shown as a liability. In the above view, the appeal was dismissed.

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41. Revision- Section 264 – A. Y. 2013-14- Power of Commissioner – Intimation u/s. 143(1) whether can be considered in revision – Assessee filing revised return and seeking interference by Commissioner – Commissioner to consider revision application

Agarwal Yuva Mandal (Kerala) vs. UOI; 395 ITR 502 (Ker):

For the A. Y. 2013-14, the assessee society filed return of
income claiming certain deductions. The assessee received an intimation u/s.
143(1) disallowing certain expenses on the ground that it was not registered
u/s. 12A of the Act, 1961. The assessee was assessed to a liability of Rs.
2,85,190-. The assessee later revised its return, but no action was taken by
the Department based on the revised return. The assessee thereafter received a
reminder for payment of the outstanding amount of Rs. 2,85,190. The assessee
sent a reply requesting consideration of its revised return. Since there was no
response, the assessee filed a revision petition u/s. 264 of the Act. The
Principal Commissioner declined to exercise the revisional authority holding
that the intimation u/s. 143(1) was not an order of assessment for the purpose
of section 264, whereas it was deemed to be a notice of demand u/s. 156 of the
Act. The assessee filed a writ petition against the order of the Principal
Commissioner.

The Kerala High Court allowed the assessee’s writ petition
and held as under:

“i) Section 143 had undergone certain changes
w.e.f. 01/06/1999. The statute uses the word intimation and not order. It was
in the light of the change in the statutory provision that one had to consider
the scope and effect of the revisional powers u/s. 264.

ii) Though not as a challenge to section 143(1)
notice, when the assessee filed a revised return and sought for interference by
the Commissioner, necessarily a claim had to be considered in accordance with
law. The Commissioner would be justified in considering the claim to deduction
by the assessee in accordance with law u/s. 264 of the Act. The Commissioner is
directed to consider the matter.”

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40. TDS – Rent – Section 194-I – A. Y. 2010-11 – Meaning of “rent”- Passenger service fees collected by airline operators – Use of land and building incidental – Tax not deductible at source on such fees

CIT(TDS) vs. Jet Airways (India) Ltd.; 395 ITR 230 (Bom):

The assessee was engaged in the business of transportation by
aircraft and for that purpose used and occupied airports run by airport
operators. In the course of its business the assessee collected on behalf of
the airport operators, a passenger service fees and handed it over to the
airport operators.

However, as no tax was deducted at source while handing over
the passenger service fees to the airport operator, a notice u/s.
201(1)(1a) of the Act, 1961 was issued
calling for the assessee’s explanation. The basis of the notice was that the
passenger service fees paid over to the airport operator was “rent” falling
within the scope of section 194-I of the Act. The assessee contended that the
passenger service fees collected by it from its passengers and handed over to
the airport operator is not in the nature of rent. That it consisted of two
components, i.e., security component and facilitation component.

However, the Assistant Commissioner (TDS) did not accept the
assessee’s submission and held the assessee liable to deduct and pay the amount
of tax at source and the interest thereon u/s. 201(1) and (1A). The Tribunal
held that the payment could not be considered to be rent and allowed the
assessee’s claim.

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

“i) The
assessee collected passenger service fees only from its embarking passengers
for and on behalf of the airport operator. The payment of passenger service
fees was for use of secured building and furniture. Therefore, the use of land
or building in this case was only incidental. As the substance of the passenger
service fees was not for use of land or building, but for providing security
service and facilities to the embarking passengers, the payment could not be
considered to be rent within the meaning of section 194-I.

ii) Tax
was not deductible at source on the payment. Proposed question of law does not
give rise to any substantial question of law and thus not entertained.”

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39. Search and seizure – Assessment u/s. 153A – A. Ys. 2003-04, 2006-07 to 2008-09 – Assessee can claim deduction in return u/s. 153A or first time before appellate authorities

CIT vs. B. G. Shirke Construction Technology P. Ltd.; 395
ITR 371 (Bom):

The assessee was engaged in the execution of construction
contracts. On 18/12/2008, there was a search and seizure action u/s. 132 of the
Income-tax Act, 1961 upon the assessee. Pursuant thereto, notices u/s. 153A
were issued for the A. Ys. 2003-04, 2006-07 to 2008-09. As the assessment for
the A. Ys. 2007-08 and 2008-09 were pending before the Assessing Officer, they
stood abated in view of the second proviso to section 153A(1) of the Act.
Consequently, the assessee filed the returns of income for the subject
assessment years u/s. 153A read with section 139(1) of the Act. In its returns
of income, the assessee had offered the income on account of execution of
contracts but had not excluded the amounts retained by its customers till the
completion of the defect liability period after completion of the contract.
This amount could not be quantified in a short time available to file the
returns of income. Therefore, the assessee had filed a note along with its
returns of income pointing out the aforesaid facts and its seeking appropriate deduction
when completing the assessments. The note also pointed out that the said amount
had inadvertently not been claimed as a deduction in its original returns of
income. During the assessment proceedings, the assessee quantified its claim
year wise placing reliance on relevant clause of the contract with its
customers, so as to claim deduction to the extent the customers have retained
(5–10%). The Assessing Officer quantified the claim amount but did not allow
the claim holding that he does not have power to allow the claim in view of the
judgment of the Supreme Court in Goetze (India) Ltd. vs. CIT 284 ITR 323
(SC). The Tribunal held that although it is undisputed that the computation of
income did not reflect the actual quantification of the amount of retention
money held by the customers which cannot be subject to tax, but the note filed
along with the return of income indicated the claim in principle. The
quantification was explained during the assessment proceedings along with the
relevant clauses of each contract with its customers. The Tribunal held that
the decision of Supreme Court in Goetze (India) Ltd., will not apply to the
present facts as in this case the claim for deduction on account of retention
money had been made along with the return of income, only the quantification of
the amount was made during the assessment proceedings.

The Tribunal held that the claim for deduction was to be
allowed. The Tribunal further held that even if the quantification made during
the assessment proceedings was considered to be a fresh claim and could not
have been entertained by the Assessing Officer, there was no bar/impediment in
raising the claim before the appellate authorities for consideration.
Accordingly, the Tribunal allowed the assessee’s claim for deduction.

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

“i) The consequence of notice u/s. 153A(1) of the
Income-tax Act, 1961 is that the assessee is required to furnish a fresh return
of income for each of the six of the assessment years in regard to which a
notice has been issued. Section 153A(1) itself provides that on filing of the
return consequent to notice, the provisions of the Act will apply to the return
of income so filed. Consequently, the return filed u/s. 153A(1) of the Act is a
return furnished u/s. 139 of the Act. Therefore, the provisions of the Act
would be otherwise applicable in the case of a return filed in the regular
course u/s. 139(1) of the Act would also continue to apply in the case of a
return filed u/s. 153A of the Act.

ii) In
the return of income filed u/s. 139(1) of the Act, an assessee is entitled to
raise a fresh claim before the appellate authorities, even if it was not raised
before the Assessing Officer at the time of filing of the return of income or
filing of revised return. The restriction in the power of the Assessing Officer
will not affect the power of the Appellate Tribunal to entertain a fresh claim.
There is no substantial question of law. Appeal is dismissed.”

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35. Charitable purpose – Exemption u/s. 11 – A. Ys. 2006-07 and 2009-10 – Education main activity of assessee – Publishing and printing books and selling them at subsidised rates or distributing them at free of cost – Profit earned thereby utilised for education – Denial of exemption erroneous-

Delhi Bureau of Text Books vs. DIT(Exemption); 394 ITR 387
(Del):

The assessee was registered as a charitable institution u/s.
12A(a) of the Act, 1961. It printed and published text books for Government
schools and sold them at subsidised rates with nominal profits. It also
distributed free books, reading material and school bags to needy students. Its
income was exempt from tax u/s. 11 of the Act, during the A. Ys. 1971-72 to
2005-06. It was denied the benefit of exemption for the A. Ys. 1975-76 and
1976-77, but the Commissioner (Appeals) restored the exemption and the same was
confirmed by the Tribunal. For the A. Ys. 2006-07 to 2009-10, the Assessing
Officer denied the exemption and the same was confirmed by the Appellate
Tribunal. The Tribunal held that the asessee’s activities were in the nature of
business, that compliance with the requirement of section 11 could be examined
in every assessment year, that in its earlier order for the A. Ys. 1975-76 and
1976-77, it had not considered the assessee’s income and expenditure statements
or other relevant evidence, that the assessee had not maintained separate books
of account for its activities of sale and purchase of books thereby violating
the provisions of section 11(4A), and that the assessee had made accumulation
in excess and ”without specifying any purpose” and “was not wholly for
charitable purposes”.

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

“i) The preparation and distribution of text books
contribute to the process of training and development of the mind and the
character of students. There does not have to be a physical school for an
institution to be eligible for exemption. What is important is the activity. It
has to be intrinsically connected to “education”.

ii) The Appellate Tribunal was incorrect in
denying exemption to the assessee u/ss 11 and 12 of the Act. It erred in
holding that the activities carried out by the assessee fell under the fourth
limb of section 2(15), “the advancement of any other object of general public
utility” and that its activities were not solely for the purpose of advancement
of education. It came to the erroneous conclusion merely because the assessee
had generated profits out of the activity of publishing and selling text books
that it had ceased to carry on the activity of “education”.

iii) It failed to consider the issue in the
background of the setting up of the assessee, its control and management and
the sources of its income and the pattern of its expenditure and that its
surplus amount was again utilised in its main activity of “education”. The
assessee contributed to the training and development of the knowledge, skill,
mind and character of the students.

iv) The exemption had been granted to the assessee
u/s. 11 and 12 from the A. Ys. 1971-72 to 2005-06 consistently for 34 years.
For the A. Ys. 1975-76 and 1976-77, grant of exemption had been restored by the
Appellate Tribunal which was not contested by the Department. Apart from the
fact that the assessee had earned more profits from its essential activity of
education, there was no change in the circumstances concerning its activity of
publishing and selling books during the A. Ys. 2005-06 to 2009-10. There was no
justification to warrant a different approach. Appeals are allowed.”

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34. Capital gains- Exemption u/s. 54F – A. Y. 2012-13 – Assessee getting more than one residential house in several blocks – All flats product of one development agreement on same piece of land – Flats located in same address – Assessee is entitled to benefit of exemption u/s. 54F

CIT vs. Gumanmal Jain; 394 ITR 666 (Mad):

The assessee and his two sons owned certain contiguous
extents of land. The assessee along with his two sons entered into a joint
development agreement with a builder to develop the land by constructing 16
flats therein with a total built up area of 56,945 sq. ft. The assessee and two
sons on the one hand and the builder on the other hand agreed to share in 70:30
ratio between them. The land was developed, 16 flats with separate kitchens and
37 car parks were put up. In lieu of the 70:30 ratio set out in the builder’s
agreement, the assessee got 9 flats and the sons got 3 flats each. For the A.
Y. 2012-13, the Assessing Officer rejected the assessee’s claim for exemption
u/s. 54F of the Act, 1961 on the ground that the assessee owned more than one
residential house and assessed the long term capital gain of Rs. 2,31,56,430 to
tax. The Commissioner (Appeals) allowed the assessee’s claim for exemption and
the same was upheld by the Tribunal.

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

“i) The assessee having got flats along with his
two sons would not disentitle him from getting the benefit u/s. 54F of the Act
only on the ground that all the flats were not in the same block, particularly
in the light of the admitted factual position that all the flats were located
at the same address. As long as all the flats were in the same address, even if
they were located in separate blocks or towers it would not alter the position.

ii) After all, all the flats were a product of one
development agreement of the same piece of land. Therefore, the assessee was
entitled to get the benefit of section 54F of the Act.”

shailesh.kwebmaker

33. Business expenditure – Exempt income- Disallowance u/s. 14A- A. Y. 2011-12 – If no exempt income is earned in the assessment year in question, there can be no disallowance of expenditure in terms of section 14A read with Rule 8D even if tax auditor has indicated in his tax audit report that there ought to be such a disallowance

Principal CIT vs. IL & FS Energy Development Company
Ltd.; [2017] 84 taxmann.com 186 (Delhi)

Assessee is a company engaged in provision of consultancy
services. On 26^th September 2011, the Assessee filed its return at a
loss of Rs. 2,42,63,176/- for the A. Y. 2011-12. The Assessee had not earned
any exempt income in the relevant year. The assessee had not made any
disallowance u/s. 14A of the Act, 1961. The Assessing Officer computed the
disallowable amount u/r. 8D and made disallowance. The Tribunal held that since
the assessee had not earned any exempt income in the relevant year there can be
no disallowance u/s. 14A of the Act and allowed the assessee’s claim.

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

“i) The key question in the present case is
whether the disallowance of the expenditure will be made even where the
investment has not resulted in any exempt income during the AY in question but
where potential exists for exempt income being earned in later AYs.

ii) Section 14A does not particularly clarify
whether the disallowance of the expenditure would apply even where no exempt
income is earned in the AY in question from investments made, not in that AY,
but earlier AYs.

iii) The words “in relation to income which
does not form part of the total income under the Act for such previous year”
in the above Rule 8D(1) indicates a correlation between the exempt income
earned in the AY and the expenditure incurred to earn it. In other words, the
expenditure as claimed by the Assessee has to be in relation to the income
earned in ‘such previous year‘.

iv) This
implies that if there is no exempt income earned in the AY in question, the
question of disallowance of the expenditure incurred to earn exempt income in
terms of section 14A read with Rule 8D would not arise.

v) The mere fact that in the audit report for the
AY in question, the auditors may have suggested that there should be a
disallowance cannot be determinative of the legal position. That would not
preclude the assessee from taking a stand that no disallowance u/s. 14A of the
Act was called for in the AY in question because no exempt income was earned.”

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32. ALP – Computation- Sections 92 and 92C – A. Y. 2011-12 – Determination of operating costs- Agreement between parties – Reimbursement of costs received from AEs – Finding that reimbursement of cost of infrastructure was without a mark up- Claim of assessee to exclude cost of infrastructure to be allowed

Principal CIT vs. CPA Global Services Pvt. Ltd.; 394 ITR
473 (Del):

The assessee is a wholly owned subsidiary of CPA Mauritius
Ltd., which in turn is a subsidiary of CPA Jersey. It offers a range of legal
support services to its associated enterprises (AEs) as well as to independent
third party customers. During the A. Y. 2011-12, the assessee received an
amount from its associated enterprises as “cost recharge on account of spare
capacity” which was not reflected in its profit and loss account. The Transfer
Pricing Officer (TPO) was of the view that the assessee had not produced any
evidence in support of its claim that the expenditure was towards maintenance
of spare capacity at the instance of the AEs.

The Dispute Resolution Panel (DRP) held that the arm’s length
price (ALP) of the receipts from the AEs included all the costs and that the
assessee did not give sufficient reasons to exclude certain costs for the
purposes of computing the ALP. While the application filed by the assessee u/s.
154 of the Income-tax Act, (hereinafter for the sake of brevity referred to as
the “Act”) 1961 was pending before the DRP, a draft assessment order
was passed by the Assessing Officer based on the decision of the DRP. Before
the Appellate Tribunal, the assessee referred to the agreement with its AEs and
submitted that the reimbursement towards the cost of service with a mark up had
been accounted for in working out the ALP in the transfer pricing study and the
other reimbursement it sought to exclude from the operating costs was towards
the cost of infrastructure on which there was no mark up. The Appellate
Tribunal held that the reimbursement cost should be excluded as they did not
involve any functions to be performed so as to consider it for profitability
purposes and directed the TPO to exclude the reimbursement costs while working
out the operating costs.

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

“i) The Appellate Tribunal after examining the
agreement between the assessee, and its AEs had agreed with the assessee that
the reimbursement of the infrastructure cost had no mark up. Unless there was a
specific plea by the Department to the effect that such a factual finding was
perverse, on a general plea of perversity, the appeal could not be entertained.
Also, it should be accompanied by a reference to the relevant document which
formed part of the record of the case before the Appellate Tribunal.

ii) No
substantial question of law arises from the order of the Tribunal. Appeal is
dismissed.”

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Applicability of Section 14A – Interest To Partners

Issue for Consideration

Section 14A(1) of the Income-tax Act, 1961 provides that for
the purposes of computing the total income, under the chapter (Chapter IV –
Computation of Total Income), no deduction shall be allowed in respect of an
expenditure incurred by the assessee in relation to the income which does not
form part of the total income under the Act.

Under the scheme of taxation of partnership firms, a
partnership firm is entitled to deduction of interest paid to partners, and
such interest paid is taxable in the hands of the partners, under the head
‘profits and gains of business and profession, vide section 28(v) of the Act. The
deduction of such interest to partners, in the hands of the firm, is governed
by the restrictions contained in section 40(b)(iv), which section provides that
payment of interest to any partner, which is authorised by, and is in
accordance with, the terms of the partnership deed and relates to any period
falling after the date of such partnership deed in so far as such amount
exceeds the amount calculated at the rate of 12% simple interest per annum,
shall not be allowed as deduction.

A question has arisen before the Tribunal in various cases as
to whether interest paid to partners, which is allowable as a deduction to the
partnership firm, can be regarded as an ‘expenditure incurred’ by the assessee
firm, and can therefore form part of the disallowance u/s.14A, to the extent
that it has been incurred in relation to the income arising on investment made
out of the funds received from the partners and on which interest is paid by
the firm, which income does not form part of the total income of the partnership
firm.

While the Ahmedabad and Mumbai benches of the Income Tax
Appellate Tribunal have held that such interest, in the hands of the firm,
would be regarded as an expenditure subject to disallowance u/s. 14A, the Pune
bench of the Tribunal has taken a contrary view holding that interest paid by a
partnership firm on its partners’ capital cannot be regarded as an expenditure amenable to section 14A.

Shankar Chemical Works’ case

The issue first came up before the Ahmedabad bench of the
Tribunal in the case of Shankar Chemical Works vs. Dy CIT 47 SOT 121.

In this case, relating to assessment year 2004-05, the
assessee was a partnership firm carrying on the business of manufacturing of
chemicals. It had invested in various financial assets, such as debentures,
bonds, mutual funds and shares to the extent of Rs. 1.93 crore, the income from
some of which investments was exempt from tax to the extent of Rs. 43.48 lakh.
The assessing officer noted that the assessee had borrowings to the extent of
Rs. 15.57 lakh, on which an interest of Rs. 1.54 lakh had been paid. Besides,
the firm had paid interest on partners’ capital. The assessing officer
concluded that investments in all these mutual funds, shares and securities had
been made out of the funds of the firm, which were either out of the partners’
capital or from borrowings from others. The interest payment on these funds
were made either to partners or to the persons from whom borrowings were made.
He therefore disallowed an amount of Rs. 17.04 lakh out of the total interest expenses of Rs. 23.23 lakh u/s. 14A.

On appeal before the Commissioner(Appeals), the disallowance
of interest u/s. 14A was upheld. The Commissioner(Appeals) held that the
capital was employed for the purpose of investment in mutual funds, shares and
debentures and bonds, and not for the business of the assessee firm for which
the partnership was formed. He also held that the provisions of section 40(b)
were not applicable, and the funds were utilised for the purpose of investment
rather than the business. He upheld the working of the disallowance of interest
made by the assessing officer in proportion to the amount of investment and
total funds employed, and held that the partners of the firm were entitled to
relief under the explanation to section 10(2A) in respect of the that part of
interest of the firm which was not allowed as a deduction to the firm.

Before the Income Tax Appellate Tribunal, on behalf of the
assessee, it was argued that no nexus had been established between the interest
payment and the earning of the exempt income. It was further argued that as per
section 28(v), interest paid to a partner of a firm was chargeable to tax in
the hands of the firm. Therefore, disallowance of such interest u/s. 14A, in
the hands of the firm, would amount to a double taxation. It was further argued that the
firm and the partners were not different entities.

Reliance was placed on paragraph 48 of the CBDT Circular No.
636 dated 31^st August 1992, where the provisions of the Finance act,
1992, regarding assessment of the firm were explained. In the circular, it was
stated that share of a partner in the profits of the firm would not be included
in computing, his total income u/s. 10(2A). However, interest, salary, bonus,
commission or any other remuneration paid by the firm to the partner would be
liable to tax as business income in the partner’s hands. An explanation has
been added to section 10(2A) to make it clear that the remuneration or
interest, which was disallowed in the hands of the firm, would not suffer
taxation in the hands of the partner. It was further pointed out that in the
case of the assessee, the partners to whom interest was paid were taxable at
the maximum rate.

It was further argued on behalf of the assessee that the
amendment to the scheme of assessment of a firm had been made to avoid double
taxation of the income. Interest paid to partners was distribution of profit
allocated to the partners in the form of interest and as such it could be taxed
once either in the hands of the firm or in the partners’ hands, but could not
be taxed in both places. Since the partners had paid tax on interest received
from the firm, and all the conditions laid down in section 40(b) had been
fulfilled, no portion of interest paid to partners could be disallowed, and if
it was disallowed it would amount to double taxation.

On behalf of the revenue, it was contended that no interest
free funds were available to the assessee, and therefore disallowance had
rightly been made. The investments were made from capital of the partners, on
which interest at the rate of 10.5% per annum was paid.

The Tribunal rejected the contention of the assessee that
there was no nexus between the exempt income and partners’ capital, since no
interest-free funds were available with the firm. Importantly, in respect of
the assessee’s argument that any disallowance of interest u/s. 14A would amount
to double disallowance, the Tribunal noted that as per the provisions contained
in section 14A(1), an expenditure incurred for earning exempt income was not to
be considered for computing total income under chapter IV. This implied that
such expenditure was to be allowed as deduction while working out the exempt
income under chapter III. In case of expenditure which was incurred for earning
exempt income, a specific treatment was to be given, that such expenses should
be disregarded for computing total income under chapter IV and should be
reduced from exempt income under chapter III. Hence, according to the Tribunal,
there was no double addition or double disallowance.

The Tribunal observed that partners had a share in all the
incomes of the firm. As per the above treatment in the hands of the firm,
regarding expenses incurred for earning exempt income, taxable income of the firm
would increase and exempt income of the firm would go down by the same amount,
total of both remaining the same. The total share of profit of the partner in
the income of the firm would also remain the same, but his share in income
which was exempt in the hands of the firm would be less, and his share in
income which Is taxable in the hands of the firm would be more. However, the
entire share of profit receivable by a partner from a firm was exempt, and
hence there was no impact in the hands of a partner. According to the Tribunal,
since there was no disallowance as such in the hands of the firm, but the
expenditure incurred for earning exempt income was not allowed to be reduced
from taxable income, and instead was to be reduced from exempt income, there
was no effective disallowance in the hands of the firm of the expenses incurred
for earning exempt income, and hence there was no question of any double
allowance or double disallowance.

It also noted that under the proviso to section 28(v), where
there was a disallowance of interest in the hands of the firm due to the
provisions of section 40(b), then and only then the income in the hands of the
partner had to be adjusted to the extent of the amount not so allowed to be
deducted in the hands of the firm. Hence, the proviso to section 28(v) would
come into play only if there was some disallowance in the hands of the firm
u/s. 40(b). According to the Tribunal, in the case before it, the disallowance
was u/s. 14A, and not u/s. 40(b), and therefore, the proviso to section 28(v)
was not applicable and therefore, the partner of the firm was not entitled to
any relief under the said proviso. In any case, since the appellant before the
Tribunal was the firm, and not the partners, the Tribunal did not give any direction
on this aspect of taxability of the partners.

Examining section 10(2A) and the explanation thereto, the
Tribunal rejected the assessee’s argument that if any interest was disallowed
in the hands of the firm, the same could not form part of the total income in
the hands of the partner. According to the Tribunal, the explanation to section
10(2A) did not support such a contention, as the total income of the firm, as
assessed, should alone be considered, and the share of the concerned partner in
such assessed income should be worked out as per the profit sharing ratio as
specified in the partnership deed, and it was such share of the relevant
partner, which only would be considered as exempt u/s. 10(2A).

The Tribunal next addressed the assessee’s argument that
interest paid to partners was distribution of profits allocated to the partners
in the form of interest and hence interest to partners could be taxed once,
either in the hands of the firm or in the hands of the partner, and could not
be taxed in both hands. It also considered the argument of the assessee that
since the partners had paid tax on interest received by them from the firm, no
portion of interest paid to partners could be disallowed, and if disallowed, it
would amount to double taxation. According to the tribunal, such arguments were
devoid of any merit, because interest paid to partners by the firm was not
distribution of profit by the firm, since interest was payable to the partners
as was prescribed in the partnership deed, even if there was no profits in the
hands of the firm. If a firm had a loss and paid interest to the partners, the
loss of the firm would increase to that extent, which would be allowed to be
carried forward in the hands of the firm. Therefore, according to the Tribunal,
interest, to partners was not a distribution of profits by the firm to the
partners and there was no double taxation.

Addressing the assessee’s argument that interest paid to
partners was not an expenditure at all, but was a special deduction allowed to
the firm u/s. 40(b), the tribunal observed that there was no deduction allowed
under section 40(b). According to the Tribunal, section 40(b) was a restricting
section for various deductions allowable under sections 30 to 38. Analysing the
provisions of section 40(b), the Tribunal was of the view that this section was
really restricting and regulating deduction allowable to the firm on account of
payment of interest to partners, and was not an allowing section. According to
the Tribunal, the section allowing the deduction of interest remained section
36(1)(iii), and therefore payment of the interest to partners was also an
expenditure, which was hit by the provisions of section 14A, if it was incurred
for earning exempt income.

The Tribunal accordingly rejected the assessee’s appeal, and
thereby upheld the disallowance of interest to partners u/s. 14A.

This decision of the Tribunal was followed by the Mumbai
bench of the Tribunal in the case of ACIT vs. Pahilajrai Jaikishin 157 ITD
1187, where the Tribunal held that such interest paid to partners on their
capital was an expenditure subject to disallowance u/s. 14A, if it was incurred
in relation to exempt income.

Quality Industries’ case

The issue again came up for consideration before the Pune
bench of the Tribunal in the case of Quality Industries vs. Jt CIT 161 ITD
217.

In this case, relating to assessment year 2010-11, the
assessee firm was engaged in the business of manufacture of chemicals, and had
earned tax-free income of Rs. 24.64 lakh from investment in mutual funds of Rs.
4.42 crore. The assessee had claimed deduction for interest of Rs. 75.64 lakh,
consisting of interest to partners of Rs. 74.88 lakh and interest on bank loans
of Rs. 0.76 lakh.

The assessing Officer, observing that investment in mutual
funds was made out of interest-bearing funds, which included interest-bearing
partners capital, was of the view that the assessee had incurred expenditure,
including interest expenses, which was attributable to earning income from
investment in mutual funds, which was exempt. He, therefore, disallowed
estimated expenditure incurred in relation to such income from mutual funds in
terms of the formula under rule 8D amounting to Rs. 29.25 lakh, including
interest of Rs. 27.85 lakh.

The Commissioner(Appeals) observed that the main source of
investment in mutual funds was partners’ capital, which bore interest at 12%
per annum. According to the Commissioner(Appeals), such interest was relatable
to income from mutual funds, which did not form part of the total income.
Therefore, the Commissioner(Appeals) upheld the disallowance made by the
assessing officer observing that the provisions of section 14A were attracted
to such expenditure.

Before the Tribunal, it was argued on behalf of the assesse,
that the assessee had fixed capital of Rs. 6.24 crore, received from the
partners, on which interest at the rate of 12% per annum had been charged to
the partnership firm. The firm also had current capital from partners that was
received from time to time, which amounted to Rs. 1.14 crore at the end of the
year, on which no interest was paid. It was argued that interest payable on
fixed capital from partners did not bear the characteristic of expenditure per
se as contemplated u/s. 14A. It was pointed out that as per the scheme of
taxation of firms, the payment to the credit of partners in the form of
interest and salary was chargeable to tax in the respective hands as business
income by operation of law.

Reliance was placed on behalf of the assessee on the decision
of the Supreme Court in the case of CIT vs. R M Chidambaram Pillai 106 ITR
292 for the proposition that payment of salary represented special share of
profits, and was therefore taxable as business income. On the same footing, it
was argued that interest on partners’ capital was a return of share of profit
by the firm to the partners. Both interest and salary to partners were not
subjected to TDS, and both fell for allowance under section 40. It was argued
that section 40(b) was not just a limiting section, notwithstanding the fact
that some fetters on the rate of interest had been put thereunder. Salary to
partners and interest paid on partners’ capital was made allowable in the hands
of the firm only from assessment year 1993-94, subject to limits and
restrictions placed u/s. 40(b), and was not allowable prior thereto and
supported the view that section 40(b) was not merely meant for limiting the
deduction, as had that been the case, interest would have been allowable in the
hands of the partnership firm since the birth of the income tax law.

It was further submitted that section 14A was applicable only
where an expenditure was incurred, and not in respect of any and every
deduction or allowance. It was argued that an expenditure was needed to be
incurred by the party, which was absent in view of the mutuality present in a
partnership firm between the firm and its partners. The firm had no separate
existence from its partners, and it was a separate assessable entity only for
the purposes of the Income-tax Act. The Partnership Act, 1932 did not recognise
the firm as a separate entity.

It was further argued on behalf of the assessee that any
disallowance of interest of capital would lead to double disallowance of the
same expenditure, as the partners were already subjected to tax on interest on
capital in their respective personal returns.

The Tribunal analysed the nuances of the scheme of taxation
of partnership firms. It noted that prior to assessment year 1993-94, the
interest charged on partners’ capital was not allowed in the hands of the partnership
firm, while it was simultaneously taxable in the hands of the respective
partners. The amendment by the Finance Act, 1992 by insertion of section 40(b)
was to enable the firm to claim deduction of interest outgo payable to partners
on the respective capital subject to some upper limits. Therefore, according to
the tribunal, as per the present scheme of taxation, the interest payment on
partners’ capital in a sense was not treated as an allowable business
expenditure, except for the deduction available u/s. 40(b).

The Tribunal noted that partnership firms, on complying with
the statutory requirements, were allowed deduction in respect of interest to
partners, subject to the limits and conditions specified in section 40(b), and
in turn those items would be taxed in the hands of the partners as business
income u/s. 28(v). Share of partners in the income of the firm was exempt from
tax u/s. 10(2A). Therefore, the share of income from a firm was on a different
footing from the interest income, which was taxable as business income.

The Tribunal also noted that interest and salary received by
the partners were treated on a different footing by the Act, from the ordinary
sense of the terms. Section 28(v) treated interest as also salary received by a
partner of the firm as a business receipt, unlike different treatment given to
similar receipts in the hands of entities other than partners. It also noted
that under the proviso to section 28(v), the disallowance of such interest was
only with reference to section 40(b), and not with reference to section 36 or
section 37. According to the tribunal, it gave a clue that deduction towards
interest to partners was regulated only u/s. 40(b), and that the deduction of
such interest was out of the purview of sections 36 or 37.

The Tribunal observed that there was no amendment to the
general law provided under the Partnership Act, 1932. The amendment to section
40(b) had only altered the mode of taxation. The partnership firm continued not
to be a separate legal entity under the Partnership Act, and it was not within
the purview of the Income-tax Act to change or alter the basic law governing
partnership. Therefore, interest or salary paid to partners remained the
distribution of business income. The tribunal referred to the decision of the
Supreme Court in the case of R. M. Chidambaram Pillai (supra) for this
proposition. The tribunal also referred to the decision of the Supreme Court in
the case of CIT vs. Ramniklal Kothari 74 ITR 57, for the proposition
that the business of the firm was business of the partners of the firm. Hence,
salary, interest and profits received by the partner from the firm was business
income, and therefore expenses incurred by the partner for the purpose of
earning this income from the firm was admissible as deduction from such share
of income from the form in which he was a partner. Thus, even for taxation
purposes, the partnership firm and partners have been seen collectively, and
the distinction between the two was blurred in the judicial precedents.

Since the firm and partners of the firm were not separate
persons under the Partnership Act, though they were a separate unit of
assessment for tax purposes, according to the Tribunal, there could not be a
relationship inferred between the partner and firm as that of lender of funds
(capital) and borrowal of capital from the partners. Therefore, section
36(1)(iii) was not applicable at all. According to the Tribunal, section 40(b)
was the only section governing deduction towards interest to partners. In view
of section 40(b), according to the Tribunal, the assessing officer had no
jurisdiction to apply the test laid down under section 36, to find out whether
the capital was borrowed for the purposes of business or not. Thus, the
question of allowability or otherwise of the deduction did not arise, except
for section 40(b).

According to the Tribunal, the interest paid to partners
simultaneously getting subjected to tax in the hands of the partners was merely
in the nature of contra items in the hands of the firm and partners.
Consequently, interest paid to partners could not be treated at par with the
other interest payable to outside parties. Thus, in substance, the revenue was
not adversely affected at all by the claim of interest on capital employed with
the firm by the partnership firm and partners put together. Capital diverted to
mutual funds to generate alleged tax-free income did not lead to any loss in
revenue due to the action of the assessee. In view of the inherent mutuality,
as per the Tribunal, when the partnership firm and its partners were seen
holistically and in a combined manner, with interests paid to partners
eliminated in contra, the investment in mutual funds, generating tax-free
income bore the characteristic of an expenditure that was attributable to its own capital, where no disallowance
u/s. 14A read with rule 8D was warranted.

The Tribunal therefore held that the provisions of section
14A read with rule 8D were not applicable to interest paid to partners, but
applied only to interest payable to parties other than partners.

Observations

The logic of the Pune bench of the Tribunal, that the amount
introduced by the partners into the partnership firm is not a borrowing of
capital by the partnership firm but is an introduction of capital by the
partners for constituting the partnership firm and carrying on its business,
does seem fairly attractive at first sight.

The scheme of taxation of the partnership firm and its
partners under tax laws is also relevant. It is only by an artificial provision
that the entire income of the partnership firm is divided into two components
for convenience of taxation – one component taxable in the hands of the firm,
and the second component taxable in the hands of the partners. Section 40(b) read
with the proviso to section 28(v) clearly brings out this intent that what is
taxable in the hands of the firm, is not taxable in the hands of the partners,
while what is taxable in the hands of the partners is not taxable in the hands
of the firm. Therefore, viewed from that perspective, the view of the Pune
Tribunal that the interest to partners was not an expenditure, but was a mere apportionment of the income of the firm, also seems attractive.

This view is also supported by the fact that though salaries
and interest are subjected to tax deduction at source, remuneration and
interest to partners are not so subject to the provisions of tax deduction at
source. In a sense, the tax laws now recognise the fact that such remuneration
and interest to partners stands on a different footing from the normal
expenditure of salaries and interest.

However, to a great extent, the answer to this question is to
be found in the decision of the Supreme Court in the case of Munjal Sales
Corpn vs. CIT 298 ITR 298. In this case, relating to assessment years
1993-94 to 1997-98, the Supreme Court was considering a situation where
interest free loans had been granted to sister concerns in August/September
1991, and interest paid had been disallowed u/s. 36(1)(iii) by the Assessing
Officer. The Tribunal had deleted the disallowance for assessment years 1992-93
and 1993-94, holding that interest free loans had been given out of the
assessee’s own funds. The disallowances for assessment years 1994-95 to 1996-97
were however upheld by the Tribunal.

Before the Supreme Court, the assessee contended that section
40(b) was a standalone section having no connection with the provisions of
section 36(1)(iii), and that section 36(1)(iii) did not apply, as it was a case
of payment of interest to a partner on his capital contribution, which could
not be equated to monies borrowed by the firm from third parties.

In this case, while holding that since the loans were
advanced for business purposes, the interest on such loans would not be subject
to any disallowance under section 36(1)(iii) read with section 40(b)(iv), the
Supreme Court observed as under:

“Prior to the Finance Act,
1992, payment of interest to the partner was an item of business disallowance.
However, after the Finance Act, 1992, the said section 40(b) puts limitations
on the deductions under sections 30 to 38 from which it follows that section 40
is not a stand-alone section. Section 40, before and after the Finance Act,
1992, has remained the same in the sense that it begins with a non obstante clause.
It starts with the words ‘Notwithstanding anything to the contrary in sections
30 to 38’ which shows that even if an expenditure or allowance comes within the
purview of sections 30 to 38, the assessee could lose the benefit of deduction
if the case falls under section 40. In other words, every assessee, including a
firm, has to establish, in the first instance, its right to claim deduction
under one of the sections between sections 30 to 38 and in the case of the
firm, if it claims special deduction, it has also to prove that it is not
disentitled to claim deduction by reason of applicability of section 40(b)(iv).
Therefore, in the instant case, the assessee was required to establish in the
first instance that it was entitled to claim deduction under section 36(1)(iii
), and that it was not disentitled to claim such deduction on account of
applicability of section 40(b)(iv). It is important to note that section 36(1)
refers to other deductions, whereas section 40 comes under the heading ‘Amounts
not deductible’. Therefore, sections 30 to 38 are other deductions, whereas
section 40 is a limitation on those deductions. Therefore, even if an assessee
is entitled to deduction under section 36(1)(iii), the assessee-firm will not
be entitled to claim deduction for interest payment exceeding 18/12 per cent
per se. This is because section 40(b)(iv) puts a limitation on the amount of
deduction under section 36(1)(iii).

It was vehemently urged on
behalf of the assessee that the partner’s capital is not a loan or borrowing in
the hands of a firm. According to the assessee, section 40(b)(iv) applies to
partner’s capital, whereas section 36(1)(iii) applies to loan/borrowing.
Conceptually, the position may be correct, but in the instant case, the scheme
of Chapter IV-D was in question. After the enactment of the Finance Act, 1992,
section 40(b)(iv) was brought to the statute book not only to avoid double
taxation, but also to bring on par different assessees in the matter of
assessment. Therefore, the assessee-firm, in the instant case, was required to
prove that it was entitled to claim deduction for payment of interest on
capital borrowed under section 36(1)(iii), and that it was not disentitled
under section 40(b)(iv). There was one more way of answering the above contention.
Section 36(1)(iii) and section 40(b)(iv) both deal with payment of interest by
the firm for which deduction can be claimed. Therefore, keeping in mind the
scheme of Chapter IV-D, every assessee, who claims deduction under sections 30
to 38, is also required to establish that it is not disentitled under section
40. The object of section 40 is to put limitation on the amount of deduction which the assessee is entitled to under sections 30 to 38. Section 40
is a corollary to sections 30 to 38 and, therefore, section 40 is not a
stand-alone section.”

The Supreme Court has therefore held that
interest on partner’s capitals is primarily to be considered for allowance u/s.
36(1)(iii), and that section 40(b) puts a restriction on the quantum of interest
so allowable. That being the view taken by the Supreme Court, the view taken by
the Ahmedabad and Mumbai benches of the Tribunal seems to be the better view,
that interest on capitals to partners would be an expenditure, which would also
need to be considered for the purposes of disallowance u/s. 14A.

shailesh.kwebmaker

September 2017: Like-No-Other

September is a busy month for us.
But for September 2017, calling it ‘busy’ will be a ‘material misstatement’.
Every alternate day is a regulatory deadline under some law. While deadlines
have grown exponentially, September 2017 will be – like-no-other – a record of
sorts. Audit closure, tax returns, advance tax payments, AGMs, Tax Audits,
limited reviews, and GST dateline every 5 days all through the month makes this
a marathon month – like no other. While people will put pressure on your time
and attention, know when to insert a full stop, a comma or a semicolon.

A Chartered Accountant plays a
vital role in facilitating compliance for their clients. CA still evokes trust
which few handful professions carry today. It is another matter that some who
call themselves CAs would be better off showing their income under the head
business rather than profession. However, CAs still remain the first port of
call as trusted advisors to help clients tide over difficult times with
multiple timelines and complex issues. This is the hallmark of a professional:
to put client need above personal interest. For that very reason, Chartered
Accountants are not the ones who count, but those on whom clients can count on.

Presumptive Punishment – If suspicion was evidence

Recently, it was reported that
MCA gave information about ‘shell companies’ to SEBI. While the words ‘shell’
company is not defined under the statute, let alone Companies Act, 2013, the
SEBI went ahead and issued an ‘administrative’ order to put a ban and have
stock exchanges initiate proceedings against the companies. Without going into
the validity of whether these companies have committed any default, the basis
on which SEBI went ahead and put strictures on ‘presumptive basis’ is alarming.
SEBI even challenged the jurisdiction of SAT to entertain an appeal against its
order, calling it ‘administrative’, even when the order had ‘serious civil
consequence’ and ‘prejudicially impaired the rights and obligations’ of the companies.
Such actions by MCA and SEBI, even if they contained substance, brings to fore
the approach based on ‘suspicion’, abruptness and disregard to natural justice.
The SAT rightly pointed out – “We are prima facie of the opinion that
the impugned communication issued by SEBI on the basis that the appellants are
‘suspected shell companies’ deserves to be stayed¹”. While every
unlawful activity deserves right action, overstepping the boundaries and
violating the rights is more dangerous. Thomas Jefferson said this about
rightful liberty: “Rightful liberty is unobstructed action according to our
will within limits drawn around us by the equal rights of others. I do not add
‘within the limits of the law’ because law is often but the tyrant’s will, and
always so when it violates the rights of the individual.”

Amendments Galore: Notification, Clarification, Corrigendum

Recently, we have seen some
pieces of clarification, exemptions and relaxations which make the
process<purpose! Professionals often seek solace in the adage – better late
than never. Take the example of ICOFR, made applicable to all companies without
reasonable exceptions. The Companies Act, 2013 had a bias to address corporate
frauds, and so it brought out ‘one size fits all’ approach. Recent announcements
by the Ministry of Corporate Affairs have cleared impediments thrust upon
non-public interest entities. Specifically, the notification, corrigendum and
circular dated 13^th June, 13^th July and 25^th
July respectively have eliminated the need to report on ICOFR by the auditors
in respect of certain companies.

A long pending proposal to amend
the Companies Act was passed by Lok Sabha on 27^th July 2017 through
the Companies (Amendment) Bill, 2017. The changes are yet to be notified.
Auditor ratification (S. 139) has been done away with. S. 185 (on loans) is
replaced. The move to bring back layers of subsidiaries is still in limbo since
the proviso to S. 2 (87) remains to be notified. Let’s hope that finally the
layers are not brought back and vested interests do not succeed in creating
circular ownership loops. Declaration of dividend out of unrealized/notional/
revaluation gains due to fair value is specifically barred (S. 123). This is
especially relevant considering that many fair valuations have boosted annual
and Q1/2017 results of Ind-AS compliant companies. While garnishing of profit
and loss account through fair valuation makes the results look better, prudence
should hinder distribution of unrealized gains. Amendments made in Companies
Act, 2013 should strengthen the application of law in substance and we can hope
that there is better congruence amongst the family of laws applicable to
companies.

Reporting under Tax Audit has
changed as well. While carrying out the audits u/s. 44AB of the Income Tax Act,
professionals will have to pay special attention to amended clause 13 relating
to ICDS and clause 31 in relation to sections 269SS and 269T. Special attention
must also be paid to cash balances in respect of non-corporate assessees. So
far as companies are concerned, there is a reporting about SBN in the financial
statements, however, in case of other assessees, one will have to be especially
cautious. As if this was not enough, few days ago Form 29B was changed to
address Ind AS companies under MAT.

Paying a tribute

We celebrated 70 years of our
nationhood. A simple, silent yet an all pervasive achievement has been in the
area of payments. It sounds too familiar to be of any consequence. However, one
of the silent institutions of India, National Payments Corporation of India has
been at work to bring about game changing innovations. I recently was at a talk
by the former CEO of NPCI. He recollected how we issued cheques, the cheques
went for ‘collection’ and took up to 21 days when they were ‘outstation’
cheques. Cheques physically moved to a location for ‘clearing’. Millions of
cheques ‘cleared’ daily. Old men and women walked for miles to collect their
pension and other dues from designated banks! All this was not too long ago.
Today, we have come far from all that and financial inclusion has spread all
the way to grass roots level. RTGS, NEFT, IMPS, RuPay Card, BHIM, *99# have
largely replaced cheques, clearing, and passing. Payment technologies, such as
IMPS, were pioneered by India. 24X7 payments through IMPS is one such
innovation which allows one to pay and receive money on a real time basis. We
all have paid hefty bank charges for issuance of demand draft, while today many
banks charge Rs. 5 for transfer up to Rs. 1,00,000 and NIL up to Rs. 1,000.
That is certainly a big payout from financial technologies at work!

Finally, I hope we all sail
through September as we have in the past! Despite the respite given by CBDT on
31^stAugust, remember to take care of yourself. In the words of Jim
Rohn: Take care of your body. It’s the only place you have to live.

Raman
Jokhakar

Editor

shailesh.kwebmaker

Untitled

As I prepared to write
this piece, a flurry of thoughts were racing through my mind. In an attempt to
fish some of these thoughts and put them into words before they vanish into
oblivion, I popped open my word editor and launched a new document. The file
name on top displayed “Untitled”.

I struggled for a good 20
minutes in an attempt to assign a good title to this piece. I needed to know
how it would look like when I have finished writing it, and what will be the
exact picture? Alas, it was all in vain. I negotiated with myself to begin
writing, explore the work in progress and perhaps discover a title enroute.

Don’t we often fall into
the trap of assigning a title to our lives? When we breed the desire to begin a
new venture, we are flooded with thoughts such as – “where will I be years down
the line” or “will this end up well for me?” or “I still haven’t figured out
exactly how I will go about it!” Very often, these thoughts clutter us so
successfully, that we fail to even begin writing our story. How often do we
give ourselves the opportunity to start with something, explore the work in
progress and then assign a title to our story?

Daymond John, founder of
the apparel retail chain FUBU, waited tables at a restaurant when he had
a desire to create an apparel brand for young men. As he struggled to see how
far and fast his brand would grow, he was selling self-sewn hats for some extra
money. He got an order from America’s leading retailer for $400,000 worth of
products. However, there was a challenge – he had no inventory! Daymond
accepted the order and then began to explore exactly HOW he was going to fulfil
it. Today, FUBU has sold more than $6 Billion worth of products. What
would have happened if he had not begun at all because he did not have a final
picture or a goal or an exact plan in mind?

We often become
disillusioned by “begin with the EXACT goal in mind”. How often do we have an
exact goal before we begin something? How many of us are exactly where we
planned to be 10 years ago? Goals are not stagnant and firm, but like breathing
organisms which keep moving forward as we keep moving towards them. It is more
important to have a direction in which we wish to succeed and begin taking
action along that direction. We can begin to explore, discover a goal and form
the title of our story on the way.

There is a famous story
when a man was passing through a jungle where he found many arrows having hit
the bulls eye on trees. He looked around and found a boy with a bow and arrows.

He congratulated him, “You
are a great archer. All your arrows have hit the bulls eye. Can you show me how
you do it?” The boy blushed and said, “I hit the arrow first and make the
circle later.” Many great people have hit the arrow first, and figured out
their bulls eye later.

Are we struggling to start
something new because we are confused about a final goal? It is ok to flag off
without a map but just with a compass in hand. It is ok to be confused and
begin with nothing but a will to take action. It is ok to begin a new journey
while still being ‘untitled’.

shailesh.kwebmaker

Insider Trading – A Recent Comprehensive Case

There are some provisions of
Securities Laws that need a regular refresh for the reason that they are found
to be frequently violated and entail penalties etc. Insider Trading is
one such provision which one can say is regularly violated. Senior management
and even professionals who ought to know better are found to be on the wrong
side of the law. A recent order of the Securities and Exchange Board of India
(SEBI) is worth considering. It reviews the law relating to Insider Trading.
The case deals with the law prior to amendment of 2015. However, the principles
remain the same even under the amended law. The case covers several types of
acts that are treated to be violative of the SEBI (Prohibition of Insider
Trading) Regulations 1992 (the 1992 Regulations were replaced by the 2015
Regulations). The case is in the matter of CR Rajesh Nair – Managing
Director of Sigrun Holdings Limited (Adjudication Order number AK/AO-14/2017
dated 16^th June 2017).

Broad facts of the case

The facts of the case are
interesting and also contentious since SEBI had to arrive at findings that were
against what the party claimed the facts were. The facts and conclusions as
reported in the SEBI Order are summarised here.

The party against whom the order
was passed was Managing Director of Sigrun Holdings Limited, a listed company.
It was alleged that he carried out several acts in violation of the
Regulations. He sold shares during a time when there was unpublished price
sensitive information (“UPSI”) that he had access to. The Regulations
prohibit an insider having access to or in possession of UPSI to deal in the
shares of the company. The obvious reason for such prohibition is that a person
in possession of unpublished price sensitive information (UPSI) has an edge
over the shareholders/public generally and would unfairly profit from the same.
He is entrusted with such information in good faith and it will be a betrayal
of `good’ faith if he seeks to profit from it. Hence, he is banned from dealing
in the shares in such circumstances.

As proving insider trading is a
comparatively difficult task, the regulations have provided for a blanket ban
over making opposite trades by an insider during the next six months. In other
words if an insider makes a purchase or sale of shares of the company, he is
debarred from making a sale or purchase for the next six months. SEBI, through
detailed investigation including the questioning of the broker, established
that :

– shares were sold within six months of purchase

– shares were sold on the basis of UPSI

– shares were sold just before the declaration
of operational results which exhibited substantial reduction resulting in
decline of share price

– shares were sold during the period when
trading window was closed

– shares were sold without obtaining
pre-clearance of the Compliance Officer.

Hence, there were multiple
violations of the regulations.

SEBI then computed in detail the
losses he avoided by selling shares earlier by comparing the sale price on the
date of sale with the sale price at the end of six months period.

Investigation, response of MD/broker and
confirmation of findings

SEBI pursued the MD and the broker
concerned to obtain detailed information regarding the trades. The defense put
forth in respect of certain sales was that the MD had not really sold the
shares voluntarily but sales were made by the broker to meet certain “mark to
market” losses incurred by him. Thus, the effective contention was that there
was no violation of the Regulations since this was not within the control of
the MD. However, SEBI examined the facts of the case, the need for margin
money, etc. and found that this contention was not correct and
underlying facts did not match with such contention. Hence, this submission was
rejected and a finding given that the MD had sold the shares within six months
in violation of the regulations.

Ascertainment of profiting from insider
trading

Insider Trading, by definition, is
an attempt to profit from UPSI that gives an edge to an insider. The profits
made are usually demonstrated by actual movement of the price on release of the
UPSI.

However, it has been accepted that
it is not necessary, to conclude that Insider Trading has taken place, that the
market price should have actually moved in the expected direction. Violation of
the Regulations takes place as soon as the insider deals whilst in possession
of the UPSI.

Having said that, the penalty for
insider trading is also related to the profits made – higher the profits made,
higher is the penalty. For this purpose, losses avoided are treated as profits
made. However, there is a stiff penalty of upto Rs. 25 crore where profits
cannot be computed directly.

In the present case, SEBI worked
out in detail the losses avoided. There were two types of trades. One set of
trades while there was sale when trading window was closed. The losses avoided
by sale of the shares by working out the price at which the shares were sold
and the price after release of the UPSI was calculated. The other set of trades
were sales made within six months of purchase. In this case, the sale price for
each lot sold within such six months period was compared with the sale price
immediately at the end of the six month period. The losses so avoided were
calculated.

As a side note, there is an
interesting aspect here. The rule that reverse trades shall not be carried out
for the following six months has an intention, it appears, of ensuring that
insiders do not quickly deal in the shares as this would help control Insider
Trading to some extent. An insider, thus, who buys 1,000 shares on 1^st
January should not sell these shares till 1^st July. The rule is
absolute. If one buys even 1 share, he cannot sell any number of shares till
six months. This is probably not wholly consistent with what appears to be the
intention. In the present case too, the MD had bought 1,00,000 shares on 5^th
February 2010. However, in the following six months he sold 8,81,307 shares. In
the normal course, the ban should apply only to 1,00,000 shares that he
purchased and not to his entire shareholding. To put in other words, the ban
should apply only to the first 1,00,000 shares he sells and not to any further
sale of shares. However, the law, as literally read, applies to all of his
shareholding and hence any quantity of shares sold would attract this ban, and,
hence, the disgorgement of profits. Thus, profit on sale of all 8,81,307 shares have thus been ordered to be disgorged.

Levy of penalty

It is reiterated that the following
violations were held to have been made:-

1. Dealing while in
possession of UPSI

2. Sale of shares within six
months of purchase

3. Sale of shares without
taking pre-clearance of the Compliance Officer.

The losses avoided through sale of
shares in violation of the Regulations were just about Rs. 2 crore.

SEBI noted that a Managing Director
has grave and higher responsibility of complying with such Regulations and
violation of it should deserve a higher penalty. It relied on the following
observation of the Securities Appellate Tribunal (in Harish K. Vaid vs.
SEBI, order dated 3^rdOctober 2012):-

“It was then argued by the learned counsel for the appellants that
keeping in view the quantum of shares purchased, the penalty imposed by the
Board is excessive. The appellant has not derived any benefit as there was no
sale of shares based on UPSI. The adjudicating officer, while imposing the penalty,
although noted provisions of section 15J of the Act regarding factors to be
taken into account while adjudging the quantum of penalty, he has not applied
them correctly to the facts of the case. We have given our thoughtful
consideration to this aspect and are unable to accept the argument of the
learned counsel for the appellant. The evil of insider trading is well
recognized. The purpose of the insider trading regulations is to prohibit
trading to which an insider gets advantage by virtue of his access to price
sensitive information. The appellant is the Company Secretary and Compliance
Officer of the company who was involved in the finalization of quarterly
financial results and was fully aware of the regulatory framework and code of
conduct of the company. Under such circumstances, when there is a total
prohibition on an insider to deal in the shares of the company while in
possession of UPSI, the quantity of shares traded by him becomes immaterial.
Section 15G of the Act prescribes the penalty of twenty-five crore rupees or
three times the amount of profit made out of the insider trading, whichever is
higher. Section 15HB of the Act prescribes a penalty which may extend to one
crore rupees. However, the adjudicating officer has imposed a penalty of Rs. 10
lakh only on each of the violators. In the facts and circumstances of the case,
we are not inclined to interfere even with the quantum of penalty imposed.”

Accordingly,
penalties aggregating to Rs. 6.08 crore were levied on the Managing Director.

Conclusion

This Order is a good case study on
how meticulous investigation is made by SEBI particularly in the face of, no
response from the party and incorrect replies from the broker. The contentions
were systematically refuted and it was established that there were violations.
The actual calculation of the losses that were avoided was also made in detail.
The working adopted and principles applied, though simple and logical, are also
relevant and illustrate the methods and principles involved.

The intent of the Regulations which
deal with multiple ways of preventing and deeming acts of Insider Trading are
clarified in this order. As stated earlier, the ban on reverse trade within six
months, need for pre-clearance from Compliance officer and ban on trade when
trading window is closed, are examples of in-built checks and balances.

The case also demonstrates how the
UPSI benefit is to be determined in terms of worsening performance of a company
which was made public only after the sale of shares.

In
conclusion, the case also demonstrates levy of stiff and deterrent penalty
which sets an example for would-be violators.

shailesh.kwebmaker

RERA: Some Issues

Introduction

After an Overview of the Real Estate (Regulation and Development) Act, 2016 (“the Act”) in last month’s Feature, let us examine some critical issues under the same as applicable in the State of Maharashtra. It may be noted that the RERA is a State Regulator and hence, each State and each State’s RERA is empowered to issue their own Rules and Regulations respectively. This Article restricts itself to the State of Maharashtra.

At the outset, it must be confessed, that the Act is an evolving statute and at this stage, there may be more questions than answers. Having said that, the RERA in the State of Maharashtra (“MahaRERA”) is quite proactive and has been issuing clarifications on several issues.

Promoter: Land Owners also covered

The Act requires a Promoter to register a real estate project with the RERA. As on the deadline of 31st July, 2017, over 10,000 projects were registered with the MahaRERA.

The Act defines a Promoter in an exhaustive manner by giving a very far reaching definition. It covers any person who acts (himself) as a builder, coloniser, contractor, developer, estate developer or who claims to be acting as the holder of a power of attorney from the owner of the land on which the building or apartment is constructed or plot is developed for sale.

An interesting issue arises as to what would be the position of a land owner who enters into a joint development agreement with a developer for say, a share in the revenue from the sale of flats or a share in the area to be developed? For instance, a landowner executes a development rights agreement with a developer and in lieu of the same would receive a 40% share of the revenues ( to be) received from the Project. Alternatively, he agrees to receive 40% of the built-up area in the project. Would such a land owner also be treated as a Promoter? The answer to this is Yes! The MahaRERA in its Order has coined the definition of the term “Co-Promoter” and defined it to mean and includes any person(s) or organisation(s) who, under any agreement or arrangement with the Promoter of a Real Estate Project is allotted or entitled to a share of the total revenue generated from the sale of apartments or share of the total area developed in the real estate project. Thus, every land owner who receives an area / revenue share would be treated as a Promoter of the real estate project. It would be permissible for the liabilities of such Co-Promoters to be as per the joint development agreement with the developer. However, for withdrawal from the RERA Account, they shall be at par with the Promoter of the Real Estate Project. The land owner would be required to give an undertaking to the RERA, including an undertaking relating to the title to land and the date of completion of the project. Consequently and most vitally, the Order holds that the cost of land payable to land owners by the Promoter cannot be regarded as cost of Project and cannot be withdrawn from the RERA Account and that such land owners must open a separate bank account for deposit of 70% of the sale proceeds from the allottees! An intriguing part about this Order is its interplay with the Act. Section 4 of the Act mandates that 70% of the realisations from flat allottees shall be deposited in a separate designated account which would be used only to cover the cost of construction and the land cost. In a joint development agreement, the share payable to a land owner by a developer is the developer’s land cost. However, the MahaRERA’s Order expressly prohibits payment of this land cost from the separate designated account!

Recently, some land owners have approached the Bombay High Court challenging this Order of the MahaRERA. The final outcome of this case would be eagerly awaited by several land owners.

After the advanced capital gains tax liability on a land owner (started by the decision of the Bombay High Court in Chaturbhuj Dwarkadas Kapadia, 260 ITR 491 (Bom)) and indirect taxes (GST/VAT/service tax as on a works contract) for the portion constructed by the developer for the land owner, this would be the final straw which breaks the proverbial camel’s back! Of course, the newly introduced section 45(5A) of the Income-tax Act seeks to provide some solace to land owners who are individuals and HUFs by postponing the capital gains tax liability. However, for a great majority of land owners they would be staring at a scenario, where on the one hand, they are asked to pay capital gains tax on the execution of a development agreement once the conditions specified in Chaturbhuj Dwarkadas Kapadia, 260 ITR 491 (Bom) are triggered and on the other hand, they cannot withdraw the money received from the flat allottees!! It may be noted that this is a restriction imposed by the MahaRERA and hence, only applies in the State of Maharashtra and not in other States (unless the Authorities in other States also issue a similar Order). Further, this Order only applies when the consideration for the land owner is in the form of a revenue / area share. If the transaction is one of an outright sale / conveyance, then this restriction is not applicable and the developer can easily use the sale proceeds to pay off the land owner. Having said that, finding a developer, in the current real estate market, willing to buy a land on an outright basis is akin to finding a needle in several haystacks. Something which even google.com would find very difficult to search. If a land owner does find such a developer, then he kills 3 birds with one stone – he can pay tax (since he has the funds), there would not be any GST liability (since there is no works contract component) and he would not be classified as a Promoter under the RERA Order. Truly an Utopian scenario!

Promoters: Contractors
A question arises whether a building contractor is required to be registered as a Promoter? The definition includes a contractor or person by any name who acts as the holder of a power of attorney from the land owner on which the building / apartment is constructed. However, the overarching requirement for registration is that the Promoter must sell one or some of the apartments. Section 3 which mandates registration makes it clear that no Promoter shall sell or offer for sale any apartment or building without prior registration. Hence, if there is no sale or offer for sale, then there should not be any requirement for registration as a Promoter. Section 3 similarly provides that any renovation, repair or redevelopment which does not involve marketing, sale or new allotment of any apartments would not require registration. Hence, a building redevelopment which does not have any free sale component would be outside the purview of registration. The FAQs issued by the MahaRERA also support this view where the answer given states that if there are 16 apartments in a society redevelopment project, registration would be required provided there are some apartments which are for sale. Hence, it stands to reason that if there is no sale component, then there would not be any requirement for registration.

Promoters: Financiers and Private Equity Funds
A similar predicament as that of the land owners may also be experienced by lenders / private equity funds who have contributed funds to the real estate project. In most cases, such financiers have step-in rights, i.e., in the event that the developer is unable to complete the project, then they would step-in to his shoes and complete the project. In addition, financiers more often than not, have strong investor protection rights which enable them to participate in the control and management of the developer’s entity. The definition of the term Promoter is extremely wide. Hence, it is a moot point whether such financiers may also be roped in within the definition of a Promoter / Co-Promoter? This may even hamper any exit to be provided by the developer to the financier since payments to Promoters do not fall within the permissible uses from a designated bank account. It may be possible to contend that mere presence of such rights may not make a lender to be treated as a Promoter till they are actually exercised.

This may force financiers to utilise secured debt structures in which only the project is mortgaged in their favour without any exotic rights. In such an event, the financier would not be treated as a Promoter and the designated bank account can be used to repay the lender. In any case, the obligations would be attracted once the mortgage is foreclosed and the financier proceeds with the incomplete tasks.

Designated Account to be maintained

The Act requires that the Promoter must maintain a separate designated bank account. 70% of all realisations from flat allottees must be deposited in this account to cover the cost of construction and the land cost and must be utilised for that purpose only. The balance 30% may be withdrawn without routing the same to the designated account. For making withdrawals from this account, 3 Certificates are required. The provisions applicable in the State of Maharashtra in this respect are spread over the Central Act, the Rules (framed by the Maharashtra State Government), the Regulations (framed by the Maharashtra RERA), the Forms (issued by the Maharashtra RERA) and the Clarifications (issued by the Maharashtra RERA). All these diverse provisions have been harmonised and analysed below for the ease of ready reference:

(a) Designated Bank Account – 70% of all amounts realised for the real estate project from the allottees, shall be deposited in a separate bank account to cover the cost of construction and the land cost and shall be used only for that purpose. These deposits may include advances received against allotment.

(b) Procedure for Withdrawals – The Promoter is entitled to withdraw amounts from the designated bank account, to cover the cost of the project (land and construction and borrowing), in proportion to the percentage of completion of the project. Withdrawal is permissible only after it is backed by 3 certificates stating that the withdrawal is in proportion to % completion of the project. The Promoter is required to submit the following 3 certificates to the bank operating the designated account:

– Firstly, a certificate in Form 1 from the project Architect certifying the % completion of construction work of each of the buildings/wings of the project;

– Secondly, a certificate in Form 2 from the Engineer for the actual cost incurred on the construction work of each of the buildings/wings of the project; and

– Thirdly, a certificate in Form 3 from a practicing Chartered Accountant, for the cost incurred on construction and the land . The practicing Chartered Accountant shall also certify the proportion of the cost incurred on construction and land to the total estimated cost of the project. The total estimated cost of the project multiplied by such proportion shall determine the maximum amount which can be withdrawn by the Promoter from the separate account.

The Promoter is required to follow the above at the time of every withdrawal from the separate account till Occupancy Certificate in respect of the project is obtained. On receipt of the Completion Certificate in respect of the project, the entire balance amount lying in the separate account can be withdrawn by the Promoter.

However, as a concession, MahaRERA has allowed a Promoter to do away with the practice of submitting 3 certificates for every withdrawal from the designated bank account. He may obtain the same and retain them on record and furnish them to the auditor at the time of the annual audit. The Promoter would have to submit a self-declaration to the bank once every quarter and this would suffice for the withdrawals.

– Total Estimated Cost (Land Cost + Construction Cost) of the project based on the Form 2 issued by the engineer.

– Total Cost Incurred (Land Cost + Construction Cost) of the Real Estate Project based on an actual verification of the books of account by the CA.

– % completion of Construction Work (as per the Architect’s Certificate in Form 1). However, the MahaRERA has clarified that this need not be filled in by the CA for all ongoing certificates and should be filled in only in the final certificate issued after 100% of the construction work has been completed.

– Proportion of the Cost incurred on Land Cost and Construction Cost to the Total Estimated Cost. (Total Cost Incurred / Total Estimated Cost).

– Amount which can be withdrawn from the Designated Account (Total Estimated Cost * Total Cost Incurred / Total Estimated Cost)

Less: Amount withdrawn till date of this certificate as per the Books of Accounts and Bank Statements

– Resulting figure is the Net Amount which can be withdrawn from the Designated Bank Account

The CA certifying Form 3 should be different than the statutory auditor of the Promoter’s enterprise.

(d) Components of Form 3:

(A) Land Cost includes all costs incurred by the Promoter for acquisition of ownership and title of the land, including premium payment; Premium for TDR/ FSI; stamp duty, transfer charges, etc.

In cases, where the Promoter, due to inheritance, gift or otherwise, is not required to incur any cost for the land, then his cost is determined on the basis of the Stamp Duty Ready Reckoner value of the land prevailing on the date of registration of the real estate project with the MahaRERA.

In respect of the land cost, the MahaRERA has clarified that the fair market value of the acquisition cost shall be the indexed cost of acquisition of the land computed as per the Income-tax Act provisions. One wonders how should this indexation be applied while issuing a certificate because the term “fair market value of the indexed cost” is not to be found in Form 3. A suitable clarification on this would be appreciated.

Further, it has been clarified that interest specifically done for land acquisition should be added. Interest for construction of rehab component in a project is also treated as land cost. Costs incurred for slum rehab, relocation of tenants in a redevelopment project, etc., are all includible in land cost.

(B) The Cost of Construction includes all costs, incurred by the Promoter, towards the on-site and off-site expenditure for the development of the Real Estate project, including payment to any Authority and the Principal sum and interest, paid to certain lenders.

In respect of the Cost of Construction, the MahaRERA has clarified that:

(i) The term “incurred” means products or services received creating a debt in favour of the supplier or received against a payment made. It is a moot point whether payment of advances towards cost is permissible? A suitable clarification on this would be appreciated.

(ii) The development / construction cost should not include marketing, brokerage expenses incurred for the sale of flats. These, though part of the project cost, should not be met out of the designated account but should be met from the other accounts / funds of the Promoter.

(iii) While principal sum should be shown in brackets it must not be treated as a part of the construction cost.

(iv)Income-tax payable by the Promoter is not a part of the construction cost.

(v) Cancellation amounts paid to allottees who cancel their bookings can be treated as a part of the construction cost and can be withdrawn from the designated account.

(e) Annual Audit; The Promoter must get his accounts audited by 30th September of every financial year and must produce a statement of accounts duly certified and signed by auditor to the MahaRERA. The Annual Report on statement of accounts must be in Form 5.

Form 5 requires the auditor to certify that the amounts collected for a particular project have been utilised for that project alone and that the withdrawal from the designated bank account has been in accordance with the proportion to the percentage of completion of the project. If not, then the Form must specify the amount withdrawn in excess of the eligible amount or any other exceptions. MahaRERA has clarified that auditor must certify that 70% of the realisations have been used for the project (the balance 30% could be used for any purpose).

(f) Mismatch in Certificates and Audit: The Regulations contain a very important provision. They state that if the Form 5 issued by the auditor reveals that any Certificate issued by the project architect (Form 1), engineer (Form 2) or the chartered accountant
(Form 3):

– Has false or incorrect information and

– the amounts collected for a particular project have not been utilised for the project and

– the withdrawal has not been in compliance with the proportion to the percentage of completion of the project,

then the MahaRERA, in addition to taking penal actions as contemplated in the Act and the Rules, shall also take up the matter with the concerned regulatory body of the said professionals of the architect, engineer or chartered accountant, for necessary penal action against them, including dismemberment.

Thus, while % of completion of work needs to be mentioned in ongoing Form 3 issued by a CA (as per the relaxations given by the MahaRERA), the withdrawals must be in sync with the proportion to the percentage of completion of the project. In fact, the Auditor is required to specifically report on this issue and if it is found that this condition has been violated, then the RERA may even complain to the ICAI against the CA issuing Form 3. Thus, there is a unique scenario where the CA need not report on % completion but he must ensure withdrawal is in compliance with % completion. Hence, it would be in the interest of the CA to always ensure that his certificate clearly specifies whether the withdrawal is in proportion with the percentage of completion of the project.

The abovementioned rules will have to be followed by the co-promoter as well, to the extent applicable.

Conclusion

The Act is a major reform in India’s real estate sector and as is the case with any transformation, there are bound to be teething problems and unsolved queries. As the sector progresses on the learning curve, lessons will be learnt and issues may get resolved.

At this stage, it would be worthwhile to alert CAs issuing certificates under the Act, to remember Shakespeare’s quote “Discretion is the Better Part of Valour!” Thus, they should exercise due care and caution while certifying and in cases of doubt or ambiguity, consider asking the Promoter to obtain a legal opinion. Avoid acting in haste and repenting in leisure!!

shailesh.kwebmaker

Threats to RTI

Those who wish to proclaim the great impact of Right to
Information say that it is responsible for creating the culture of transparency
in the government. The widespread usage of RTI is proof of this. This claim is
reasonable and is obvious in the empowerment of citizens and the scams it has
exposed. There is a strong feeling that corruption is unacceptable and there is
a great resolve to curb it. This is in line with the declaration in the
preamble of the constitution.

However, accountability and transparency have not yet
become embedded in the DNA of those with power, and this is a change that is
being resisted. There are signs that we may have reached a point of
stagnation, which could lead to RTI’s regression. This cannot be good for the
citizens and democracy. Many techniques have been developed by the officers to
stall RTI queries. At times, absurdly high charges in tens of thousands are
sought as costs for gathering the information. Another way is to offer piles of
files for inspection without indexing and pagination. I once asked a government
department about a list of transfers of senior officers in violation of Act 21
of 2006; they sent it to over 30 different offices. One more technique is to
transfer the application multiple times. All these are against the letter and
spirit of the law.

First let us analyse the reasons for RTI’s success and wide
proliferation. The main reason was the fact that it was reasonably well crafted
because of active civil society intervention and participation. There were
people’s movements like Mazdoor Kisan Shakti Sangathan which had championed
this law. The teeth of the act were the penalty provisions which for the
first time provided for a financial penalty up to Rs. 25000 to be paid by a
public information officer, if he/she did not provide information without
reasonable cause. This for the first time recognized the sovereignty of the
individual citizen.

Civil society organizations and individuals very
enthusiastically took upon themselves the job of educating people. Citizens
took ownership of this law. Government officials feared the Information
Commissions and felt they would have a difficult time if the matters went to
courts in writs. Among the first few cases which went to courts, various high
courts acknowledged that this was a fundamental right of citizens which had
been earlier defined in various Supreme Court judgements, such as those in Raj
Narain case, R. Rajagopal, SP Gupta, ADR-PUCL and others.

However, after the first few years of this honeymoon, the resistance
to RTI began building up within the establishment. The establishment soon
realized that it had unleashed a genie, which curbs its powers for
arbitrariness and corruption. In less than a year, the government decided to
amend the act to dilute its effectiveness. There were intense protests across
the country by citizens and the government had to retract. After that there
were at least two more efforts to dilute the Act but these too failed. The last
time was when the Central Information Commission ruled that six major political
parties were ‘public authorities’ as defined by the law and hence would have to
give information in RTI. The parties ganged up together so that they could
carry on with their opaque operations with black money, undemocratic working
and in contravention of their constitutions. Citizen opposition managed to
again stop this. But political parties have jointly decided to defy the
orders of the Commission to display their pompous arrogance. They have refused
to appoint Public Information Officers or give any information in RTI. They are
disregarding the orders of the Commission without even a fig leaf of getting a
stay from a Court.

Most state and central governments are showing great
reluctance to follow the RTI Act. They have developed techniques to wear out
the applicant. The lackadaisical ways of the Information Commissions have
helped and emboldened them. It has been noticed that most Information
Commissions impose penalties in the rarest of cases, as if they are imposing a
death penalty. Governments often do not appoint Commissioners.

Amongst the few times that the former PM spoke he had
mentioned his distress at what he called ‘frivolous and vexatious’ RTI
applications and the time taken up in these. A RTI query about this revealed
that it was a casual observation based on his perception and irritation with
pestering RTI queries by the powerless citizen. There was no evidence. The
present PMO refused to even provide information about the visitors to the PM!
Why should this be so? The PM works round the clock in the service of people
and such reluctance appears suspicious. Will revealing those names reveal
some dark secrets?

The governments appear to be institutionalizing mechanisms
whereby citizens know only what the government wants them to know. It is
absurd that citizens who are mature enough to elect those who should govern the
nation are not considered mature enough to be trusted about information on
those who represent them. This claim is made by those who are in power, and who
do not understand and subscribe to democratic working. After getting power,
people’s mindset undergoes a transformation. It is a matter of deep distress
that even the present CM of Delhi Arvind Kejriwal, who became nationally famous
for his work in the RTI campaign, has not brought about any significant change
in his government towards transparency.

Information Commissioners are mainly selected as an act of
political patronage. Many of them have no predilection for transparency,
though they may pay lip service to it. The lack of effective working,
accountability and transparency at most of the commissions is heart wrenching.
Many commissioners do not understand the law, nor the basic rationale for
transparency or democracy. Apart from
this the lazy way in which many work has built up mounting pendencies, and it
appears that they will be largely responsible for frustrating RTI.

It is unfortunate that the last few years have seen decisions
by most quasi-judicial and judicial bodies expanding the interpretations of the
exemptions and constricting the citizen’s right. Former Supreme Court judge,
Justice Markandey Katju has said “I therefore submit that an amendment be made
to the RTI Act by providing that an RTI query should be first examined
carefully by the RTI officer, and only if he is prima facie satisfied on
merits, for reasons to be recorded in writing that the query has some substance
that he should call upon the authority concerned to reply. Frivolous and
vexatious queries should be rejected forthwith and heavy costs should be
imposed on the person making them.” A former Chief Justice of India said in
April 2012, “The RTI Act is a good law but there has to be a limit to it.”
At this rate and logic, we may be asked to justify why we wish to speak or express
ourselves! A study of all the Supreme Court judgements by this writer
appears to show that the Right to Information is being constructed by gross
misinterpretation. Government departments get stays from Courts to many
progressive orders of the Information Commissions. Citizens do not have the
wherewithal to fight protracted legal battles. While parliament’s attempts to
dilute the RTI Act were thwarted by the sovereign citizens, its emasculation by
adjudicators is happening at a brisk pace. Many decisions are blunting the law
of its power to curb corruption.

One of the most
problematic statements by the Supreme Court in a RTI case is quoted in many
places: “Indiscriminate and impractical demands or directions under RTI Act
for disclosure of all and sundry information (unrelated to transparency and
accountability in the functioning of public authorities and eradication of
corruption) would be counter-productive as it will adversely affect the
efficiency of the administration and result in the executive getting bogged
down with the non-productive work of collecting and furnishing information. The
Act should not be allowed to be misused or abused, to become a tool to obstruct
the national development and integration, or to destroy the peace, tranquillity
and harmony among its citizens. Nor should it be converted into a tool of
oppression or intimidation of honest officials striving to do their duty. The
nation does not want a scenario where 75% of the staff of public authorities
spends 75% of their time in collecting and furnishing information to applicants
instead of discharging their regular duties. “

This needs to be contested. The statement “should not be
allowed to be misused or abused, to become a tool to obstruct the national
development and integration, or to destroy the peace, tranquillity and harmony
among its citizens” would be appropriate for terrorists, not citizens using
their fundamental right to information. There is no evidence of RTI damaging
the nation. As for the accusation of RTI taking up 75% of time, I did the
following calculation: By all accounts, the total number of RTI applications in
India is less than 10 million annually. The total number of all government
employees is over 20 million. Assuming a 6-hour working day for all employees
for 250 working days, it would be seen that there are 30,000 million working
hours. Even if an average of 3 hours is spent per RTI application (the average
is likely to be less than two hours) 10 million applications would require 30
million hours, which is 0.1% of the total working hours. This means it would
require 3.2% staff working for 3.2% of their time in furnishing information to
citizens. This too could be reduced drastically if computerised working and
automatic updating of information was done as specified in section 4 of the RTI
Act. It is unfortunate that the apex court has not thought it fit to castigate
public authorities for their brazen flouting of their obligations u/s. 4, but
upbraided the sovereign citizens using their fundamental right.

I would submit that the powerful find RTI upsetting their
arrogance and hence try to discredit it by often talking about its misuse.
There are many eminent persons in the country, who berate RTI and say there
should be some limit to it. It is accepted widely that freedom of speech is
often used to abuse or defame people. It is also used by small papers to resort
to blackmail. The concept of paid news has been too well recorded. Despite all
these there is never a demand to constrict freedom of speech. But there is a
growing tendency from those with power to misinterpret the RTI Act almost to a
point where it does not really represent what the law says. There is widespread
acceptance of the idea that statements, books and works of literature and art
are covered by Article 19 (1) (a) of the constitution, and any attempt to curb
it meets with very stiff resistance. However, there is no murmur when users of
RTI are being labelled deprecatingly, though it is covered by the same article
of the constitution. Everyone with power appears to say: “I would risk my
life for your right to express your views, but damn you if you use RTI to seek
information which would expose my arbitrary or illegal actions.” An
information seeker can only seek information on records.

I would also submit that such frivolous attitude
towards our fundamental right is leading to an impression that RTI needs to be
curbed and its activists maybe deprecated, attacked or murdered. The citizen’s
fundamental right to information is now facing strong challenges, owing to its
great success and the fact that it has changed the discourse and paradigm of
power. Our democracy is at a crossroads. The next decade could result in
increasing the scope of transparency to result in a true democracy. However, if
the forces opposing transparency gain over the demos, a regression can
take place. If this happens, those in power must note that the citizen will not
stand for it. Citizen groups must take active measures to defend their right,
including demanding a transparent process of selecting commissioners and making
the political leadership aware that they will resist any dilution of the law. RTI
must be saved and allowed to flower. At this juncture as the nation celebrates
70 years of independence it must hold samvads (dialogues) across the nation to
restore RTI to its pristine glory. Parliament with citizen inputs made a law
which ranks amongst the top five in the world in terms of its provisions.
However, we rank at a poor 66 in terms of implementation. It is our duty to
create adequate public opinion to safeguard our Right to Information.

shailesh.kwebmaker

Insolvency and Bankruptcy Code 2016 – Challenges and Opportunities

The enactment of the ‘The Insolvency and Bankruptcy Code
2016’ (IBC) on May 26, 2016 is perhaps one of the biggest reforms along with
GST undertaken by India in recent times. The Code unifies and streamlines the
laws relating to recovery of debts and insolvency for both corporate and
non-corporate persons, including individuals.

The preamble to the Act introduces the Act as

– An Act to consolidate and amend the laws
relating to reorganisation and insolvency resolution of corporate persons,
partnership firms and individuals

– To fix time periods for execution of the law
in a time bound manner

– To maximise the value of assets of interested
persons

– To promote entrepreneurship

– To increase availability of credit

– Balance the interests of all stakeholders
including alteration in the order of priority of Government dues.

The vision of the new law is to encourage entrepreneurship
and innovation. Some business ventures will always fail but they will be
handled rapidly and swiftly. Entrepreneurs and lenders will be able to move on
instead of being bogged down with decisions taken in the past.

The Code repeals or overrides around 11 laws and promises to
bring a sea change in how debt recovery and insolvency are handled in India,
drawing from the success of such law in other countries.

Insolvency, Bankruptcy and Liquidation

Bankruptcy and Liquidation share in common the concept of
‘Insolvency’. This means that it takes a person or a company becoming
‘Insolvent’ to trigger a Bankruptcy or Liquidation.

Having said that, not all Liquidation occurs as a result of
Insolvency (i.e., Members Voluntary Liquidations occurs when the shareholders
of a solvent company elect to liquidate the company, simply because that
company has achieved its purpose).

To address the question directly, Insolvency is the common
link to Bankruptcy and Liquidation. Let me unpack these concepts.

Applicability of the Code

The provisions of the Code shall apply for insolvency,
liquidation, voluntary liquidation or bankruptcy of the following entities:

1. Any company incorporated under the Companies
Act 2013, or under any previous law

2. Any other company governed by any special act
for the time being in force, except insofar as the said provision is
inconsistent with the provisions of such Special Act

3. Any Limited Liability Partnership under the
LLP Act 2008

4. Any other body incorporated under any law for
the time being in force, as the Central Government may by notification specify
in this behalf

5. Partnership firms and individuals.

There is an exception to the applicability of the Code that
it shall not apply to corporate persons who are regulated financial service
providers like Banks, Financial Institutions and Insurance companies.

Institutional set up under
the code

With a view to improve Ease of doing business in India, the
code provides for a time bound process for speedy disposal and also the manner
for maximisation of value of assets. It will create a win-win situation not
only for the creditor and debtor companies, but it will also benefit the
overall economy.

The IBC provides an institutional set-up comprising of the
following five pillars:

I. Insolvency Professionals (‘IP’) –To
conduct the corporate insolvency resolution process and includes an interim
resolution professional; the role of the IP encompasses a wide range of
functions, which includes adhering to procedure of the law, as well as accounting
and finance functions.

II. Insolvency Professional Agencies (‘IPA’)
–To enroll and regulate insolvency professional as its member in accordance
with the Insolvency and Bankruptcy Code 2016 and read with regulations.

III. Information Utilities – to collect,
collate and disseminate financial information to facilitate insolvency
resolution.

IV. Insolvency and Bankruptcy Board of India
(‘IBBI’) – A Regulator who will oversee these entities and to perform
legislative, executive and quasi-judicial functions with respect to the
Insolvency Professionals, Insolvency Professional Agencies and Information
Utilities.

V. Adjudicating Authority – The National
Company Law Tribunal (NCLT), established under the Companies Act, 2013 would
function as an adjudicator on insolvency matters under the Code.

The implementation of any system does not only depend on the
law, but also on the institutions involved in administration and execution of
the same. It depends on the effective functioning of all the institutions but
the Insolvency Professionals have a vital role to play in the insolvency and
bankruptcy resolution process.

Distinguishing Features of the IBC

The Code provides a comprehensive and time bound mechanism to
either put a distressed person on a firm revival path or timely liquidation of
assets. The interests of all stakeholders have been taken care of. Some of the
salient features of the code are as follows:-

1. Dedicated Adjudicating and Appellant
Authority:

The adjudicating authority for Corporates
shall be National Company Law Tribunal (NCLT) and for others shall be Debt
Recovery Tribunal (DRT).The first appeal shall lie with NCLAT and DRAT
respectively and the final appeal shall lie with the Supreme Court. No other
Court shall have any jurisdiction to grant any stay or injunction in respect of
matters within the domain of NCLT, DRT, NCLAT and DRAT. This would provide a
specialised mechanism to resolve stressed accounts problem.

Further, a separate regulator i.e. the
IBBI is set up to regulate various matters under the Code.

2. Time Bound Process: The Code provides that
the insolvency resolution shall have to be completed within 180 days (maximum
one extension of 90 days allowed) from the date of admission of application for
insolvency resolution. If no resolution is reached in the above time frame, the
Code provides for automatic liquidation. Hence, once default happens and
insolvency resolution application is filed by any stakeholder, financial
creditors would be forced to make intelligible choices so as to maximise
economic value of business or face liquidation. At the same time, promoters
should get sensitive about managing cash flows as default would straight lead
to loss of control over business.

3. Preserving Value of Business: Once the
application for insolvency resolution is admitted, there shall be complete
moratorium till completion of insolvency proceedings. Board of Directors shall
remain suspended and affairs of the company shall come under the control of the
Resolution Professional. Though the entity shall remain a going concern.
Creditors shall be precluded from taking any action against the Company
including enforcement of security under SARFAESI Act during this period. Even a
lessor cannot take possession of leased assets back during the moratorium
period. Thus it shall provide an opportunity for the creditors to discuss
sensible restructuring that can provide a better value than straight
liquidation even while business and its assets are preserved during this
period.

4. Failure to Pay is the new Trigger: Existing
mechanisms under SICA and Companies Act are tuned to provide for interjection
when the borrower’s ability to pay is demonstrably impaired. Whereas under the
Code, a creditor can trigger insolvency resolution process just on default.
Thus a defaulter can be dragged into insolvency resolution process without
waiting for its net-worth to get eroded or for the account to be classified as
NPA. This would be a big deterrent for able debtors to arm-twist small
creditors.

Therefore, the Code will have an effect
of early identification of distress. It will instill discipline among promoters
or else they will risk losing management control and also face liquidation.

5. Professionalisation of Insolvency
Management:

The Insolvency Professionals shall be
regulated and licensed professionals and will have a critical role in the
process. During the process of Insolvency Resolution, the management of the
borrower shall be taken over by the Insolvency Resolution Professional. This
will help preserve the value of business and assets of the debtor during the
insolvency resolution process. Lenders will no longer be worried about
mismanagement by promoters of distressed corporates. As of now, the only option
lenders had was to convert debt into equity and take over the management for
which they may not be having the requisite competency.

6. New Priority Order of Payment: A welcome
change brought in by the Code is that the statutory dues are relegated to the 5^thposition in the priority of payment from the current 1^st
position. Herein, even unsecured financial creditors shall be paid before
clearance of dues of the Central and State Governments. This provision is
likely to boost corporate bond market as well as debt funding of SMEs and
startups.

7. All Creditors empowered to trigger
Insolvency: All creditors whether domestic or foreign, whether secured or
unsecured and whether financial or operational can apply for insolvency
resolution. The defaulting debtor himself may also apply. Thus for the first
time, structured mechanism for redressal of defaults is being provided to
operational creditors such as suppliers, employees etc. Similarly, the
foreign lenders and unsecured lenders shall find a mechanism to enforce their
debts in a fair and transparent process. This no doubt will deepen the credit
markets in India.

8. Enforcement of Personal Guarantees: If any
corporate debt is secured by means of personal guarantee, then the bankruptcy
of the personal guarantor shall be dealt with by same NCLT rather than DRT.
Thus, there will be a common forum for a creditor to enforce debt from both
borrower and guarantor.

9. Information Utilities: There is an enabling
provision to facilitate creation of Information Utilities which will house
comprehensive credit data relating to debtors, their creditors and securities
created. This will improve transparency and better decision making at all
levels.

10. Fresh Start: A non-corporate debtor on finding
himself unable to pay his debts may apply for a fresh start by discharge from
certain debts, provided he satisfies the following conditions:-

– Gross annual income of the debtor is not
exceeding Rs 60,00/-

– Aggregate value of debtor is not exceeding
Rs. 20,000/-

– Aggregate value of debts is not exceeding Rs.
35,000/-

– Debtor is not undercharged bankrupt

– Debtor does not own a dwelling unit
(encumbered or not )

No Fresh Start Order in the last 12 months
prior to the date of application.

Brief Overview of Corporates Insolvency Resolution Process

In the following flowchart, we can see an overview of the
Corporate Insolvency Resolution Process.

Who can become an Insolvency Professional?

Category I – Any Chartered Accountant, Company Secretary,
Cost Accountant and Advocate who has passed the Limited Insolvency Examination
and has 10 years of experience and enrolled as a member of the respective
Institute/Bar Council; or a Graduate who has passed the Limited Insolvency
Examination and has 15 years of experience in management, after he received a
Bachelor’s degree from a University established or recognised by law.

The IBBI has notified the syllabus for the Limited Insolvency
Examination. For syllabus, enrollment process for the examination, etc.,
kindly visit: http://www.ibbi.gov.in/limited-insolvency.html or www.iiipicai.in

The ICAI has also set up a section 8 company and its website
contains an interesting E Learning platform covering the entire gamut of IBC
including mock tests. (www.iiipicai.in)

Category II – Any other individual on passing the
National Insolvency Examination.

The IBBI is yet to notify the syllabus for the National
Insolvency Examination.

The IPs are regulated by the code set out by the IBBI.
Section 208 (2) sets out code that needs to be followed by every insolvency
professional.

Further, the duties of the IP are laid out in the Model Bye
Laws [IBBI – (Model Bye-Laws and Governing Board of Insolvency Professional
Agencies) Regulations 2016, Clause VII of Schedule – Regulation 13].

Opportunities for Chartered Accountants (CAs)

The passage of the Insolvency and Bankruptcy Code, 2016 has
thrown up a tremendous set of new opportunities for CAs. On an analysis of the major responsibilities
of the IPs to the Debtors and Creditors, the IPs should be well versed with
aspects of Company Law, Taxation, Banking and Finance, Stakeholder Management,
Valuation/Sale of assets, Cash flow management and Commercial and business
acumen.

Considering the onerous responsibilities on the IP, it would
be very difficult for an individual to possess such multiple skills and hence
the IBC has brought in a concept of Insolvency Professional Entities (IPEs)
which can be registered as partnerships, limited liability partnerships and
corporate entities.

Such IPEs can be expected to have the capacity to offer the
diverse skill sets on a single platform to facilitate the Insolvency and
Bankruptcy practice.

IPE presents opportunities to CAs to team up their
counterparts, Company Secretaries, Cost Accountants and Lawyers and present a
complete solution to their clients.

Based on precedents of the last 6 months, and a view of this
author, in case of insolvency cases filed by Financial creditors, IPs can earn
between Rs. 2 lakh to Rs. 4 lakh per month and in case of cases filed by
creditors or by the corporates, IPs can earn between Rs. 50,000 to Rs. 2 lakh
per month depending upon the size of business and complexity of each case.

With the recent push by the Reserve Bank of India (‘RBI’) to
the Banks to file for Insolvency on the top 500 defaulters/NPAs under the new
IBC, banks have moved fast and started the process in the right earnest and the
process is expected to pick up speed. Further, with large scale media coverage
on the IBC, the creditors have also filed numerous cases for Insolvency on
Debtors and have received favourable closures in a short span of time. Both
these would throw up numerous and multiple opportunities for Professionals in a
short span of time and the first mover advantage will always help in quickly
building up the credentials in this space.

As on date, approximately 800-1,000 IPs have been
registered with IBBI and there is an estimate of more than 1 lakh cases of
defaulters/NPA pending only with Banks at various stages. Hence, there exists a
significant gap between the potential demand of IPs expected in the near future
versus the supply of IPs.

Problem Areas under IBC

As the Indian corporate sector and business community get
more aware of the IBC due to push by the Government to the banks to file for
insolvency and widespread media coverage, financial creditors (primarily
unsecured lenders) and operational creditors are using the IBC as a pressure
tactic on the Corporate Debtor to pay their due sums. During the last few
months, there have been numerous cases filed by operational creditors with NCLT
under the IBC, however, many such cases filed by operational creditors have not
been admitted by NCLT due to various reasons. However, at the same time, under
the fear of IBC, many cases of operational creditors have been settled by the
Corporate Debtor to avoid being referred to NCLT under the IBC. Hence, as we
get more judicial precedence of cases not being admitted by NCLT, sense should
prevail and only genuine cases would be filed under IBC. Further, business
practices amongst the Indian corporate sector and business community especially
with respect to operational creditors should definitely see a significant
improvement in the years to come.

Conclusion

This Code is currently in early stages of
implementation and is focused on revival of business and putting idle resources
of the economy to use, this can bring a huge change in lives, livelihoods and
prospects of both creditors, debtors and professionals. It is one of the most
challenging and equally rewarding career options. In this era of major reforms
in uncharted territories, it throws up a big opportunity to work as an
Insolvency Professional and get an early mover advantage.

shailesh.kwebmaker

Ingredients for Crafting a Model Policy On Dealing With Related Party Transactions

Introduction

Related Party Transactions (RPTs) have been a contentious
issue since the advent of Companies. Separation of ownership and control
combined with diffused ownership in companies provides a fertile ground for the
unscrupulous elements to unjustly enrich themselves. More than 200 years ago,
Lord Cranworth in the landmark case of York Building Company vs. McKenzie
highlighted the reason for RPTs invoking distrust. In 1795, he noted

‘No man can serve two masters.
He that is entrusted with the interest of others, cannot be allowed to make the
business an object of interest to himself; because from the frailty of nature,
one who has the power, will be too readily seized with the inclination to use
the opportunity for serving his own interest at the expense of those for whom
he is entrusted.’

A critical strand in the history of corporate law is the
evolution of regulations dealing with RPT, for mal-governance often manifests
itself through RPTs. Despite its role in hampering good governance, RPTs are
not banned anywhere in the world, as this ‘cure’ is more harmful than the
‘disease’ itself.

Given the interdependence, a key element of good governance
is evidenced in the way in which RPTs are regulated. While legal compliance is
the minimum expected of any corporate citizen, good governance practices go
beyond the minimum and set higher standards to inspire shareholders’ and
stakeholders’ confidence in building a profitable and sustainable business.

Regulating RPTs has three critical parts, namely Formulating
a Policy for Dealing with RPTs, Implementing the Policy that is formulated, and
Disclosure of RPTs to their shareholders. This article attempts to provide
insights into crafting a model ‘Policy on Dealing with Related Party
Transactions’ by drawing on the history of regulating RPTs, analysing the
Indian statutes and learning from the practices of the Nifty 50 companies.

A Brief History of Regulating RPTs

One of the earliest recorded RPT disputes involves the East
India Company and Robert Clive. Following the Battle of Plassey, Robert Clive
privately negotiated for himself an annual income of £30,000 for installing Mir
Jaffar as the Nawab of Bengal. In 1765, Laurence Sulivan, the Chairman of East
India Company, who wanted to weed out corruption in the company, initiated the
move to cancel this annual payment as unjustified, resulting in a fight for the
control of East India Company. As it looks, this does not seem to be the first
disputed RPT as joint stock companies were in existence from the 16th century.
However, fighting for the control of the company seemed to be the only method
available to shareholders for redressing their grievances. As RPTs became
avenues for fraud, regulators had to move in to regulate them. Even in events
as recent as 2004, when the US-SEC initiated proceedings against Parmalat of
Italy on what it called ‘the largest financial fraud in history’, RPTs had a
role, revealing a close nexus between frauds and RPTs

After 1844 AD, when companies could be registered under
specific laws, RPT regulations has evolved rapidly. A major factor prodding on
this evolution is the conflicting economic theories that viewed RPTs from
different perspective. While the Conflict of Interest Theory viewed it
negatively, the Efficient Transaction Theory viewed RPTs positively. Their
difference was in what they viewed as primary to the transaction. In the
Conflict Theory, relationship between Directors and Shareholders in creating
shareholder value was considered of paramount importance, however in the
Efficient Transaction Theory, the business and the business outcome was placed
in the centre stage.

Between the two extremes, corporate law has evolved to
regulate RPTs rather than ban them altogether. Occasionally, on the backdrop of
a large corporate scandal, given the damage they have inflicted on business
confidence, proposals to ban RPTs are mooted and debated at length. However, in
almost all cases, with the passage of time these proposals get diluted as the
ease of doing business assumes importance, resulting in higher disclosures and
more stringent approval processes mandated to prevent misuse of RPTs.

Table 1: Evolution of Regulations for Dealing with Related
Party Transactions

Stage

Year / Country

Status of RPT

Basis

Content

1845

Directors disqualified on
entering into RPT but the Act silent on the
effect of RPTs enforceability

Companies Clauses
Consolidation Act, 1845

As per Section 86, a
Director who held an office of profit or profited from any work done for the
company would cease from voting or acting as a Director.

1855

RPTs void Ab-initio

Aberdeen Railway Co. vs.
Blaikie Bros.

‘The ground on which the
disability or disqualification rests, is no other than the principle which
dictates that a person can be both judge and party.’

1856

RPT permitted if not
invalidated by the Articles of Association

The Companies Act, 1856

In this Act, a clause was
introduced in the model Articles of Association (which is optional for
companies to adopt) that made Directors with RPTs vacate their office. Many
companies which were incorporated during this period chose to delete this
clause thereby permitting RPTs.

1913

India

Board to approve RPT after
the Director declares their interest

The Companies Act, 1913

Section 91 A requires a
Director to provide disclosure of interest in any contract or arrangement
entered into by or on behalf of the company.

1936

India

Disinterested Board to
approve RPT with disclosure to shareholders

The Companies (Amendment)
Act, 1936

Section 91 B prohibited an
interested director from voting on any contract or arrangement in which he is
directly or indirectly concerned or interested.

1956

India

Central Government to
approve RPTs in certain companies

The Companies Act, 1956

Section 297 required
companies with share capital of Rs.1 crore and above to get Central
Government’s approval for RPTs.

2013

India

Disinterested shareholders
to approve RPT with disclosures to
shareholders

The Companies Act, 2013

Section 188 of the Act,
introduced the concept of interested shareholders.

RPT Regulations in India

The Companies Act, 2013 regulates RPTs for all companies in India. Further
listed entities are also required to comply with the SEBI’s (Listing
Obligations and Disclosure Requirements) Regulations, 2015. Taken together, the
two regulations provide a comprehensive framework for dealing with RPTs.

The Companies Act, 2013 that defines a related party, which in addition
to relatives of Directors & Key Managerial Personnel and body corporates
controlled by them and their companies has a distinct category in clause (vii)
of section 2 (76). This clause includes ‘any person on whose advice, directions
or instructions a director or manager is accustomed to act’. Explanatory
statement to this clause specifically excludes professionals who advice the
directors or managers. Given this exclusion, the persons covered by this clause
can be colloquially categorized as ‘friends, philosophers and guides’. In
practice, this clause may come into effect in financial transactions with
former promoters, Chairman and Chief Executives who acting as unofficial
advisors and mentors could be wielding soft-power over the current decision
makers.

In line with the globally established practice of regulating RPTs and
not banning them, the Companies Act, 2013 too regulates RPTs through section
177 and section 188. Section 188 requires the Board of Directors to approve all
RPTs in both public and private companies. Contrary to the popular
perception, all provisions regulating RPTs specified in the Companies Act, 2013
apply to both the public and the private limited companies equally. The
only concession provided to the private company is vide a notification issued
on June 5, 2015, where the related party in a RPT is permitted to vote on their
transactions in both the Board and Shareholder meetings.

The Act for approving RPTs uses the lens of ‘Ordinary Course of
Business’ and ‘At arm’s length’ basis. As these two terms are not defined in
the Act or by SEBI, a working definition is attempted here. A transaction in
the ordinary course of business would have many other comparable transactions
with multiple unrelated parties thereby making RPTs comparable. Likewise, a
transaction at arm’s length is one in which all the economic benefits and
rewards are embedded in the transaction itself and thereby stand the test of
market place.

Given its comparability and market based pricing, a transaction that is
in the ordinary course of business and at arm’s length basis requires only the
audit committee’s prior approval (section 177). Extending this principle
further, the Audit committee can provide a blanket approval for repetitive
transactions that have a valid reason necessitating prior approval.

Where a transaction does not meet either one of the two
criteria-ordinary course of business or at arm’s length basis, approval of the
Board of Directors is required in a duly conveyed meeting. Hence, this approval
cannot be given by them passing a Circular Resolution. Further, where the
transaction size exceeds defined threshold levels, approval of the Shareholders
is required either in a physical meeting or through the postal ballot. Rule 15 of the Company (Meeting of the Board
and its Powers) Rules 2014 details these thresholds, which is quite elaborate,
capturing different types of transactions like sales and purchase of goods,
availing or rendering services, buying, selling or leasing of property, with
specific absolute and relative limits for each one of them.

The provisions of the Companies Act, 2013 as detailed above are quite
technical and require considerable analysis to identify the approval process
required. Good governance requires transparency and clarity. Probably taking
this cue, Regulation 23 of the SEBI’s LODR Regulation 2015 provides for the
formulation of a Policy on Materiality of RPTs and on dealing with RPTs to help
decision makers interpret the law and provide operational guidelines for
implementing it. Further, Regulation 46 requires this policy to be displayed on
the Company’s website inviting public scrutiny. Considering its availability,
we have reviewed all the policies that were displayed in the month of May 2017
by Nifty 50 companies to arrive a model policy.

Lessons from the Practices of Nifty 50 Companies in Drafting
their Policy for Dealing with RPTs

Our review of the Policies on dealing with RPTs of the Nifty 50
companies revealed five critical clauses that define the quality of their policy,
namely:

1. Objective of the policy,

2. Basis for giving Omnibus Approvals,

3. Effect of RPTs not approved,

4. Criteria for Granting Approvals to RPTs, and

5. Disclosures required of RPTs.

For each of these clauses, we have picked out one of the exemplary
extracts from the Nifty 50 companies as possible role model for adoption.

I. Objective of
the Policy

To effectively deal with RPTs, the policy objectives need to be clearly
articulated as illustrated in the example given by highlighting it in bold.

Reliance Industries Limited.

“Reliance Industries Limited (the “Company” or “RIL”) recognises that
related party transactions can present potential or actual conflicts of
interest and may raise questions about whether such transactions are consistent
with the Company’s and its stakeholders’ best interests.”

II. Omnibus
Approval

The clarity and specificity of conditions attached to granting omnibus
approval and its subsequent reporting should be unambiguous of what is expected
from the Audit Committee and the management team of the company as seen in the
example given here.

Bosch Ltd.

“In the case of frequent /
regular / repetitive transactions which are in the normal course of business
of the Company, the Audit Committee may grant standing pre-approval / omnibus
approval. While granting the approval, the Audit Committee shall satisfy
itself of the need for the omnibus approval and that the same is in the
interest of the Company. The omnibus approval shall specify the following:

a. Name of the related
party.

b. Nature of the
transaction.

c. Period of the
transaction.

d. Maximum amount of the
transactions that can be entered into.

e. Indicative base price
/ current contracted price and formula for variation in price, if any.

f. Such other
conditions as the Audit Committee may deem fit.

Such transactions will be deemed to be pre-approved and may not
require any further approval of the Audit Committee for each specific
transaction. The thresholds and limitations set forth by the Committee would
have to be strictly complied with, and any variation thereto including to
the price, value or material terms of the contract or arrangement shall require
the prior approval of the Audit Committee.

Further, where the need of the related party transaction cannot be
foreseen and all prescribed details (as aforementioned) are not available, the
Audit Committee may grant omnibus approval subject to the value per transaction
not exceeding Rs.1,00,00,000/- (Rupees One Crore only). The details of such
transaction shall be reported at the next meeting of the Audit Committee for
ratification.

Further, the Audit Committee shall, on a quarterly basis, review and
assess such transactions including the limits to ensure that they are in
compliance with this Policy. The omnibus approval shall be valid for a
period of one year and fresh approval shall be obtained after the expiry of one
year.”

III. Effect of RPT
not approved

The options available to the Audit Committee on dealing with a RPT needs
to be explicitly spelt out. This could include seeking the related parties to
pay compensation for loss suffered in addition to examining the reasons for this lapse in reporting and suggesting measures to rectify it.

Tata Motors Ltd., Tata Steel Ltd., Tata Power Ltd.

“In the event the Company becomes aware of a
transaction with a related party that has not been approved in accordance with
this Policy prior to its consummation, the matter shall be reviewed by the
Audit Committee. The Audit Committee shall consider all of the relevant
facts and circumstances regarding the related party transaction, and shall
evaluate all options available to the Company, including ratification, revision
or termination of the related party transaction. The Audit Committee shall also
examine the facts and circumstances pertaining to the failure of reporting such
related party transaction to the Audit Committee under this Policy and failure
of the internal control systems, and shall take any such action it deems
appropriate.

In any case, where the Audit Committee determines not to ratify a
related party transaction that has been commenced without approval, the
Audit Committee, as appropriate, may direct additional actions including, but
not limited to, discontinuation of the transaction or seeking the approval of
the shareholders, payment of compensation for the loss suffered by the related
party etc. In connection with any review/approval of a related party
transaction, the Audit Committee has authority to modify or waive any
procedural requirements of this Policy.”

IV. Criteria for
approval

The criteria captured for approval here is a brief and succinct summary
of the complex legal provisions.

Axis Bank

“All Material Related Party Transactions shall
require approval of the shareholders through ordinary resolution and the
Related Parties shall abstain from voting on such resolutions. The approval
policy framework is given below:

– Audit Committee- All Related Party Transactions

– Board Approval- All Related Party Transactions referred by
Audit Committee for approval of the Board to be considered and Related Part
Transactions as required by the statute

– Shareholders’ Approval- Approval by Ordinary Resolution
for:

i. Material Related
Party Transaction

ii. Related Party
Transactions not in Ordinary Course of Business or not on Arm’s Length basis
and crosses threshold limit as prescribed under the statute.

Related Party
Transactions will be referred to the Audit Committee for review and prior
approval. Any member of the Committee who has a potential interest in any
Related Party Transaction will recuse himself or herself and abstain from
discussion and voting on the approval of the Related Party Transaction.

In determining whether to approve, ratify, disapprove or reject a
Related Party Transaction, the Audit Committee, shall take into account all the
factors it deems appropriate.

To review a Related Party Transaction, the Audit Committee is provided
with all relevant material information of the Related Party Transaction,
including the terms of the transaction, the business purpose of the
transaction, the benefits to the Bank and to the Related Party, and any
other relevant matters.”

V. Disclosures

The scope and extent of disclosures of RPTs needs to be captured
comprehensively by including all employees concerned with implementation.

Aurobindo Pharma Ltd.

“The particulars of contracts or arrangement with Related Parties
referred to in section 188(1) shall be disclosed in the Board’s report for the
financial year commencing on or after April 1, 2014 in Form AOC-2
enclosed as Annexure-I and the form shall be signed by the persons who have
signed the Board’s report.

Further the particulars of contracts or arrangement with Related Parties
shall also be entered in the Register of Contracts as per the provisions
of section 189 of the Act and the Rules made there under.

All Material RPTs that are entered into with effect from October 1,
2014, shall be disclosed quarterly along with the compliance report on
corporate governance.

The Company shall disclose this Policy on its website and also a web
link thereto shall be provided in in its annual report. The Policy shall also
be communicated to all operational employees and other concerned persons of
the Company.”

Conclusion

In today’s world, there is no company that can eliminate RPTs totally,
as they are an integral part of the commercial world. Given that all RPTs do
not dilute shareholder value or reflect mal-governance or fraud, it is
important to have a transparent and clear policy in dealing with them. While
compliance with law is the minimum that is expected of any corporate citizen,
good governance practices should go beyond the minimum and set new standards.
In the context of dealing with RPTs, this can begin with investing time and
effort in crafting a clear, comprehensive and concise policy that will enrich
shareholder value creation for the company in addition to significantly
enhancing its sustainability.

shailesh.kwebmaker

Goodwill In Common Control Transactions Under Ind AS Whether Capital Reserve Can Be Negative?

Background

White
Goods Ltd. (WGL) and Electronic Items Ltd. (EIL) are companies under common
control. WGL is in phase 1 of Ind AS. Its transition date (TD) is 1^st
April, 2015, comparative year is 2015-16, and first year of Ind AS is 2016-17.
The last statutory accounts under Indian GAAP was 2015-16; which will be a
comparative year under Ind AS.

In the last year of Indian GAAP
and comparative year of Ind-AS; i.e., 2015-16, WGL acquired through a slump
sale the business of EIL and paid a cash consideration. The acquisition was by
way of a slump sale and did not require any court approval.

WGL applied AS 10 Accounting
for Fixed Assets to record for the slump sale under Indian GAAP.
Consequently, the excess of consideration over the fair value of assets and
liabilities taken over was recorded as goodwill. For simplicity, let’s assume,
the fair value of the net assets was equal to the book value of the net assets
taken over.

For purposes of Ind AS, WGL
chooses to restate the business combination in accordance with Ind AS 103.
Appendix C, Business Combinations of Entities under Common Control of Ind AS
103, Business Combinations would apply. In accordance with the said
standard, this would be accounted as a business combination under common
control and consequently WGL would record the assets and liabilities at their
book values and will not record any goodwill.

Issue

Paragraph 12 of Appendix C
(referred to above), requires the following treatment to account for difference
between the consideration amount and the book value of the net assets taken
over.

“The
identity of the reserves shall be preserved and shall appear in the financial
statements of the transferee in the same form in which they appeared in the
financial statements of the transferor. Thus, for example, the General Reserve
of the transferor entity becomes the General Reserve of the transferee, the
Capital Reserve of the transferor becomes the Capital Reserve of the transferee
and the Revaluation Reserve of the transferor becomes the Revaluation Reserve
of the transferee. As a result of preserving the identity, reserves which are
available for distribution as dividend before the business combination would
also be available for distribution as dividend after the business combination.
The difference, if any, between the amounts recorded as share capital issued
plus any additional consideration in the form of cash or other assets and the
amount of share capital of the transferor shall be transferred to capital
reserve and should be presented separately from other capital reserves with
disclosure of its nature and purpose in the notes.”

In Ind AS financial statements,
can the goodwill recognised under Indian GAAP be adjusted against retained
earnings/other equity or whether the goodwill has to be presented as a negative
capital reserve?

The above question becomes very
important because of section 115JB (2C). In accordance with section 115JB (2C),
the book profits of the year of convergence and each of the following four
previous years, shall be further increased or decreased, as the case may be, by
one-fifth of the transition amount adjustments. Explanation (iii) defines
“transition amount” as the amount or the aggregate of the amounts adjusted in
the other equity (excluding capital reserve and securities premium reserve) on
the convergence date. Consequently, Ind AS transitional adjustments in retained
earnings/other equity are included in book profit for determining MAT liability
equally over 5 years beginning from the year of Ind AS adoption. Transitional
adjustments to capital reserve and securities premium are excluded from book
profit.

Author’s View

The following two assumptions
appear implicit in Paragraph 12 referred to above.

– Paragraph 12
envisages a situation where two companies are merging, and in order to preserve
the identity of the reserves, the difference between the share capital issued
plus other consideration and the share capital of the transferor is recorded as
an adjustment to capital reserves.

– Paragraph 12
envisages a situation where the consideration is lower than the book value of
the acquired assets and consequently it results in a capital reserve, which is
a positive amount.

In the fact pattern under
discussion, neither of the above two assumptions apply. Consequently the amount
recorded as goodwill under Indian GAAP, can only be eliminated as an adjustment
to retained earnings/other equity under Ind-AS, rather than presented as a
negative capital reserve amount. In the author ‘s view, any reserve under the
standards can only be a positive number. Therefore, it would be more
appropriate to eliminate the goodwill against retained earnings/other equity.

The above treatment will have a
positive income-tax implication. The goodwill debited to retained
earnings/other equity under Ind AS will provide a five year straight line
deduction for the determination of book profits for MAT purposes. This
deduction is not available if the goodwill was debited to capital reserves.
Further, since the goodwill was recorded under Indian GAAP statutory accounts,
the benefit of depreciation going forward would be available for purposes of
normal income tax computations, subject to fulfilment of other conditions.

If the Company had continued to be
in the Indian GAAP regime, it would have amortised goodwill and have lower book
profits for MAT purposes. The Company would also receive the benefit of normal
income tax deduction on account of goodwill depreciation.

Since the Ind AS outcome is the
same as would have been the case if the Company would have continued under
Indian GAAP, it does not provide any undue tax advantage to the Company.

Conclusion

Capital reserve cannot be a
negative number. Consequently, goodwill will be eliminated against retained
earnings/other equity. This could be an acceptable view and will ensure income
tax neutrality between Indian GAAP and Ind AS treatment of goodwill.

Proposed Amendment

The MAT Committee has recommended
an amendment to 115JB [2A]. If the section is amended, it will change the way
book profits are determined under Ind AS on a go forward basis (not
transitional amounts). As per this amendment, items debited or credited to
other equity will be included in determination of book profits barring certain
exceptions. One of the exceptions is capital reserve in respect of business
combination of entities under common control.

In the author’s opinion, capital reserve cannot
be a negative number. Therefore, in a slump sale if the consideration paid is
greater than net assets, the excess will be debited to retained earnings. Since
the amount is not debited to capital reserves, it will not be covered by the
above exception, and should be allowed as a deduction of book profits for the
purposes of MAT in that year.

shailesh.kwebmaker

Sections 9, 44BB of the Act; Article 5(5) of India-Singapore DTAA – Where drilling rig was brought into India for fabrication and upgradation to make it ready for drilling activities, the number of days for which such fabrication and upgradation was being carried out was to be included to determine whether aggregate days exceeded the threshold.

23. [2017] 83
taxmann.com 174 (Mumbai – Trib.)

DCIT vs. Deep Drilling (1) Pte. Ltd.

A.Y.: 2011-12, Date of Order: 19^thApril, 2017

Facts

The Taxpayer was a non-resident company, incorporated in
Singapore. It was engaged in the business of providing jack-up drilling unit
and platform well operations services.

The Government of India had awarded an exploration contract
to an Indian company (“I Co”) for exploration in offshore areas of India.
During the year under consideration, the Taxpayer entered into an agreement
with an I Co for providing jack-up drilling unit and platform well operations
for exploration and earned income from the said agreement.

Under the agreement with
I Co, the Taxpayer was required to provide rig as per stipulated
specifications. The Taxpayer brought rig into India for necessary fabrication,
upgradation and positioning to meet requirements of I Co. Actual drilling
operations commenced after such modifications and were undertaken for 119 days.
The Taxpayer did not offer any income to tax in India on the ground that number
of days for which drilling operations were carried on in India were less than
the threshold period of 183 days for constitution of exploration PE in India
under India-Singapore DTAA and in absence of a PE in India, income from its
activities was not taxable in India.

However, the AO observed that the drilling rig was brought
into India in April 2010. Since the rig was in India for more than 183 days, it
constituted exploration PE of the Taxpayer under India-Singapore DTAA.
Therefore, income of the Taxpayer was taxable u/s. 44BB of the Act.

Aggrieved by the order of AO, Taxpayer appealed before
CIT(A). The CIT (A) decided the issue in favour of
The Taxpayer.

Held

– Under article 5(5) of India-Singapore DTAA,
an enterprise shall be deemed to have an exploration PE in a contracting state,
if it provides services or facilities in that state for a period of more than
183 days in connection with exploration, exploitation or extraction of minerals
oils in that state.

– The Taxpayer brought the drilling rig into
India on 26^thApril 2010. For rendering the services to I Co, the
rig was required to undergo necessary fabrication, upgradation and positioning
as per the requirements of I Co before commencing the drilling activity.

– The operation on the rig to upgrade it, to
prepare it, and to enable it to perform the drilling activity cannot be
considered in isolation from the actual drilling activity for determining
whether the Taxpayer was having a PE in connection with exploration,
exploitation or extraction of mineral oil in India.

– Thus, the Taxpayer had an
exploration PE in India from the day it commenced fabrication, etc. in
India to perform the drilling activity. Since the number of days for which the
rig was deployed (including those for fabrication, etc.) was more than
183 days, the Taxpayer had an exploration PE in India.

shailesh.kwebmaker

Section 92C, the Act – No royalty could be said to have accrued to the Taxpayer since there was no agreement between AEs and the Taxpayer to charge royalty during the year and since the Taxpayer had not provided any technical or other support to the AEs.

21. [2017] 83
taxmann.com 305 (Delhi – Trib.)

Dabur India Ltd. vs. ACIT

A.Y.: 2006-07, Date of Order: 12^th April, 2017

Facts

The Taxpayer was engaged in manufacturing and trading of
health care, personal care, cosmetics and veterinary products. It entered into
the following arrangement with two of its subsidiaries based in UAE (“UAE Co”)
and Nepal
(“Nepal Co”).

– UAE Co:

UAE Co had entered into an agreement with
the Taxpayer prior to becoming subsidiary of the Taxpayer for the use of the
technical know-how and R&D support of the Taxpayer in manufacturing
Ayurvedic products in UAE. The Taxpayer had permitted UAE Co to use its brand
name. In return, UAE Co had paid royalty @3% of FOB sale. Further, UAE Co also
manufactured other products without the technical know-how and R&D support
of the Taxpayer. In respect of such products UAE Co was allowed to use the
trademark of the Taxpayer for which a royalty of 1% of FOB sales was paid by
UAE Co to the Taxpayer.

Subsequently, UAE Co found that Ayurvedic
products of the Taxpayer were not selling in UAE. Hence, it began to
manufacture and market FMCG products with its own technology and hence, paid
royalty @1% to the Taxpayer.

– Nepal Co:

The Taxpayer had entered into agreement
with Nepal Co for payment of royalty @ 7.5% of FOB sale price and as per the
terms of the agreement, the Taxpayer was required to bear the cost of marketing
expenses. However, Nepal Co had to incur substantial expenditure to penetrate
the market and hence, the agreement was amended and the royalty was reduced to
3%. However, in the relevant assessment year, Nepal Co did not pay any royalty.
Further, the Taxpayer had contended that 80% of production of Nepal Co was
purchased by the Taxpayer. Hence, even if the Taxpayer charged royalty, it
would have increased the cost and the Taxpayer would have paid higher price.

The TPO noted low/non-receipt of royalty
from AEs during the current year. Hence, he asked the Taxpayer to furnish the
reasons for the same.

The Taxpayer submitted that there was no
agreement for payment of royalty during the year under consideration. Hence,
right to receive the royalty was absent. Further, UAE Co had also refused the
payment of royalty on the ground that it had incurred huge expenditure on
promotion of bands of the Taxpayer.

The TPO observed that in the absence of
evidence of termination of agreement between the Taxpayer and its AE, as well
as in absence of corroborative evidence like non-use of brand name or non-use
of technical know-how by the AE, the Taxpayer had permitted UAE Co and Nepal Co
use of its intellectual property without any royalty payment and hence, he made
an adjustment in the hands of the Taxpayer considering royalty @ 4% of sales in
case of UAE Co and @ 7.5% of sales in case of Nepal Co.

Aggrieved by the order of AO, Taxpayer made
appeal before CIT(A). CIT (A) held that international transaction of permitting
use of brand name by AEs was same in both cases. Therefore, there was no reason
to assign higher royalty in one case than the other. Accordingly, he held
royalty @ 2% of FOB sales as arm’s length price in both cases.

Held

Royalty from UAE Co

– When the agreement was in existence, the
Taxpayer provided technical know-how and R&D support for manufacturing of
products to the Taxpayer. Further, UAE Co had paid royalty @ 1% in accordance
with the agreement even when no product was manufactured with the help and
support of the Taxpayer since it was using the trademark of the Taxpayer.

– The agreement was not renewed on completion.
Therefore, it had ceased to exist with effect from financial year 2005-06.
Thus, for the year under consideration, no royalty was payable. Further, the
products manufactured, as well as raw material used, by UAE Co were totally
different from those in India. The AO had not brought anything on record to
substantiate that the Taxpayer had provided technical know-how and R&D
support for manufacture of such products.

– UAE Co had incurred huge expenses on
marketing and advertising the brand of the Taxpayer. Moreover, the AO had also
not brought on record that:

• the Taxpayer had incurred expenses for
marketing the products of UAE Co; or

• the Taxpayer made any efforts or contributed
any money for establishing its name in UAE; or

• the products manufactured by UAE Co were not
different from the products manufactured in India by the Taxpayer; or

• the claim of the Taxpayer that the products
manufactured, and materials used, in UAE were totally different from those in
India had not been rebutted.

– Under section 92C of the Act, read with rules
10B and 10C of the Rules, ALP should be determined on the basis of similar
payments received by similarly situated and comparable independent entities. In
the present case, no comparable case was brought on record by the TPO or CIT
(A).

– Since the Taxpayer is not providing any
support to UAE Co, it will be fair and reasonable to charge royalty @ 0.75%.

Royalty
from Nepal Co

– For the year under consideration, Nepal Co
had not paid royalty to the Taxpayer since it had to incur market penetration
expenses.

– The contention of the Taxpayer that 80% of
production of Nepal Co was purchased by the Taxpayer had not been rebutted. It
is undisputed that royalty was payable in earlier year on sales. Therefore, it
is unbelievable that the Taxpayer charged the royalty on the purchases made by
it from Nepal Co to increase the cost of its own purchases. Even if it is
presumed that the Taxpayer should have charged the royalty, the same amount
would have been added in the purchase price paid by the Taxpayer. Thus, it
would have been revenue neutral.

– There was no agreement in existence between
the Taxpayer and Nepal Co. Also, nothing was brought on record to substantiate
that the Taxpayer incurred any expenditure which benefited Nepal Co in any
manner. Having regard to all the facts, charging of royalty was not justified
and addition made is deleted.

shailesh.kwebmaker

Section 92C, the Act – Location savings and advantages are very much relevant in cross-border transaction but only for limited purpose of examination and investigation of transaction and not as a basis for determination of ALP and consequential adjustment.

20. [2017] 84
taxmann.com 15 (Bangalore – Trib.)

Parexel International Clinical Research (P.) Ltd. vs. DCIT

A.Ys.: 2011-12 & 2012-13,

Date of Order: 16^th June, 2017

Facts

The Taxpayer was a subsidiary of a dutch company (“F Co”) and
was engaged in providing clinical research services in India. Certain AEs of
the Taxpayer had outsourced the work of clinical trial and research services to
The Taxpayer in India. For its services, the Taxpayer was paid cost plus 15%
markup.

To benchmark its international transactions, the Taxpayer
selected 17 comparable companies having average PLI of 18.05%. Since operating
profit margin of the Taxpayer was within the tolerance range of +/- 5%, it
claimed that its international transactions were at arm’s length.

The Transfer Pricing Officer (“TPO”) observed that compared
to developed countries, regulatory, compliance and investigatory costs were
significantly lower in India, Hence, conducting trial in India through the
Taxpayer had resulted in location saving for the AE. Since benchmarking against
local comparables did not take this into account. Accordingly, the TPO applied
the profit split on account of location saving. Consequently, the location
savings in relation to the total cost of conducting clinical trials was
allocated in the ratio of 50:50 between the Taxpayer and the AE.

Aggrieved by the order of TPO, the Taxpayer appealed before
the Dispute Resolution Panel (DRP). However, DRP concurred with the view of the
TPO. Aggrieved, the Taxpayer appealed before the Tribunal.

Held

– Location savings is one of the primary
factors of any cross-border trade. However, such location savings are available
to all parties irrespective of whether the transaction is between the related
party or unrelated party.

– Location savings’ advantage is universally
accepted in cross-border trade so far as the transactions are not entered into
solely for the purpose of avoiding taxes. On the other hand, BEPS is relevant
only if the sole purpose of the transaction is to shift profit to no tax or low
tax jurisdiction and treaty shopping.

– Transfer pricing provisions for
determination of ALP are inserted to deal with such transactions between
related parties. While location saving can be a relevant factor for conducting
a proper enquiry for determination of ALP, if the comparable uncontrolled price
is available, location saving cannot be the basis for determination of ALP and
consequential adjustment.

shailesh.kwebmaker

Foreign Tax Credit Rules

One of the pillars of the Double Tax Avoidance Agreement
(DTAA) is Article on “Methods for Elimination of Double Taxation”. Various
methods are prescribed for elimination of double taxation. However, elimination
of double taxation through a foreign tax credit route was fraught with several
issues such as at what rate of exchange credit for taxes are to be computed,
what documents are required to prove payment of overseas taxes, what about
mismatch of taxable years in the country of source and country of residence,
what about increase or decrease in taxes due to assessment in the foreign
country and so on. In order to address all these issues and some more, last
year CBDT had issued a Notification No. S.O.2213(E) dated 27^thJune
2016 providing Foreign Tax Credit Rules (FTCR), which came into effect from 1^stApril 2017.
This article besides explaining various methods for elimination of double
taxation, deals with salient features of the FTCR.

1.0 Introduction

The objective of a DTAA (also known as
“tax treaty”) is to distribute tax revenue between the two Contracting States
(CS). Articles 6 to 22 in a typical tax treaty contain distributive rules to
this effect. The methods for elimination of double taxation have been dealt
with by Article 23 of the UN Model Tax Convention (UNMC) and the OECD MC.
Article 24 provides for provisions of Mutual Agreement Procedure which can be
invoked by the tax payer, if the CS fails to eliminate double taxation or
apply/interpret the treaty provisions not in accordance with its intent and
purpose.

Usually, State of Residence (SR) taxes
global income of a tax payer including income from the State of Source (SS).
Therefore, SR will give credit for taxes paid in the SS.

Double taxation is eliminated in two
ways, namely, Exemption of Income or Credit of taxes paid. Various methods for
elimination of double taxation can be summarised as follows:

Before we dwell into foreign tax
credit rules, let us glance through the above methods for appreciating
applicability of FTCR in an Indian scenario.

2.0 Exemption Method

2.1 Full Exemption

In this case, the income taxed in the
SS is fully exempt in the SR.

2.2 Exemption with Progression

Under this method, SR considers the
income taxed in the SS only for the purpose of determining the effective tax
rate.

Let us understand the above two
methods with the help of an example.

Tax slabs and tax incidence in the SR
are as follows:

Income

Tax Rate

Tax on

Rs. 1500

Tax on

Rs. 1000

First Rs. 200 Exempt

From Rs. 201 to Rs. 500

10%

From Rs. 501 to Rs. 1000

20%

100

Above Rs. 1000

30%

150

—-

Total Rs.

280

130

Sr. No.

Particulars

Amount INR

Income in the SR

1000

Income in the SS

500

Total income taxable in SR (1+2)

1500

Tax
liability in the SR without
considering Exemption (Tax on a slab basis)

280

Total
Income considering full exemption in the SR (income of SS is ignored totally)

1000

Tax
liability based in the SR considering full exemption (On a slab basis only on
income from SR i.e. Rs.1000)

130

Effective
Tax Rate in SR considering income from SS (4/3)

18.6%

Tax
in SR considering Exemption

with
Progression (Tax on Rs.1000 @ 18.6%)

186

3.0 Credit Methods

Under the credit method, SR will tax
income of its resident on a global basis and then grant credit of taxes paid in
the SS.

In simple words, when any income of
the person is taxed on source basis in one country and on the basis of his
residence in other country, the country of residence shall compute tax on
overall global income of such person and while doing so, it shall grant to such
a person a credit of the taxes already paid by it on the income taxable at
source in such other country.

There are two types of credit methods,
namely, Unilateral and Bilateral.

3.1
Unilateral Tax Credit

Section 91 of the Income tax Act deals
with the unilateral tax credit. Sub-section (1) of the section 91 provides that
“If any person who is resident in India in any previous year proves that, in
respect of his income which accrued or arose during that previous year outside
India (and which is not deemed to accrue or arise in India), he has paid in any
country with which there is no agreement under section 90 for the relief or
avoidance of double taxation, income-tax, by deduction or otherwise,
under the law in force in that country, he shall be entitled to the deduction
from the Indian income-tax payable by him of a sum calculated on such
doubly taxed income at the Indian rate of tax or the rate of tax of the said
country, whichever is the lower, or at the Indian rate of tax if both the rates
are equal”. (Emphasis supplied)

From the above, it is clear that the
amount of credit in India will be restricted to the lower of the proportionate
tax in India on the foreign sourced income or taxes paid in the source country.

3.1.1 Issues

A
question arose as to whether a tax payer can avail unilateral credit in respect
of income from a country with which India has signed a limited tax treaty?
India had a limited tax treaty with Kuwait till 2008 which covered only income
from International Air Transport. (With effect from 1^stApril 2008,
a new and comprehensive tax treaty with Kuwait has become operative in India).
In case of JCIT vs. Petroleum India International (26 SOT 105), the
Mumbai Tribunal granted benefit of the unilateral tax credit u/s. 91(1) when
only limited DTAA was in operation. Thus, one may conclude that unilateral tax
relief may be available to a tax payer in respect of income which is not
covered by the limited tax treaty.

3.1.2 Some other issues u/s. 91 addressed by the
Judiciary are tabulated herein below:

Sr. No.	Issue	Decision	Case Law
1	What if part of foreign income is taxable in India?	Proportionate credit is available only in respect of income doubly taxed.	CIT v. O.VR.SV.VR. Arunachalam Chettiar (49 ITR 574) and Manpreet Singh Gambhir v. DCIT (26 SOT 208)
2	Whether relief u/s 91 is available against MAT liability u/s 115JB or 115JC of the Act in India?	If the foreign sourced income is included in computation of book profits in India, then relief u/s. 91 is available against MAT liability.	Hindustan Construction Co. Ltd. v. DCIT (25 SOT 359) Proviso to section 115JAA and 115JD read with Rule 128(7)
3	Whether the relief u/s. 91 is available qua each country of source or one needs to aggregate income from all foreign sources, which may have an impact of setting off loss from one country against income from the other.	Expl. (iii) to Section 91 defines “rate of tax of the said country” to mean income-tax paid in the other country as per its tax laws. Therefore, relief u/s. 91 has to be granted in respect of each source country separately.	Bombay Burmah Trading Corporation Ltd. (126 Taxman 403)

Sr. No.

Issue

Decision

Case Law

What
if part of foreign income is taxable in India?

Proportionate
credit is available only in respect of income doubly taxed.

CIT
v. O.VR.SV.VR. Arunachalam Chettiar (49 ITR 574) and Manpreet Singh Gambhir
v. DCIT

(26
SOT 208)

Whether
relief u/s 91 is available against MAT liability u/s 115JB or 115JC of the
Act in India?

If
the foreign sourced income is included in computation of book profits in
India, then relief u/s. 91 is available against MAT liability.

Hindustan
Construction Co. Ltd. v. DCIT

(25
SOT 359)

Proviso
to section 115JAA and 115JD read with Rule 128(7)

Whether
the relief u/s. 91 is available qua each country of source or one needs to
aggregate income from all foreign sources, which may have an impact of
setting off loss from one country against income from the other.

Expl.
(iii) to Section 91 defines “rate of tax of the said country” to mean
income-tax paid in the other country as per its tax laws. Therefore, relief
u/s. 91 has to be granted in respect of each source country separately.

Bombay
Burmah Trading Corporation Ltd. (126 Taxman 403)

3.2 Bilateral Tax Credit Methods

There are four bilateral tax credit
methods, namely, (i) Full Credit Method, (ii) Ordinary Credit Method, (iii)
Underlying Tax Credit Method and (iv) Tax Sparing. Let us understand each of
them with illustrations.

3.2.1 Full Credit Method

Under this method, total tax paid by
the person on his income in the country of source is allowed as a credit
against his total tax liability in the country of residence. The credit is
irrespective of his tax liability in the country of residence. Thus, a person
may be able to get proportionately more credit than the incidence of tax on his
foreign sourced income in the country of residence. This is known as full
credit method. India does not allow full credit of foreign tax to its residents
except under India-Namibia DTAA, which grants full credit in India of taxes paid
in Namibia.

3.2.2 Ordinary Credit Method

The credit available under this method
shall be lower of the proportionate tax payable on the foreign sourced income
in the country of residence or the actual tax paid in country of source. As a
result, in this case, if the tax on the foreign sourced income is higher in the
country of residence than in the country of source, the taxpayer shall be
liable to pay the balance amount. However, if it is the other way round, i.e.
if tax paid in the source country is higher than the residence country, then
excess shall not be refunded. As stated earlier, tax treaties are distribution
of taxing rights and sharing of revenue between two contracting states and
therefore, any excess tax paid in one country is usually not refunded by the
other country. However, some countries do provide for carry forward of such
excess credit. As far as India is concerned, such excess amount is ignored.

Majority of Indian tax treaties follow
Ordinary Tax Credit Method, which is not detrimental to the interest of the
country of residence of the tax payer and at the same time, it eliminates
double taxation of income.

Let
us understand both these methods with the help of a Case Study. Facts of the
case are same as described in paragraph 2.2 herein above with the only change
of assumption of 20% rate of tax in the SS. SR is assumed to be India and SS as
Canada.

Sr.

No.

Particulars

Without DTAA Relief
Rs.

Full Credit Method
Rs.

Ordinary Credit Method Rs.

Taxable
Income in India (1000+500)

1500

Taxable
Income in Canada

500

Tax
payable in India (on a slab basis)

280

Tax
Payable in Canada (B*20%)

100

Effective
Tax Rate in India (C/A)

18.67%

Foreign Tax Credit

NIL

100

(Full Credit)

(18.67% of 500)

Tax Paid in India net of FTC (C-F)

280

180

187

Total
Tax Liability (G+D)

380

280

287

3.2.3 Underlying Tax Credit Method (UTC)

Under this method, SR gives credit for
taxes paid on profits out of which dividend is declared by the company located
in the SS. This method attempts to eliminate/reduce economic double taxation as
dividend income is taxed twice, once by way of profits in the hands of the
company and secondly by way of dividends in the hands of the shareholders.

A few Indian tax treaties which
contain UTC provisions are treaties with Australia, China, Ireland, Japan,
Malaysia, Mauritius, Mexico, Singapore, Spain, the UK, and the USA.

However, it is interesting to note
that most of UTC provisions in Indian tax treaties are with respect to the
residents of treaty partner country and not Indian residents. Only treaties
with Mauritius and Singapore give benefit of UTC to Indian residents.
India-Singapore DTAA provides for minimum shareholding of 25 per cent in order
to avail UTC benefit. India-Mauritius DTAA provides for minimum shareholding of
10 per cent in order to avail UTC benefit.

An UTC clause of India-Mauritius DTAA
reads as follows:

“In the case of a dividend paid by
a company which is a resident of Mauritius to a company which is a resident of
India and which owns at least 10 per cent of the shares of the company paying
the dividend, the credit shall take into account [in addition to any Mauritius
tax for which credit may be allowed under the provisions of sub-paragraph (a)
of this paragraph] the Mauritius tax payable by the company in respect of the
profits out of which such dividend is paid.”

Illustration of the Underlying Tax
Credit

– Indian company holds 100% shareholding of a
Singapore Company

– Profits before tax of the Singapore Company
is Rs. 1,00,000/-

– Tax rates in Singapore:

Business Income @ 20%

Withholding Tax on Dividends 5%

– Tax rate on foreign dividends in India 30%

– Assume that 100 per cent of profits are
distributed as dividends

Sr.No.	Particulars	Amount in Rs.
A	PBT in Singapore	1,00,000
B	Tax on Business Profits @ 20%	20,000
C	Balance Profits declared as Dividends	80,000
D	Withholding tax on Dividends @5%	4,000
In the hands of the Indian Company
E	Dividend Income	80,000
F	Tax on Dividends @ 30%	24,000
G	Underlying Tax Credit (@ 100% of B)	20,000
H	Foreign Tax Credit for Dividends (Full credit available as tax rate in India is higher than Singapore)	4,000
I	Total Tax incidence in India	NIL

Sr.No.

Particulars

Amount in Rs.

PBT
in Singapore

1,00,000

Tax
on Business Profits @ 20%

20,000

Balance
Profits declared as Dividends

80,000

Withholding
tax on Dividends @5%

4,000

In the hands of the Indian Company

Dividend
Income

80,000

Tax
on Dividends @ 30%

24,000

Underlying
Tax Credit (@ 100% of B)

20,000

Foreign
Tax Credit for Dividends

(Full
credit available as tax rate

in
India is higher than Singapore)

4,000

Total
Tax incidence in India

NIL

3.2.4 Tax Sparing

Under this method, credit is given by
the state of residence in respect of deemed tax paid in the state of source.
Many a times, developing countries give many tax based incentives to attract
capital and technology from the developed nations. (For e.g. section 10
exemptions in India). However, income which may be exempt in India if taxed in
the other country, then the tax spared by the Indian government would go to the
other government rather than the company/entity concerned. Therefore, the
concept of tax sparing has come into being. Usually, provisions concerning tax
sparing cover specific sections of the domestic tax laws.

However, sometimes, a general
reference is made to apply tax sparing provisions in respect of incentives
offered by a country for the promotion of economic development. [E.g.
India-Japan DTAA]

To illustrate, section 10(15)(iv)(fa)
of the Act provides that interest payable by a scheduled bank to a non-resident
depositor on a deposit placed in foreign currency is exempt from tax in India.
If an NRI depositor from Japan earns interest income from India, which is
exempt under this section but taxable in Japan, then the Japanese Government
will give a credit of tax which he would have otherwise paid in India, but for
this exemption.

Illustration

Sr. No.	Particulars	Amount in Rs.
A	Interest Income received by an NRI in Japan on deposit placed with SBI in Yen.	1,00,000
B	Tax paid in Japan @ 30%	30,000
C	Tax Payable as per India-Japan Tax Treaty @ 10% {Actual tax paid is NIL either under DTAA or under the Act – [exempt u/s. 10(15)(iv)(fa)]}	10,000
D	Tax Sparing Credit in Japan	10,000
E	Actual Tax payable in Japan (B-D)	20,000

Sr. No.

Particulars

Amount in Rs.

Interest
Income received by an

NRI
in Japan on deposit placed

with
SBI in Yen.

1,00,000

Tax
paid in Japan @ 30%

30,000

Tax
Payable as per India-Japan Tax Treaty @ 10% {Actual tax

paid
is NIL either under DTAA

or under the Act –

[exempt
u/s. 10(15)(iv)(fa)]}

10,000

Tax
Sparing Credit in Japan

10,000

Actual
Tax payable in Japan (B-D)

20,000

4.0 Foreign Tax Credit
Rules

India by and large, follows ordinary
credit method and therefore, a lot of issues were arising for claiming credit.
There was no guidance as to at what rate taxes paid in the foreign country has
to be converted for claiming credit in India, what documents to be submitted,
what about timing mismatch and so on. In order to address these and other
issues, CBDT notified FTCR on 27^th June 2016 and were made
applicable w.e.f. 1^st April 2017. Let us study these provisions in
detail.

Income Tax Rule 128 deals with the
provisions of FTC which are summarised as follows:

Sub Rule No.	Particulars
1	Credit of foreign tax to be allowed in India in the year in which the corresponding income is offered to tax or assessed in India. If income is offered in more than one year, then the credit for foreign tax shall be allowed in the same proportion in which such income is offered to tax or assessed in India. (This provision takes care of timing mismatch. If an Indian resident receives income from USA, where it was taxed on a calendar year basis, then he can offer the proportionate income in India on financial year basis. The rule now clearly provides proportionate credit of taxes if the income is offered for tax in two financial years)
2	Meaning of foreign tax Tax referred to in a DTAA or as referred to in clause (iv) of the Explanation to section 91. (It means credit for state taxes or any other tax other than specifically covered by a bilateral tax treaty will not be available)
3	It is clarified that FTC will be available against the tax, surcharge and cess payable under the Act but not against interest, fee or penalty.
4	FTC will not be available in respect of disputed amount of foreign tax. (See Note 1)
5	This sub rule provides certain important provisions: (i) FTC shall be computed vis-a-vis each source of income arising in a particular country; (ii) The credit shall be lower of the tax payable under the Act on such income and the foreign tax paid on such income; (See Note 2) (iii) As the tax in foreign country would be paid or deducted in the currency of the respective country, the same needs to be converted into equivalent Indian rupees. The rule provides that foreign tax should be converted at the Telegraphic Transfer (TT) Buying Rate of the State Bank of India (SBI) on the last day of the month immediately preceding the month in which such tax has been paid or deducted. (See Note 3)
6	Provision allowing credit of FTC against MAT liability u/s 115JB or 115JC
7	Excess of FTC compared to MAT liability u/s 115JB or 115JC to be ignored
8	Documents to be submitted for claiming FTC (i) Form No. 67 containing details of foreign income and Tax paid/deducted thereon. (ii) Certificate or statement specifying the nature of income and the amount of tax deducted there from or paid by the assessee,— (a) from the tax authority of the country or the specified territory outside India; or (b) from the person responsible for deduction of such tax; or (c) signed by the assessee along with an acknowledgement of online payment or bank counter foil or challan for payment of tax or proof of tax deducted at source, as the case may be.
9	The above form and documents referred to in rule 8 have to be filed on or before the due date of furnishing income tax return u/s. 139 of the Act.
10	Requirement for submission of Form No. 67 in a case where The carry backward of loss of the current year results in refund of foreign tax for which credit has been claimed in any earlier year or years. (Many countries allow losses to be carried backward and set off against profits of the earlier year/s. In such a situation, the taxes paid earlier may be refunded to the tax payer. In order to avoid unjust enrichment, the rules provide for reversal of the FTC in India in respect of taxes which are subsequently refunded in the foreign jurisdiction)

Sub Rule No.

Particulars

Credit of foreign tax to be allowed in
India in the year in

which the corresponding income is
offered to tax or

assessed in India. If income is offered
in more than one

year, then the credit for foreign tax
shall be allowed

in the same proportion in which such
income is offered

to tax or assessed in India.

(This provision takes care of timing
mismatch. If an

Indian resident receives income from
USA, where it was

taxed on a calendar year basis, then he
can offer the

proportionate income in India on
financial year basis. The

rule now clearly provides proportionate
credit of taxes if the income is offered for tax in two financial years)

Meaning of foreign tax

Tax
referred to in a DTAA or as referred to in clause (iv)

of
the Explanation to section 91.

(It
means credit for state taxes or any other tax other

than
specifically covered by a bilateral tax treaty will

not
be available)

It
is clarified that FTC will be available against the tax,

surcharge
and cess payable under the Act but not

against
interest, fee or penalty.

FTC
will not be available in respect of disputed amount

of
foreign tax. (See Note 1)

This sub rule provides certain important
provisions:

(i)
FTC shall be computed vis-a-vis each source of

income
arising in a particular country;

(ii)
The credit shall be lower of the tax payable under

the
Act on such income and the foreign tax paid on

such
income; (See Note 2)

(iii)
As the tax in foreign country would be paid or deducted in the currency of the
respective country, the same needs to be converted into equivalent Indian
rupees. The rule provides that foreign tax should be converted at the
Telegraphic Transfer (TT) Buying Rate of the State Bank of India (SBI) on the
last day of the month

immediately
preceding the month in which such tax has

been
paid or deducted. (See Note 3)

Provision
allowing credit of FTC against MAT liability

u/s
115JB or 115JC

Excess
of FTC compared to MAT liability u/s 115JB or 115JC to be ignored

Documents to be submitted for claiming
FTC

(i) Form
No. 67 containing details of foreign income and

Tax
paid/deducted thereon.

(ii) Certificate or statement specifying
the nature of income and the amount of
tax deducted there from or paid by the assessee,—

(a) from
the tax authority of the country or the specified territory outside India; or

(b) from
the person responsible for deduction of such tax; or

(c) signed
by the assessee along with an acknowledgement of online payment or bank
counter foil or challan for payment of tax or proof of tax deducted at
source, as the case may be.

The
above form and documents referred to in rule 8

have
to be filed on or before the due date of furnishing

income
tax return u/s. 139 of the Act.

Requirement
for submission of Form No. 67 in a case where The carry backward of loss of
the current year results in refund of foreign tax for which credit has been
claimed in any earlier year or years.

(Many
countries allow losses to be carried backward and

set
off against profits of the earlier year/s. In such a

situation,
the taxes paid earlier may be refunded to the

tax
payer. In order to avoid unjust enrichment, the

rules
provide for reversal of the FTC in India in respect

of
taxes which are subsequently refunded in the

foreign
jurisdiction)

Note1:Proviso
to sub rule 4 provides that foreign tax credit shall be allowed for the year in
which such income is offered to tax or assessed to tax in India if the assessee
within six months from the end of the month in which the dispute is finally
settled, furnishes evidence of settlement of dispute and an evidence to the
effect that the liability for payment of such foreign tax has been discharged
by him and furnishes an undertaking that no refund in respect of such amount
has directly or indirectly been claimed or shall be claimed.

Note 2:Proviso to sub rule 5 (i) provides that
where the foreign tax paid exceeds the amount of tax payable in accordance with
the provisions of the agreement for relief or avoidance of double taxation,
such excess shall be ignored for the purposes of this clause.

Illustration:

An Indian company is taxed @ 20% on
royalty income in a foreign country X as per its domestic tax laws. However,
the DTAA between India and country X provides for the tax rate of 10% on such
royalty income, then notwithstanding, actual payment of 20%, the FTC in India
will be restricted to 10% only.

Note 3:Illustration
on conversion of FTC in Indian currency

Mr. Patel, a resident in India has
received professional fees of USD 10,000/- on 1^stFebruary 2017 from
his UK client. His UK client deducted tax @ 20% (i.e. GBP 2000) under the UK
tax laws and paid the same to the UK government on 7^th February
2017. India-UK DTAA provides the rate on FTS as 10%.

He also earned capital gains on sale
of shares on London Stock exchange on 15^th March 2017 amounting to
GBP 5000/- on which he paid tax of GBP 500 in UK on 31^st March 2017.

Consider
following rate of exchange of UK Pound vis-a-vis Indian Rupee:

Sr. No.

Date

Rate of Exchange

1 GBP = INR

31^st
January 2017

1^st
February 2017

7^th
February 2017

28^thFebruary 2017

15^thMarch 2017

31^st
March 2017

Rule 115 of the Act provides for the
mechanism to apply the exchange rate for conversion of foreign income to Indian
rupees.

In the above case, applying provisions
of Rule 115 and sub-rule 5 of Rule 128, foreign income and FTC in India would
be computed as follows:

FTC for Fees For Technical Services

Income 10,000 @ Rs. 81/- = Rs.
8,10,000/-

[Exchange rate as on the last date of
the previous year i.e. as on 31^st March 2017 as per Rule 115(2)(c)
of the Act]

Indian income tax @ 30% = Rs. 2,43,000/-

FTC on 1000 @ Rs. 84/- = Rs. 84,000/-

[Exchange rate as on the last date of
the previous month i.e. as on 31^st January 2017 as per Rule 128(5)]

[Notes:

(i) FTC restricted to the tax rate prescribed
in the India-UK DTAA and not the actual payment of GBP 2000;

(ii) FTC is given at the exchange rate prevalent
on the last date of the preceding month in which the tax has been paid]

FTC for Capital Gains

Capital gains of 5000 @ Rs. 82/- = Rs. 4,10,000/-

[Exchange rate as on the last date of
the previous month i.e. as on 28^th February 2017 as per Rule 115(f)]

Indian Income tax @ 20% (assumed) =
Rs. 88,000/-

FTC on 500 @ Rs. 82/- =
Rs. 41,000/-

[Exchange rate as on the last date of
the previous month i.e. as on 28^th February 2017 as per Rule 128(5)]

5.0 Summation

FTCR has resolved many issues such as the rate
of exchange of FTC, the timing mismatch of two jurisdictions, credit in respect
of disputed foreign tax, loss situation etc. This will help in better
administration, clarity in claiming FTC and reduction in litigation.

shailesh.kwebmaker

Construction Contract Vis-À-Vis Repair Contract

Introduction

Under Maharashtra Value Added Tax
Act, 2002 (MVAT Act), the Works Contracts were taxable by different methods.
There was one normal method by way of deduction u/r 58 of MVAT Rules and in
alternative there were certain composition schemes.

Under Composition Schemes there
were two alternatives, like 5% composition scheme for construction contracts
and 8% composition scheme for other contracts.

The 5% composition was applicable
to only notified contracts. The Government has issued notification dated 30.11.2006,
notifying the said ‘construction contracts’. The notification is reproduced
below for ready reference.

“FINANCE DEPARTMENT

Mantralaya, Mumbai 400 032, dated the 30^thNovember
2006

NOTIFICATION – The Maharashtra Value Added Tax Act, 2002.

No. VAT.1506/CR-134/Taxation-1– In
exercise of the powers conferred by clause (i) of the Explanation to
sub-section (3) of section 42 of the Maharashtra Value Added Tax Act, 2002
[Mah. IX of 2005], the Government of Maharashtra hereby notifies the following
works contracts to be the ‘Construction Contracts’ for the purposes of the said
sub-section, namely:-

(A) Contracts for construction of,–

(1) Buildings,

(2) Roads,

(3) Runways,

(4) Bridges, Railway over
bridges,

(5) Dams,

(6) Tunnels,

(7) Canals,

(8) Barrages,

(9) Diversions,

(10) Rail tracks,

(11) Causeways, Subways,
Spillways,

(12) Water supply schemes,

(13) Sewerage works,

(14) Drainage,

(15) Swimming pools,

(16) Water Purification
plants and

(17) Jettys

(B) Any works
contract incidental or ancillary to the contracts mentioned in paragraph (A)
above, if such work contracts are awarded and executed before the completion of
the said contracts.

By order and in the name of the Governor of
Maharashtra.”

Controversy

In relation to the above
notification, there was a controversy about the scope of the notified items.
Particularly, in relation to contracts for construction of building, there was
a dispute as to whether only new construction can be covered or repair of existing
building can also be covered. If the contract was for repair of the existing
building, then the view of the department was that it cannot be covered under
the above notification.

Bombay
High Court Ruling

One of the matters, having such
dispute, went to the Hon. Bombay High Court by way of appeal under MVAT Act.
The matter is in case of Painterior (India) (Maharashtra VAT Appeal No. 22
of 2017 dated 25.7.2017)(Bom).

The Hon. High Court has narrated
the facts as under:

“Background of the Appeal:

3. The Appellant is a
registered partnership firm registered under the MVAT Act. The Appellant is in
the business of repairs/reconstruction of buildings. Application dated 14^thJune 2010, was filed by the Appellant before the Commissioner of Sales
Tax, Maharashtra State (for short, “The Commissioner”) u/s. 56 of the
MVAT Act, for determination of the rate of tax applicable to a contract for
repairs of a building, as the repairs/reconstruction contracts are covered by
the expression “construction contracts”, which is used in section 42(3)
of the MVAT Act read with Notification No.VAT.1506/CR134/Taxation/1 dated 30^th
November 2006. The rate of tax applicable thereto, would be 5% as notified
under the Act. The Appellant had forwarded along with the Application to the
Commissioner such type of contract with the Sangam Bhavan Building.

4. The Appellant also prayed
for the direction that the determination of the Commissioner should not affect
the liability of the Appellant under the Act in respect of any sale affected
prior to the determination. The Commissioner by order dated 25^th
July 2014, rejected the contention of the Appellant and made a determination
that the contract is not a “Construction Contract”, thus attracting the
rate of tax at 8%. Being aggrieved by the order passed by the Commissioner, the
Appellant approached the Maharashtra Sales Tax Tribunal (for short, “the
Tribunal”) in Appeal. The Tribunal by Judgment and order dated 15^thDecember
2016, confirmed the order passed by the Commissioner. Hence, the Appeal.”

The Hon. High Court referred to the
provisions of the Act as well as earlier circulars under Works Contract Tax
Act. Under Works Contract Tax Act, for the amnesty scheme, the Commissioner of
Sales Tax has clarified that repair contracts are also Construction contracts.
Having this interpretation long back, the Hon. High Court held that there is no
reason to change the interpretation. The observations of the Hon. High Court
are as under:

“13. It is necessary to note that
under the WC Act, referring to section 6A(1) a similar notification dated 8
March 2000 was in existence, referring to the contract for construction of
“building”. Similar clause (B) of notification under MVAT Act dated 30^th
November 2006 was in existence under Section 42(3) Explanation. The Trade
circular was in existence about the repair, reconstruction and maintenance to
buildings, dams, bridges, canals and barrages would be covered under the
expression of “Construction Contract”, though it was for the purpose of amnesty
scheme. This undisputed position on record shows the consistent stand and
interpretation even of the Department that the “Construction Contract” includes
the repair and reconstruction and maintenance of building. There is no contra
circular and/or material available placed on record in this regard. The
circulars and the practice so adopted by the Department, since long, ought not
to have been overruled while rejecting the case/claim of the Appellant.

14. Therefore, considering the
scheme and purpose of section 42(3)(i) and notification dated 30^th
November 2006 under the MVAT Act, we are of the view that the ‘Works Contract’
in question, would be the ‘Construction Contract’. The contract for
construction of buildings includes the repairing, reconstruction and maintenance
of building etc. This is also for the reason that there is no
distinguishing feature and definitions and/or intention reflected in any
provisions about the nature of buildings, whether it is new building or old
building. The word “new” or “old” so observed in the impugned order as not
specifically defined or explained anywhere, cannot be added by giving such
restrictive interpretation to the provisions and the notification in question.
The term “Building” cannot be restricted only to the new building specifically
when, as per the practice and the explanation so given in similarly placed
provisions under the WC Act and the notification explaining the term so
referred above. In spite of the earlier provisions and the interpretation so
given, there is no reason to overlook the same specifically when, there is no
further clarification and/or provisions brought on record to supersede and/or
take away the clarification so issued by the Commissioner at the relevant time.
The repairing and/or reconstruction, if part of Construction Contract, which in
normal parlance and/or understanding cannot be read to mean that the
construction contract refers under these provisions only for the new building.
It is unacceptable and there is no rational and/or justification for want of
specific provisions of such interpretation.”

Conclusion

Thus,
the Hon. High Court has decided on this highly disputed issue which will bring
the controversy to end. Further, it also becomes clear that the circular
interpretation remains binding even if it is in a different situation.
Consistency in interpretation is getting impliedly confirmed by the Hon. High
Court. We hope that such a trend will always be kept in mind by the revenue
authorities for simplification of law.

shailesh.kwebmaker

Is Schedule Ii To The Central GST Act, 2017 & Other State GST Acts Unconstitutional As Regards Certain Services?

Introduction

The Goods and Services Tax legislations have become a reality
now and are in operation. The start was through a Constitutional (101^st)
Amendment Act, 2016 which came into effect from September 2016 itself. In that
Act, the Constitution was amended to insert, modify and delete several articles
to pave the way for introduction of GST. In doing so, however, Article 366(29a)
was left untouched. This article would analyse the effect of having this clause
remaining in the Constitution.

Goods and Services Tax

The term “goods” is defined in Article 366(12) to include all
materials, commodities and articles. As per Article 366(26A), “services” is
defined to mean anything other than goods. Article 366(12A) defines “goods and
services tax” to mean any tax on supply of goods or services or both except
taxes on the supply of the alcoholic liquor for human consumption.” Therefore,
it stands to reason that the goods and services tax is a tax on supply of goods
or services.

Tax on sale or purchase of goods

However, in Article 366(29a), which was inserted by
Constitution (46^th Amendment) Act, 1982, the definition of tax on
the sale or purchase of goods was introduced. The reason for its introduction
was several transactions which could not be taxed by the States because of
interpretation placed by the Courts was sought to be overcome. Now let us take
a look at the said definition which is set out hereunder (emphasis supplied):

“[(29A) “tax on the sale or purchase of goods” includes –

(a) a tax on the transfer, otherwise than
in pursuance of a contract, of property in any goods for cash, deferred payment
or other valuable consideration;

(b) a tax on the transfer of property in
goods (whether as goods or in some other form) involved in the execution of a
works contract;

(d) a tax on the transfer of the right to
use any goods for any purpose (whether or not for a specified period) for cash,
deferred payment or other valuable consideration;

(e) a tax on the supply of goods by any
unincorporated association or body of persons to a member thereof for cash,
deferred payment or other valuable consideration;

(f) a tax on the supply, by way of or as
part of any service or in any other manner whatsoever, of goods, being food or
any other article for human consumption or any drink (whether or not
intoxicating), where such supply or service, is for cash, deferred payment or
other valuable consideration,

and such transfer, delivery or supply of any goods
shall be deemed to be a sale of those goods by the person making the transfer,
delivery or supply and a purchase of those goods by the person to whom such
transfer, delivery or supply is made;”

In BSNL Ltd vs. UOI 2006 (2) STR 161, the Supreme
Court succinctly brought out reasons for its introduction which is set out
hereunder:

39. Clause (a) covers a situation where the
consensual element is lacking. This normally takes place in an involuntary
sale. Clause (b) covers cases relating to works contracts. This was the
particular fact situation which the Court was faced with in Gannon Dunkerley
and which the Court had held was not a sale. The effect in law of a transfer of
property in goods involved in the execution of the works contract was by this
amendment deemed to be a sale. To that extent the decision in Gannon Dunkerley
was directly overcome. Clause (c) deals with hire purchase where the title to
the goods is not transferred. Yet by fiction of law, it is treated as a sale.
Similarly the title to the goods under Clause (d) remains with the transferor
who only transfers the right to use the goods to the purchaser. In other words,
contrary to A.V. Meiyappan’s decision a lease of a negative print of a picture
would be a sale. Clause (e) covers cases which in law may not have amounted to
sale because the member of an incorporated association would have in a sense
begun both the supplier and the recipient of the supply of goods. Now such
transactions are deemed sales. Clause (f) pertains to contracts which had been
held not to amount to sale in State of Punjab vs. M/s. Associated Hotels of India
Ltd. (supra). That decision has by this clause been effectively legislatively
invalidated.

40. All the clauses of Article 366(29A)
serve to bring transactions where one or more of the essential ingredients of a
sale as defined in the Sale of Goods Act, 1930 are absent, within the ambit of
purchase and sales for the purposes of levy of sales tax. To this extent only
is the principle enunciated in Gannon Dunkerly limited. The amendment
especially allows specific composite contracts viz. works contracts [Clause
(b)], hire purchase contracts [Clause (c)], catering contracts [Clause (e)] by
legal fiction to be divisible contracts where the sale element could be
isolated and be subjected to sales tax.

It is clear from the above definition and analysis, that the
following goals get achieved through the amendment:

i. The definition talks of a tax on sale or
purchase of goods to include several things listed therein;

ii. There are three clauses dealing with tax on
transfer (clauses a, b and d), one clause dealing with tax on delivery (clause
d) and two clauses dealing with tax on supply;

iii. All the clauses deal with goods only;

iv. Further, the clause states that such transfer,
delivery and supply shall be deemed to be a sale or purchase of goods.

GST scenario

In the GST scenario, there are two principal legislations
dealing with tax on supply of goods or services – the Central GST Act, 2017 and
the State GST Act, 2017. It would be noted that the IGST Act, 2017 deals with
interstate supplies and imports. We take the CGST 2017 for analysis for the
sake of convenience and as this has been replicated by all states, it will hold
equally valid. Supply is defined in section 7 to include all forms of supply
of goods or services or both such as sale, transfer, barter, exchange, licence,
rental, lease or disposal made for a consideration in the course or furtherance
of business. Thus, the terminology supply includes sale of goods.

If we look further into section 7(1)(d), supply includes
activities to be treated as supply of goods or supply of services as referred
to in Schedule II. Schedule II attempts to classify what would be termed as
supply of goods and what is termed supply of services.

A close look at Schedule II would reveal the general theme
that transfer of title in goods will be classified as supply of goods and
transfer of other rights in goods would be classified as supply of services.
Further, transactions covered by clauses (b), (c), (d), and (f) of Article
366(29a) are classified as services while transactions covered by clause (e) is
covered as supply of goods. In effect therefore, works contract, hire
purchase transactions and transfer of right to use goods apart from goods
supplied in restaurant/hotels are classified now as supply of services and not
supply of goods.

Does this conflict with Article 366(29a)?

There are no two opinions about this that tax on works
contract, hire purchase and transfer of right to use goods apart from food
supplied in restaurants were and are treated as sale and purchase of goods by
virtue of the deeming fiction appearing in Article 366(29a) of the
Constitution. Therefore, to this extent the transactions being covered by
Schedule II are termed as services are seemingly in direct conflict with the
above constitutional provisions. Therefore, one has to find whether we can
harmonise Article 366(26A) which deals with tax on goods and services vis-a-vis
Article 366(29a) which deals with tax on sale or purchase of goods and deeming
certain transactions to be sale or purchase of goods.

Whether harmonising possible?

If we look at the constitutional provisions, there is no
definition of what is supply. But when we look at the statute, the term supply
is defined to have a wider meaning than the term sale as the latter is included
in the former. Therefore, sale is only a sub-sect of supply which includes
several other things. Can a statute be used to interpret the meaning of the
terms in the Constitution? Is such recourse possible? One argument is that the
term “sale” appearing in the Constitution was so interpreted by the Supreme
Court to be what was being used under a legislation. The summary of this
discussion is found in BSNL case supra which is reproduced hereunder:

To answer the questions formulated by us, it is necessary
to delve briefly into the legal history of Art. 366(29A). Prior to the 46th
Amendment, composite contracts such as works contracts, hire-purchase contacts
and catering contracts were not assessable as contracts for sale of goods. The
locus classicus holding the field was State of Madras vs. Gannon Dunkerley
& Co. – IX STC 353 (SC). There this Court held that the words “sale of
goods” in Entry 48 of List II, Schedule VII to the Government of India Act,
1935 did not cover the sale sought to be taxed by the State Government under
the Madras General Sales Tax Act, 1939. The classical concept of sale was held
to apply to the entry in the legislative list in that there had to be three
essential components to constitute a transaction of sale – namely, (i) an
agreement to transfer title, (ii) supported by consideration, and (iii) an
actual transfer of title in the goods. In the absence of any one of these
elements it was held that there was no sale. Therefore, a contract under which
a contractor agreed to set up a building would not be a contract for sale. It
was one contract, entire and indivisible and there was no separate agreement
for sale of goods justifying the levy of sales tax by the provincial
legislatures. “Under the law, therefore, there cannot be an agreement relating
to one kind of property and a sale as regards another”. Parties could have
provided for two independent agreements, one relating to the labour and work
involved in the execution of the work and erection of the building and the
second relating to the sale of the material used in the building in which case
the latter would be an agreement to sell and the supply of materials
thereunder, a sale. Where there was no such separation, the contract was a
composite one. It was not classifiable as a sale. The Court accepted the
submission of the assessee that the expression “sale of goods” was, at the time
when the Government of India Act, 1935 was enacted, a term of well recognized
legal import in the general law relating to sale of goods and must be
interpreted in Entry 48 in List II of Schedule VII of the 1935 Act as having
the same meaning as in the Sale of Goods Act, 1930. According to this decision
if the words “sale of goods” have to be interpreted in their legal sense, that
sense can only be what it has in the law relating to sale of goods. To use the
language of the Court :

“To sum up, the expression “sale of goods” in Entry 48 is
a nomen juris, its essential ingredients being an agreement to sell movables
for a price and property passing therein pursuant to that agreement. In a
building contract which is, as in the present case, one, entire and indivisible
– and that is its norm, there is no sale of goods, and it is not within the
competence of the Provincial Legislature under Entry 48 to impose a tax on the
supply of the materials used in such a contract treating it as a sale”.

34. Following the ratio in Gannon Dunkerley,
that “sale” in Entry 48 must be construed as having the same meaning which it
has in the Sale of Goods Act, 1930, this Court as well as the High Courts held
that several composite transactions in which there was an element of sale were
not liable to sales tax.

One could also view that actually the Gannon Dunkerly
decision to treat sale in the context of how the Government of India Act, 1935
had viewed it and as our Lists in VII Schedule were more or less reproductions,
it was to be interpreted keeping in mind what was the meaning in the earlier
legislation which was parallel to our constitutional provisions and therefore,
the Supreme Court has actually not subordinated the Constitution to the
statute. However, the BSNL’s case (supra) does not follow this argument
as also other Courts and have consistently interpreted the Gannon Dunkerly
judgement that the terms used in the constitution have been interpreted keeping
in mind the legislation present at that time.

If this argument be accepted, then clearly, the CGST Act 2017
can be used to refer to the meaning of the term supply which is conspicuous by
its absence in the Constitution. So read, sale is a sub-sect of supply as
supply will include other forms like transfer, barter, lease, rental, etc.
apart from sale. Therefore, Article 366(29a) is now a sub-sect of Article
366(26A) which seems to be plausible but flawed in one clear sense – the
sub-sect was introduced before the sect itself. But we assume here that the
makers wanted to so do as they were introducing a tax on a wider system of
supply than the narrow system of sale. If we do not treat the same as a sub
sect, then the two clauses are independent and the GST legislations will
clearly suffer from the vice of unconstitutionality in that respect.

Harmonising will still not save

Assuming for a moment that the clause is a sub-sect of
supply, still the challenge to the provisions contained in schedule II will
hold good because to the extent those clauses treat the transactions as supply
of services, they are still in conflict with the express provisions of Article 366(29a).

One other argument which can be thought of is that Article
366(29a) was retained in the Constitution for a specific reason that those
transactions which were entered into prior to 1.7.2017 when the GST
legislations were brought into force would still be protected for realisations
made after 1.7.2017. To put it simply, suppose you entered into a lease
transaction before 1.7.2017 which amounted to a transfer of right to use goods
and was treated as supply of goods earlier, the instalments that are realised
after 1.7.2017 could still be collected as the Constitutional mechanism is
still intact. However, this would lead us to a very paradoxical position. If
those transactions are covered still as tax on sale or purchase of goods, the
new levy of GST cannot be applied at all. In fact, that is clearly the
situation. For example, if I entered into a car lease on 1.4.2017, the
transaction would have been taxed as a sale of goods under the respective VAT
legislations and VAT has to be discharged every time the lease rentals are
invoiced. Similar would be cases of transfer of rights to use other goods like
machinery. Come 1.7.2017, the car lease rentals are described as services and
taxed at a rate of 43% or other transfers of right to use are now taxed under
GST as services. Can the recovery of instalments be taxed under GST where the
delivery or transfer of right to use is already complete prior to 1.7.2017 when
GST was introduced? The answer is a clear no and therefore, to charge GST on
such transactions may be beyond the statute itself, leave alone the
constitution. This is because, there is no supply under GST and the transfer of
right to use or delivery of goods has already occurred before the GST
legislation came into force. Even section 142(10) of the CGST Act, 2017 will
apply where in a continuing contract the supply is made after 1.7.2017.

That would mean that those collections have to be done under
the old VAT laws which now stand repealed. By virtue of section 174 of the CGST
Act, 2017 or section 173/174 of the Karnataka GST Act 2017 read with section 6
of the General Clauses Act, 1897 can it be said that the previous liability
will still continue under such Acts, in which case, till those transactions
conclude, the respective liability continues. However, it can be equally argued
that liability to pay tax occurs every month on lease rentals and unless the
legislation is in force, there is no liability to pay at all and my previous
liabilities are completely discharged.

Conclusion

Therefore, it appears that the provisions
relating to schedule II of the CGST Act, 2017 or the respective state
legislations trying to tax certain transactions as supply of services are in
direct conflict with the constitutional provisions. There seems to be a further
dilemma that certain completed transactions cannot be brought to tax under the
new GST regime. This is an area which is likely to be explored by the discerning
professionals.

shailesh.kwebmaker

Input Tax Credit – Some Emerging Issues

1. Fundamentals and basic rules

1.1. At the heart of an efficient indirect tax is a flawless Input Tax Credit (“ITC”) mechanism, that allows a business to claim offset of taxes paid on expenses at the time of discharging liability of taxes collected from customers. If the tax offset, also known as ITC is not allowed freely to the businesses, it results in tax inefficiencies in the form of tax on tax. In fact, one of the most important justifications for introduction of GST has been the seamless flow of credit.

1.2. The GST law in general allows registered businesses to avail ITC of taxes paid on inputs / input services / capital goods which are used or intended to be used in the course or furtherance of business, subject to certain restrictions and conditions.

1.3. This article primarily covers the aspect relating to ITC entitlement, conditions for claim of credit, conditions and restrictions imposed for claim of credit and some teething issues towards credit claim. Chapter V of the CGST Act, 2017 as well as Chapter V of the CGST Rules, 2017 deal with the provisions relating to ITC.

2. ITC Entitlement – General Conditions

2.1.    Section 16 (1) of the CGST Act, 2017 provides that every registered person shall be entitled to take credit of input tax charged on supply of goods or services or both, which are used / intended to be used in the course or furtherance of his business and the said amount shall be credited to the electronic credit ledger of such person. Section 16(2) stipulates further conditions which need to be satisfied for the claim of credit and the same are listed below:
–    The registered person should be in possession of tax invoice / debit note issued by registered supplier or other tax paying documents
–    The registered person should have received goods / services
–    The tax charged on the invoice should have been actually paid to the Government
–    The recipient should have furnished his return
–    The recipient should have paid the supplier of goods / services the amount due towards the supply received (including taxes) within 180 days
–    The credit should not be blocked under Section 17(5).

2.2. As can be seen from above, there are various conditions prescribed under GST for claiming ITC, and they revolve around different pillars of compliances, from the view point of recipient (being a registered person, should have received the supply), compliances by both the parties (pre & post supply in the form of payment of taxes by the supplier, making correct disclosures relating to the supply by the supplier, filing the return by the recipient, intended use of the supply – business vs. non-business, etc.) and nature of supply (restricted credit vs. unrestricted credits).

2.3. Each of the above aspects are discussed in the subsequent paras.

3. Identifying Recipient of supply

3.1. As discussed above, one of the important conditions for claiming the ITC is that the registered person should have received the goods or services. In many cases, the payment for a supply may be made by one person but the economic benefit of the supply can be received by another person. Take the case of a Customs House Agent (CHA) paying for the warehousing charges at the Container Freight Station (CFS). Can it be said that the CHA has received the service and is therefore entitled for input tax credit?

3.2. In the above background, it becomes essential to define what is meant by the phrase “recipient of supply”. Section 2 (93) defines the term “recipient of supply” in the context of goods / services / both as:

    (93) “recipient” of supply of goods or services or both, means—
    (a) where a consideration is payable for the supply of goods or services or both, the person who is liable to pay that consideration;
    (b) where no consideration is payable for the supply of goods, the person to whom the goods are delivered or made available, or to whom possession or use of the goods is given or made available; and
    (c) where no consideration is payable for the supply of a service, the person to whom the service is rendered,    and any reference to a person to whom a supply is made shall be construed as a reference to the recipient of the supply and shall include an agent acting as such on behalf of the recipient in relation to the goods or services or both supplied;

3.3. The CHA operates out of customs port and facilitates number of activities pertaining to import / export of goods, such as dealing with the shipping line, CFS, loading / unloading of goods in to the vessel, paying port charges, etc. The key to the entire analysis would be whether the CHA is liable to pay the consideration to the underlying vendor. The actual fact of paying the consideration may not be relevant. Therefore, it may be important to look at the contracts. In many cases, the contracts may be verbal or implied. In such a scenario, the invoice can be the best indicator of the contracting relationship.

3.4. Practically, the vendors may enter into contracts/issue the invoices in the following manner:

a. Contracts entered into with/ Invoices issued in the name of the Importer / Exporter. In such a scenario, the CHA merely acts as an agent. However, payment to the vendors is done by the CHA which is subsequently recovered from importer / exporter.

In this scenario, the vendors have recognised the importer / exporter as the recipient of supply and hence they will have to be treated as the recipient and the credit can be claimed only by the importer / exporter and not by the CHA.

b. Contracts entered into with / Invoices issued in the name of CHA. In this scenario, since the person liable to pay the consideration to the underlying vendor is the CHA, the +CHA can be considered as a recipient of supply. It may be important to note that the definition of recipient also includes an agent acting on behalf of the recipient. In this scenario, the vendors have treated the CHA as the person liable for payment of consideration, i.e., recipient of supply. The CHA can claim the credit of the taxes which have been posted into their Electronic Credit Ledger by the respective vendors. It is however, important to note that in such cases, the CHA will not be able to claim the amount as reimbursement of expenditure and he should treat the expenditure incurred by him as inward supplies for providing the outward supply to the importer / exporter.

c. Issued in the name of CHA who claims the reimbursement of expenses from client as pure agent

In the above scenario, if the CHA chooses to claim the benefit of reimbursement of expenses and consequent exclusion from valuation of taxable services, in view of the Mumbai High Court decision in the case of Ultratech Cement Limited 2010 (20) S.T.R. 577 (Bom.), the CHA will not be eligible for the claim of credit.

In fact this will result in an incremental cost for the importer / exporter with no actual benefit flowing in to either the CHA / importer / exporter by way of tax credits.

4. Denial of credit for non-possession of original tax invoices

– Section 16 (2) (a) provides that the person claiming the ITC should be in possession of tax invoice / debit note issued by the supplier for claiming the credit.

– The question that arises is whether the receiver should be in possession of the original tax invoice for claiming credit or photo-copy or scanned copy of the invoice shall also suffice.
– In this context, it would be important to refer to the provisions of section 145 of the Act, wherein it has been provided that a micro film of a document or the reproduction of the image or images embodied in such micro film (whether enlarged or not); or a facsimile copy of a document; or a statement contained in a document and included in a printed material produced by a computer, subject to such conditions as may be prescribed; or any information stored electronically in any device or media, including any hard copies made of such information, shall be deemed to be a document for the purposes of this Act and the rules made thereunder and shall be admissible in any proceedings thereunder, without further proof or production of the original, as evidence of any contents of the original or of any fact stated therein of which direct evidence would be admissible.

5. Failure to make payment to vendor for the supply received including taxes

– Second proviso to section 16 (2) provides that in case where a receiver of supply fails to make the payment to the supplier for the value of supply (incl. GST charged) within 180 days of the date of invoice, he shall be liable to reverse the ITC claimed initially along with the interest thereon.

– Similarly, the third proviso to section 16 (2) provides that when the receiver of supply makes payment to the vendor post reversal of credit in accordance with the provision of second proviso, he shall be entitled to re-claim the credit of the tax reversed in terms of second proviso.

– One important issue that arises is whether credit reversal would be required in case of part payments made to suppliers, and if yes, whether to the extent of entire supply or only to the extent payment is not made? It is imperative to note that the proviso to section 16 (2) referred above is silent in this regard. The proviso only requires for reversal of ITC, but is silent as to what extent the reversal shall be necessitated?

– While there is no clarification for these issue, either from the CBEC / State Authorities, under the erstwhile service tax regime, in the context of Rule 4 (7) of the CENVAT Credit Rules, 2004, (which is a similar provision as the proviso to section 16 (2)), the Board had clarified1 as under:
_____________________________________________________________
1 Circular No. 122/3/2010-S.T., dated 30-4-2010

(b) In the cases where the receiver of service reduces the amount mentioned in the invoice/bill/challan and makes discounted payment, then it should be taken as final payment towards the provision of service. The mere fact that finally settled amount is less than the amount shown in the invoice does not alter the fact that service charges have been paid and thus the service receiver is entitled to take credit provided he has also paid the amount of service tax, (whether proportionately reduced or the original amount) to the service provider. The invoice would in fact stand amended to that extent. The credit taken would be equivalent to the amount that is paid as service tax. However, in case of subsequent refund or extra payment of service tax, the credit would also be altered accordingly.

– Similar issue is also faced by the Infrastructure Sector, especially contractors / sub-contractors where there is a concept of retention money, i.e., amount reduced from invoices raised by the suppliers by terming them as “retention money” and subsequent payment as per contractual terms. It is obvious that the amount is contractually due after more than 180 days and hence the payment would actually be made after the period of more than 180 days. Will the requirement of reversal of credit trigger in such situations? It may be fruitful to reproduce the exact provision requiring the reversal of credit

Provided further that where a recipient fails to pay to the supplier of goods or services or both, other than the supplies on which tax is payable on reverse charge basis, the amount towards the value of supply along with tax payable thereon within a period of one hundred and eighty days from the date of issue of invoice by the supplier, an amount equal to the input tax credit availed by the recipient shall be added to his output tax liability, along with interest thereon, in such manner as may be prescribed

– It is important to note that the provision obligating the reversal of credit gets triggered when the recipient fails to pay. The phrase “fails to pay” is a specific incident and gets triggered only in situations when there is an obligation to pay. Since the recipient is not obligated to pay the retention money within a period of 180 days, it cannot be said that he has failed to pay the retention money and hence the proviso is not triggered.

6. Process for claiming Input Tax Credit

6.1. Section 16 (1) provides that every registered person shall be entitled to take ITC of inward supplies received for use / intended use in the course or furtherance of business, the same comes with the caveat “subject to conditions and restrictions as may be prescribed”.

6.2. Out of this pool of input tax credit, there are various restrictions imposed on the taxable persons from claiming the input tax credit. It may be important to note that even under the Service Tax / VAT regime, Rule 6 of the CENVAT Credit Rules (including Rule 2 (a), (k) & (l)) as well as Rule 53/ 54 of the Maharashtra Value Added Tax Rules provided for similar conditions / restrictions on the claim of input tax credit.

6.3. Similar conditions and restrictions are contained under CGST Act, 2017 in the provisions of Section 17 read with Rule 43 of the CGST Rules, 2017. The ITC attributable to total inward supplies received by a registered person, on which ITC has been charged by the supplier as well as transactions where the ITC is applicable under reverse charge mechanism has been classified as “T” for the purpose of determining eligibility.

6.4. The total ITC is subsequently segregated into multiple baskets, as is evident from the following chart and discussed in detail in subsequent paras:

6.5. Credit pertaining exclusively to non-business / exempt activities

6.5.1.The first two baskets of segregation of “T” deals with situation wherein inputs / input services are used partly for the purpose of business and partly for other purposes OR partly for affecting taxable supplies and partly for exempt supplies and the amount of credit shall be restricted to so much of input tax as is attributable to business purpose OR is attributable to taxable supplies. To the extent the ITC is attributable to non-business purpose, the same is classified as T1 and to the extent the ITC is attributable to exempt supplies, the same is classified as T2.

6.6. Restricted Credits

6.6.1. In addition to above, section 17 (5) provides that ITC shall not be allowed in respect of various expenditure incurred. The inward supplies which are covered u/s. 17 (5) are classified as “T3”. A quick summary of such inward supplies where ITC is restricted include ITC in respect of:

– Motor vehicles & other conveyances
– Specified inward supplies, such as:

a. Food and beverages, outdoor catering, beauty treatment, health services, cosmetic and plastic surgery except where an inward supply of goods or services or both of a particular category is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as an element of a taxable composite or mixed supply;
b. membership of a club, health and fitness centre;

c. rent-a-cab, life insurance and health insurance except where ––

(A) the Government notifies the services which are obligatory for an employer to provide to its employees under any law for the time being in force; or
(B) such inward supply of goods or services or both of a particular category is used by a registered person for making an outward taxable supply of the same category of goods or services or both or as part of a taxable composite or mixed
supply; and

d. travel benefits extended to employees on vacation such as leave or home travel concession;

–    Works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service;
–    Goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business.
–    Goods or services or both on which tax has been paid u/s. 10, i.e., composition scheme.
–    Goods or services or both received by a non-resident taxable person except on goods imported by him;
–    Goods or services or both used for personal consumption;
–    Goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples; and
–    Any tax paid in accordance with the provisions of sections 74, 129 and 130.

6.7. Identified Credits

6.7.1. The fourth basket of segregation is pertaining to inward supplies, which are exclusively used for making taxable supplies, including zero rated supplies. Such ITC is tagged as “T4”. A supplier shall be eligible for full input tax credit to the extent the inward supply is tagged under this basket

6.8. Common Credits

6.8.1. The balance ITC is the quantum of common inward supplies which are used for making both, taxable as well as exempted supplies on which a ratio needs to be applied on a monthly basis. Such ITC is tagged as “C2”. From C2, the amount of ITC attributable towards exempt supplies (“D1”) is identified using the following ratio,

           Aggregate value of exempt
           supplies during the tax period (E)
    ____________________________    *    C2
           Total turnover of the state of the
           registered person during the tax period (F)

6.8.2. The term “exempt supplies” has been defined to mean supply of any goods or services or both which attracts nil rate of tax or which may be wholly exempt from tax u/s. 11, or u/s. 6 of the Integrated Goods and Service Tax Act, and includes non-taxable supply (i.e., supply of goods or services or both which is not leviable to tax under this Act or under Integrated Goods and Service Tax Act).

6.8.3.    Value of Exempt Supply shall include the following:
–    Transaction Value of all the exempt supplies
–    Transaction Value of services on which tax is payable under RCM
–    Sale of Land/ Completed Buildings
–    Sale of Securities – 1% of sale value is presumed to be the value of exempted supply.

6.8.4. A banking company or a financial institution including a non-banking financial company has been given an option to either comply with the ratio requirement or avail only 50% of the eligible ITC on inputs, capital goods and input services in that month. However, such companies shall be required to exercise the option every year and once the option is exercised, the same cannot be withdrawn during the remaining part of the financial year. Further, the 50% credit claim option is not applicable for internal supplies within the company on which tax is payable.

6.8.5.While under the erstwhile Service Tax Regime, the ratio for reversal of credit was to be determined as per the financials of the previous year, to be applied throughout the year and subsequently, requiring a final ratio to be determined based on the financials of the concluded year by the 30th June, the method has been changed to some extent under the GST regime. Under GST, the ratio shall be required to be determined & applied on a monthly basis and subsequently, at the end of the year, a final ratio shall be determined and applied on or before 30th September of the next financial year.

6.9. Additional 5% adhoc reversal for common input tax credits

6.9.1. Further, an additional reversal of 5% is proposed from C2 in cases where common inputs / input services are used for business as well as non-business purposes, and the same is denoted as D2 for the purpose of ITC calculations. It is important to note that the additional 5% reversal is required only in cases where a registered taxable person uses some inputs / input services for both, business as well as non-business purposes and not in cases where it is used for purely business purposes.

6.9.2.Therefore, the question that arises is whether this clause is meant to be applicable for all categories of taxable persons or only for specified categories? Perhaps, this entry is meant to cover situations of sole-proprietary / partnership firms / HUF where there is always an element of personal expenditure incurred by the sole proprietor / partners / members being claimed as expenditure. While in the case of a company, while such instances cannot be ruled out, it is important to note that the Statutory Auditors are required to compulsorily disclose the personal expenditure of specified persons booked in the books of the company? So, the question that arises is what shall be the basis for determining the amount for D2 purpose. Has it to be the Income Tax Assessment Order making disallowance u/s. 37 for personal expenditure or has it to be the report of statutory auditor making such disclosures or is it something that has to be at the mercy of GST officer?

6.10. Credit in case of capital goods identified as being used for effecting taxable supplies is allowed immediately which is a departure from the earlier tax regime wherein credit of capital goods was to be claimed in two equal installments in the first two years. However, more complex provisions for reversal of ITC on capital goods have been prescribed. It has been provided that the claim of ITC on capital goods shall be distributed over a period of 60 months and credit should be availed every year basis the ratio determined on a monthly basis for a period of 60 months.

7. Credit Claim – Some controversies

7.1. Credit of ITC in respect of motor vehicles & conveyances

– As stated earlier, section 17(5), inter alia, does not permit the claim of credit in respect of motor vehicles. In this context, a question which arises is whether taxes paid on repairs and insurance of motor vehicles are eligible for input credit. Is the denial of credit only for procurement of motor vehicles as such or does the denial extend to all goods and services surrounding the effective consumption of the motor vehicle?

– In this context, it would be important to refer to the decision of the Hon’ble Supreme Court in the case of State of Madras vs. Swastik Tobacco Factory (1966) 3 SCR 79 (SC) wherein it was held that the expression “in respect of the goods” in r. 5(1)(i) means only on the goods, and cannot take in the raw material out of which the goods were made.

– Taking cue from the said decision, a view can be taken that the restriction for claim of credit is only restricted to receipt of motor vehicles and not other goods or services surrounding the motor vehicles. Therefore, a view can be taken that motor car insurance and repairs shall be eligible for credit under the GST Regime.
7.2. Distinction between rent-a-cab and leasing of vehicles and eligibility to claim credit thereof

– While the term rent-a-cab has not been defined under GST, the term cab has generally been perceived as a vehicle used for hiring purposes and is accordingly registered with the Transport Authorities as well. But the same cannot be said for leasing transactions, where the motor car given on lease is actually not registered with the Transport Authorities as a commercial vehicle and hence, the leasing of such vehicles, which in itself might be a commercial activity, cannot be classified as rent-a-cab.

– It may also be important to note that services of transportation of passengers attract GST at a rate of 5% / 18% while the leasing of goods attract the rate applicable on supply of such GST including the compensation cess thereof. The fact that there is a distinction of rate between the services of transportation of passengers in a cab, which is covered under rent-a-cab category and leasing of vehicles clearly reinforce the view that the credit of tax paid on leasing of vehicles can be claimed as the same is not equivalent to rent-a-cab.

7.3. Employee reimbursements – Credit Eligibility

7.3.1.An employee, as an agent of the company, who apart from working for the company and making various supplies on behalf of the company, also receives various supplies on behalf of the company in the course of his employment. Such supplies received might be in the nature of supplies meant for personal consumption of the employee or for the business purposes.

7.3.2.For example, an engineer visits a site and purchases various consumable items for use in provision of service to the client. The question that arises is whether the company shall be entitled to claim credit of such taxes, that would have been paid to the vendors?

7.3.3.It is more than evident that such consumable items are procured by the engineer for the company. The immediate consumption and use of such items is by the company and not by the engineer. Therefore the credit should be available to the company. However, it would be important that the invoice be issued in the name of the company and the credit is uploaded by the vendor in the company’s electronic credit ledger.

8. Conclusion:

8.1. The industry would have hoped that the ITC provisions under the GST regime would be less complicated as compared to the provisions under the erstwhile tax regime. However, the expectations have not materialised and the above complex provisions, if not complied in an organised manner, might result in future litigation as well as probable loss of credit for businesses. Therefore, businesses will have to be very careful while filing their monthly compliances relating to inward supplies register, tagging the inward supplies as either T1-T4 and C2 as well as calculating the ratios.

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Section 2 (22)(e) – Amount contributed by a company, in which assessee is substantially interested, towards capital contribution in a firm in which such company and the assessee is a partner, cannot be regarded as dividend in the hands of the assessee, though the capital contribution by the company was disproportionate to its profit sharing ratio.

17. Lala Mohan
Ramchand vs. ITO (Mumbai)

Members : G. S. Pannu (AM) and Ravish Sood (JM)

ITA No. 5778/Mum/2012

A.Y.: 2006-07.
Date of Order: 14^thJune, 2017.

Counsel for assessee / revenue: Hiro Rai / Durga Dutt

FACTS

The assessee was holding 25.5% of share capital of M/s Elite
Housing Development Pvt. Ltd. (EHDPL) and was also a partner in M/s Elite
Corporation with 37.5% share in profits. EHDPL was also a partner in M/s Elite
Corporation (“the firm”) and was having 5% share in profits of the firm.

In the course of reassessment proceedings, the Assessing
Officer (AO) observed that EHDPL was having accumulated profit of Rs.
1,07,11,103 had made an investment of Rs. 73,75,221 in the firm, which
investment according to him was substantially excessive as compared to the
share of profits of EHDPL in the firm. Since the assessee had 37.5% share in
profits of the firm, the firm was characterised by the AO as an eligible
‘concern’ u/s. 2(22)(e) of the Act. The AO had a strong conviction that EHDPL
in the garb of `capital contribution’ had made available its accumulated
profits to the firm and he therefore called upon the assessee to show cause as
to why the investment of Rs. 73,75,221 made by EHDPL in the firm, of which
investment of Rs. 3,00,000 was made during the year under consideration, may
not be assessed as `deemed dividend’ in his hands. The assessee submitted that
EHDPL in its status as a partner of the said firm, had invested an amount of
Rs. 3 lakh on 1.4.2005 by way of its capital contribution and had neither given
any loan or advance to the firm nor the said amount was paid on behalf of the
individual benefit of the assessee, and therefore the provisions of section
2(22)(e) were not applicable. The AO rejected the submissions of the assessee
and assessed the sum of Rs. 3 lakh invested by EHDPL with the said firm as
deemed dividend in the hands of the assessee.

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

Aggrieved, the assessee preferred an appeal to the Tribunal.

HELD

The Tribunal observed that now when it is alleged by the
revenue that the `capital contribution’ by EHDPL as a partner with M/s Elite
Corporation is a farce, then it is for the revenue to establish on the basis of
irrebuttable material that what is apparent is not real and thus dislodge and
disprove the claim of the assessee by proving to the contrary.

The Tribunal concurred with the submissions made on behalf of
the assessee viz. that there is no provision in the Indian Partnership Act,
1932, which therein contemplates that the partners’ `capital contributions’ in
the firm is required to be in proportion of their profit sharing ratios. It
held that in the absence of any such embargo on the capital contributions by
the partners having been placed on the statute, it was not persuaded to
subscribe to the adverse inferences drawn by lower authorities, who the
Tribunal found had observed that the substantial contribution by EHDPL as a
partner in the said firm when pitted against the latter’s meagre 5% share in
profit of the said firm was not found to be justifiable. It found merit in the
reasons furnished on behalf of the assessee as to why the capital contribution
by the partners in the firm was mentioned in clause 6 of the partnership deed
at Rs. 25 lakh. It held that it would be absolutely illogical and rather
impossible to expect that EHDPL could have managed to freeze its capital in the
firm at Rs. 25 lakh or any other figure, even if it would have resolved not to
introduce any fresh capital in the firm or withdraw any part of the same. The
Tribunal held that `capital contribution’ by a partner in a firm is differently
placed as against a loan or an advance to the firm. Loans and advances given by
a partner to the firm are substantially different from their `capital
contributions’. It observed that a perusal of section 48 of the Indian
Partnership Act, 1932 which contemplates the mode of settlement of the accounts
of the partners in the case of dissolution of a firm, in itself categorises the
same under different clauses. The Tribunal held that in the backdrop of
substantial turnover and income offered for tax by the firm, viz. Elite
Corporation, it would be incorrect to hold that the same was a dummy concern
which had been brought into existence with the intent to bypass the deeming
provisions contemplated u/s. 2(22)(e) of the Act. It observed that the funds
introduced by EHDPL by way of its capital contribution were utilised by the
firm in the normal course of its business and were not utilised for the
personal benefit of the assessee. It held that this fact supplements and
supports its view that the capital introduced by EHDPL as a partner in the said
firm cannot be characterised as `deemed dividend’ in the hands of the assessee.
The Tribunal set aside the order of CIT(A).

The appeal filed by the assessee was allowed.

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Assessment – Disallowance/addition on the basis of statement of third party – Reliance on statements of third party without giving the assessee the right of cross-examination results in breach of principles of natural justice

M/s. R. W. Promotions P. Ltd. vs. ACIT (Bom), ITA No. 1489 of 2013 dated 13/07/2015 -www.itatonline.org:

The
assessee was engaged in the business of advertisement, market research
and business promotions for its clients. In the A. Y. 2007-08, the
assessee had engaged services of M/s. Inorbit Advertising and Marketing
Services P. Ltd. (Inorbit) and M/s. Nupur Management Consultancy P. Ltd.
(Nupur) to enable them to carry out promotional and advertisement
activities. The amount of Rs. 1.15 crore paid to them was claimed as
expenditure. The Assessing Officer reopened the assessment to disallow
the claim on the basis of the statements of representatives of Inorbit
and Nupur. The assessee requested for the copies of the statements and
also requested for an opportunity of cross examining the deponents. The
Assessing Officer completed the assessment disallowing the expenditure
of Rs. 1.15 crore without giving the opportunity to cross examine the
deponents.

The Tribunal upheld the disallowance. The Tribunal
held that it is a final fact finding authority and it could direct cross
examination in case it felt that material relied upon by the Assessing
Officer to disallow expenses was required to be subject to the cross
examination. It held that denial of cross examination of the
representatives of Inorbit and Nupur had not led to breach of the
principle of natural justice.

On appeal by the assessee, the Bombay High Court held as under:
“i)
We find that there has been breach of principle of natural justice in
as much as the Assessing Officer has in his order placed reliance upon
the statements of representatives of Inorbit and Nupur to come to the
conclusion that the claim for expenditure made by the appallent is not
genuine. Thus, the appellant was entitled to cross examine them before
any reliance could be placed upon them to the extent it is adverse to
the appellant. This right to cross examine is a part of “audi altrem
partem” principle and the same can be denied only on strong reason to be
recorded and communicated.

ii) The impugned order holding that
it would have directed cross examination if it felt it was necessary, is
hardly a reason in support of coming to the conclusion that no cross
examination was called for in the present facts. This reason itself
makes the impugned order vulnerable.

iii) Moreover, in the
present facts, the appellant had also filed affidavits of the
representatives of Inorbit and Nupur which indicates that they had
received payments from the appellant for rendering services to the
appellant. These affidavits also have not been taken into account by any
authority including the Tribunal while upholding the disallowance of
the expenditure.

iv) Thus, the appellant was not given an
opportunity to cross examine the witnesses whose statement is relied
upon by the revenue and the evidence led by the appellant has not been
considered. Therefore, clearly a breach of principle of natural justice.
In view of the above, we set aside the order of the Tribunal and
restore the issue to the Assessing Officer for fresh disposal after
following the principles of natural justice and in accordance with law.”

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Settlement of cases – Provision for abatement of proceedings – The Supreme Court agreed with the High Court which read down the provision of section 245HA(1)(iv) to mean that only in the event the application could not be disposed of for any reason attributable on the part of the applicant who has made an application u/s. 245C by cut-off date the proceeding would abate

UOI vs. Star Television News Ltd. (2015) 373 ITR 528 (SC)

In all
the special leave petitions filed by the Union of India, before the
Supreme Court, the correctness of judgment dated 07.08.2009 rendered by
the Bombay High Court in a batch of writ petitions was questioned. In
those writ petitions filed by various assessees, the validity of
Sections 245 HA(1)(iv) and 245HA(3) of the Income-tax Act, 1961, as
amended by Finance Act, 2007 was challenged. The High Court, by a
detailed judgment, found the aforesaid provisions to be violative of
Article 14, etc., but at the same time, it did not invalidate these
provisions as the High Court was of the opinion that it was possible to
read down the provisions of Section 245HA(1)(iv) in particular to avoid
holding the provisions as unconstitutional. The conclusion so arrived at
was summed up in paragraph 54 of the impugned judgment, which read as
under:

“54. From the above discussion having arrived at a
conclusion that fixing the cut-off date as 31st March, 2008 was
arbitrary the provisions of Section 245HA(1)(iv) to that extent will be
also arbitrary. We have also held that it is possible to read down the
provisions of Section 245HA(1)(iv) in the manner set out earlier. This
recourse has been taken in order to avoid holding the provisions as
unconstitutional. Having so read, we would have to read section
245HA(1)(iv) to mean that in the event the application could not be
disposed of for any reasons attributable on the part of the applicant
who has made an application u/s. 245C. Consequently only such
proceedings would abate u/s. 245HA(1)(iv). Considering the above, the
Settlement Commission to consider whether the proceedings had been
delayed on account of any reasons attributable on the part of the
Applicant. If it comes to the conclusion that it was not so, then to
proceed with the application as if not abated. Respondent No.1 if
desirous of early disposal of the pending applications, to consider the
appointment of more Benches of the Settlement Commission, more so as the
Benches where there is heavy pendency like Delhi and Mumbai.”

The
Supreme Court was of the opinion that a well-considered judgment of the
High Court did not call for any interference. All these special leave
petitions and the appeals were accordingly dismissed by the Supreme
Court.

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Reassessment – Notice – There is no question of change of opinion when the return is accepted u/s. 143(1) inasmuch as while accepting the return as aforesaid no opinion is formed.

DCIT vs. Zuari Estate Development and Investment Co. Ltd. (2015) 373 ITR 661 (SC)

The income-tax return filed by the respondent-assessee for the assessment year 1991-92 was accepted u/s. 143(1) of the Income-tax Act, 1961. After sometime, the Assessing Officer came to know that there was a sale agreement dated June 19,1984, entered into between the respondent and Bank of Maharashtra to sell a building for Rs.85,40,800 on the condition that the sale would be completed only after the five years of the agreement but before the expiration of the sixth year at the option of the purchaser and the purchaser can rescind the same at certain consideration. After the bank had paid to the assessee-company on June 20, 1984, the sum of Rs.84,47,111 being 90 % of the consideration agreed upon, the assessee put and handed over possession in part performance of the agreement of sale to the bank on June 20, 1984, itself. By letter dated June 12, 1990, in terms of clause 5 of the agreement of sale dated June 19, 1984, the bank called upon the assessee to complete the transactions and convey the property to the bank by June 18, 1990. By a letter dated June 16, 1993, the assessee confirmed that the assessee-company had put the premises in possession of the bank and that the assessee company would take all necessary steps for transfer of the said premises on or before September 30, 1993. Even after the said date, the assessee was unable to complete the transaction on the pretext that certain dispute had arisen owing to which the assessee did not complete the transaction. The assessee’s accounts for the year 1991 had disclosed the amount of Rs.84,47,112 by it as a current liability under the heading “advance against deferred sale of building”. In the course of assessment proceedings for the assessment year 1994- 95, the Assessing Officer raised a query as to why the capital gains arising on the sale of the premises should not be taxed in the assessment year 1991-92. On this basis, notice dated December 4, 1996, u/s. 143 read with section 147 of the Income-tax Act was served upon the assessee on the ground that the assessee had escaped tax chargeable on its income in the assessment year 1991-92. Challenging the validity of this notice, the respondent preferred a writ petition in the High Court of Bombay. The High Court had allowed the writ petition:

On appeal by the Revenue, the Supreme Court after going through the detailed order passed by the High Court found that the main issue which was involved in this case was not at all addressed by the High Court. A contention was taken by the appellant-Department to the effect that since the assessee’s return was accepted u/s. 143(1) of the Income-tax Act, there was no question of “change of opinion” inasmuch as while accepting the return under the aforesaid provision no opinion was formed and, therefore, on this basis, the notice issued was valid. According to the Supreme Court, this aspect was squarely covered by its judgment in Asst. CIT vs. Rajesh Jhaveri Stock Brokers Private Ltd.[2007] 291 ITR 500 (SC).

The Supreme Court thus held that the judgment of the High Court was erroneous. The Supreme Court allowed the appeal setting aside the impugned judgment of the High Court.

The Supreme Court further found that pursuant to the notice issued u/s. 143 of the Income-tax Act, the Assessing Officer had computed the income by passing the assessment order on the merits and rejecting the contention of the respondent that the aforesaid transaction did not amount to a sale in the assessment year in question. Against the assessment order, the respondent had preferred the appeal before the Commissioner of Income-tax (Appeals) which was also dismissed. Further appeal was preferred before the Income-tax Appellate Tribunal. This appeal, however, had been allowed by the Tribunal, vide order dated January 29, 2004, simply following the impugned judgment of the High Court, whereby the assessment proceedings itself were quashed. Since the Supreme Court had set aside the judgment of the High Court, as a result, the order dated January 29, 2004, passed by the Income-tax Appellate Tribunal also was set aside. The Supreme Court remitted the matter back to the Income-tax Appellate Tribunal to decide the appeal of the respondent on the merits.

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Export – Special Deduction – To avail benefit of section 80HHC, there has to be positive income from export business – section 80HHC

Jeyar Consultant and Investment Pvt. Ltd. vs. CIT (2015) 373 ITR 87 (SC).

The appellant company was engaged in the business of export of marine products and also financial consultancy and trading in equity shares. Its total business did not consist purely of exports but included business within the country.

The Assessing Officer, while dealing with the assessment of the appellant in respect of the assessment year 1989- 90 took the view that the deduction was not allowable on the ground that there was no relationship between the assessee-company and the processors. The appellant carried the said order in appeal. The appeal against the assessment order was dismissed by the Commissioner of Income-tax (Appeals). The Appellant filed an appeal before the Income-tax Appellate Tribunal. The Appellate Tribunal set aside the order of the Assessing Officer and came to a conclusion that the appellant was entitled to full relief u/s. 80HHC and directed the Assessing Officer to grant relief to the assessee.

On remand, the Assessing Officer passed a fresh order giving effect to the orders of the Income-tax Appellate Tribunal. While giving the effect, the Assessing Officer found that the appellate had not earned any profits from the export of marine products and in fact, from the said export business, it had suffered a loss. Therefore, according to the Assessing Officer, as per section 80AB, the deduction u/s. 80HHC could not exceed the amount of income included in the total income. He found that as the income from export of marine products business was in the negative, i.e. there was a loss, the deduction u/s. 80HHC would be nil, even when the assessee was entitled to deduction under the said provision. With this order, the second round of litigation started. The assessee challenged the order passed by the Assessing Officer before the Commissioner (Appeals) contending that the formula which was applied by the Assessing Officer was different from the formula prescribed u/s. 80HHC of the Act and it was also in direct violation of the Central Board of Direct Taxes Circular dated July 5, 1990. The Commissioner (Appeals), however, dismissed the appeal of the assessee principally on the ground that u/s. 246 of the Income-tax Act, an order of the Assessing Officer giving effect to the order of the Incometax Appellate Tribunal is not an appealable order. The assessee approached the Income-tax Appellate Tribunal questioning the validity of the orders passed by the Assessing Officer and the Commissioner (Appeals). The Income-tax Appellate Tribunal also dismissed the appeal of the assessee, and upheld the order of the Assessing Officer. Challenging the order of the Income-tax Appellate Tribunal, the assessee approached the High Court u/s. 256(2) of the Act seeking reference to it. The High Court directed the Income-tax Appellate Tribunal to frame the reference and place the same before the High Court. On this direction of the High Court, the Income-tax Appellate Tribunal referred the following question to the High Court:

“Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the deduction admissible to the assessee u/s. 80HHC is nil?”

The High Court answered this question against the assessee holding that the assessee admittedly had not earned any profits from the export of the marine products. On the other hand, it had suffered a loss. The deduction permissible u/s. 80HHC is only a deduction of the profits of the assessee from the export of the goods or merchandise. By the very terms of section 80HHC, it was clear that the assessee was not entitled to any benefit thereunder in the absence of any profits.

On further appeal by the appellant, the Supreme Court observed that there were two facets of this case which needed to be looked into. In the first instance, it had to consider as to whether the view of the High Court that the deduction was permissible u/s. 80HHC only when there are profits from the exports of the goods or merchandise was correct or it would be open to the assessee to club the income from export business as well as domestic business and even if there were losses in the export business but after setting off those against the income/ profits from the business in India, still there was net profit of the business, the benefit u/s. 80HHC would be available? The second question that would arise was as to whether the formula applied by the fora below was correct? In other words, while applying the formula, what would comprise “total turnover”?

The Supreme Court after considering its decisions in IPCA Laboratories Ltd. vs. DCIT [(2004) 260 ITR 521 (SC)] and A.M. Moosa vs. CIT [(2007) 294 ITR 1 (SC)] held that it stood settled, on the co-joint reading of the above judgments, that where there are losses in the export of one type of good (for example, self-manufactured goods) and profits from the export of other type of goods (for example trading goods) then both are to be clubbed together to arrive at net profits or losses for the purpose of applying the provisions of section 80HHC of the Act. If the net result was loss from the export business, then the deduction under the aforesaid Act is not permissible. As a fortiori, if there is net profit from the export business, after adjusting the losses from one type of export business from other type of export business, the benefit of the said provision would be granted.

The Supreme Court however noted that in both the aforesaid cases, namely, IPCA and A.M. Moosa, the Court was concerned with two business activities, both of which related to export, one from export of self manufactured goods and other in respect of trading goods, i.e., those which are manufactured by others. In other words, the court was concerned only with the income from exports.

The Supreme Court observed that in the present case, however, the fact situation was somewhat different. Here, in so far as the export business was concerned, there were losses. However, the appellate-assessee relied upon section 80HHC(3)(b), as existed at the relevant time, to contend that the profits of the business as a whole, i.e., including profits earned from the goods or merchandise within India should also be taken into consideration. In this manner, even if there were losses in the export business, but profits of indigenous business outweigh those losses and the net result was that there was profit of the business, then the deduction u/s. 80HHC should be given. The Supreme Court held that having regard to the law laid down in IPCA and A.M. Moosa, it could not agree with the appellant. From the scheme of section 80HHC, it was clear that deduction was to be provided under subsection (1) thereof which was “in respect of profits retained for export business”. Therefore, in the first instance, it had to be satisfied that there were profits from the export business. That was the prerequisite as held in IPCA and A.M. Moosa as well. S/s. (3) came into the picture only for the purpose of computation of deduction. For such an eventuality, while computing the “total turnover”, one may apply the formula stated in clause (b) of sub-section (3) of section 80HHC. However, that would not mean that even if there were losses in the export business but the profits in respect of business carried out within India were more than the export losses the benefit u/s. 80HHC would still be available. In the present case, since there were losses in the export business, the question of providing deduction u/s. 80HHC did not arise and as a consequence, there was no question of computation of any such deduction in the manner provided under s/s. (3). The Supreme Court therefore held that the view taken by the High Court was correct on the facts of this case.

With this, according to the Supreme Court there was no need to answer the second facet of the problem as the questi

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Special Leave Petition – Supreme Court refused to entertain the appeal, since the tax effect was nominal and the matter was very old.

CIT vs. Central Bank of India (2015) 373 ITR 524 (SC);
CIT vs. Dhanalakshmi Bank Ltd.(2015) 373 ITR 526 (SC);
CIT vs. Navodaya(2015) 373 ITR 637 (SC); and
CIT vs. Om Prakash Bagadia (HUF)(2015) 373 ITR 670 (SC)

The
Supreme Court refused to entertain the appeals having regard to the
fact that the tax effect was minimal leaving the question of law open.

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Interest from undisclosed sources – In case there has been a double taxation, relief must be accorded to the assessee

Ashish Plastic Industries vs. ACIT [2015] 373 ITR 45(SC)

During the course of survey operation on the assessee, a manufacturer of PVC, excess stock of Rs.13,92,000 was found. On this basis, an addition was made in the assessment order. Before the Commissioner of Incometax (Appeals), the assessee sought to explain this difference by pointing out that sales of 32,809 kgs. of finished products made by one of the sister concerns, namely, Ashish Agro Plast P. Ltd. was wrongly shown as to be that of the assessee. On remand it was found that sales of finished product of 32,809 kgs. as shown is sales register of the sister concern tallied with impounded stock register and that the sister concern had received sales proceeds of the same through the bank accounts prior to the date of survey. It was however further found that sale of 33,682 kgs. of finished goods was nothing but unaccounted sales out of which 32,809 kgs. was made to the aforesaid sister concern. Taking this into consideration, the Commissioner of Income-tax (Appeals) upheld the addition. This order was upheld by the Tribunal and the High Court. The Supreme Court issued a notice on a Special Leave Petition being filed by the assessee limiting to the question as to whether in respect of sales of 32,809 kgs. which were shown in the stock register of Ashish Agro Plast P. Ltd., there had been double taxation. The Supreme Court remanded the case back to the Assessing Officer authority for enabling the assessee to demonstrate as to whether the sister concern had already paid tax on the aforesaid income from the aforesaid sales and directing that, if that was shown, to the extent of tax that was paid, benefit should be accorded to the assessee.

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Wealth-Tax – Company – Exemption – Building used by the assessee as factory for the purpose of its business – Not only the building must be used by the assessee but it must also be for the purpose of its business – Section 40(3)(vi) of the Finance Act, 1983

Kapri International (P) Ltd. vs.CWT [2015] 373 ITR 50(SC)

The assessee company manufactured bed sheets on a property situated at Plot No.39, Site IV, Sahibabad. It’s own subsidiary company, namely, M/s. Dior International Pvt. Ltd., a company under the same management was doing processing work, namely, dyeing, for the assesseecompany in a part of the factory building situated at the aforesaid property. M/s Dior International Pvt. Ltd. installed its own machinery for the said job work of dyeing and that the assessee charged a sum of Rs.20,000 per month as licence fee from M/s. Dior International Pvt. Ltd. The said sum of Rs.20,000 per month charged as licence fee had been claimed by the assessee to be business income. Further, the job work undertaken by M/s. Dior International Pvt. Ltd., though done wholly for the assessee, was nonetheless charged to the assessee’s account and paid for by the assessee. The question that arose on the facts in this case was whether u/s. 40(3)(vi) of the Finance Act, 1983, “the building” was used by the assessee as a factory for the purpose of its business.

The assessing authority for the assessment year 1984- 85 held that the part of the building given to M/s. Dior International Pvt. Ltd., on licence was not being used for the assessee’s own business and, therefore, the assessee was not entitled to exemption in respect of the said part of the Sahibabad building property. On an appeal to the Commissioner of Income Tax (Appeals), agreed with the assessing authority and dismissed the appeal. In a further appeal to the Income-tax Appellate Tribunal, the Tribunal agreed with the view of the authorities below and dismissed the appeal. The High Court of Delhi agreed with the reasoning of the Tribunal.

On further appeal, the Supreme Court held that not only the property must be used by the assessee but it must also be “for the purpose of its business”. According to the Supreme Court on the property, it was clear on the facts that the assessee and M/s. Dior International Pvt. Ltd. were doing their own business and were separately assessed as such. The charging of Rs.20,000 per month as licence fee by the assessee from M/s. Dior International Pvt. Ltd. changed the complexion of the case. Once this was done, the two companies, though under the same management, were treating each other as separate entities. Also, for the job work done by M/s. Dior International Pvt. Ltd., M/s. Dior International Pvt. Ltd. was charging the assessee company and this again established that two companies preserved their individual corporate personalities so far as the present transaction was concerned. The Supreme Court dismissed the appeal, agreeing with the reasoning of the Tribunal, which had found favour with the High Court.

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Glen Williams vs. Assistant Commissioner of Income Tax ITAT “A” Bench : Bangalore Before N. V. Vasudevan (J.M.) and Jason P. Boaz (A. M.) ITA No. 1078/Bang/2014 Assessment Year 2009-10. Decided on 07.08.2015 Counsel for Revenue / Assessee: T. V. Subramanya Bhat / P. Dhivahar

Section 41(1) and 68 – Old liability of sundry creditors remaining unpaid – Since not arising from current year’s transaction not taxable u/s. 68 – Also nothing on record to show remission or cessation of liability hence, not taxable u/s. 41(1)

Facts:
The assessee who is a dealer in sale of bakery and confectionary products, filed his return of income declaring an income of Rs.29.07 lakh. In the course of assessment proceedings, the AO called for confirmations and names and addresses of sundry creditors totalling to Rs.68.59 lakh. The assessee could furnish the names & addresses of 12 creditors out of total 22 creditors. The letters sent u/s. 133(6) to these creditors returned with the endorsement “no such person”, except in the case of one creditor. The assessee explained that the creditors were old creditors and the addresses given were the address available in the records of the assessee and therefore the assessee was not in a position to confirm whether those creditors were residing in that address. The AO was not satisfied with this reply and made an addition of Rs.65.67 lakh. On appeal by the assessee, the CIT(A) confirmed the order of the AO.

Held:
The Tribunal noted that neither the order of the AO nor that of the CIT(A) was clear as to whether the impugned addition made was u/s. 68 or 41(1) of the Act. According to it, the provisions of section 68 will not apply as the balances shown in the creditors’ account did not arise out of any transaction during the previous year relevant to AY 2009-10. As regards the applicability of section 41(1) is concerned, according to it, in the case of the assessee it has to be examined whether by not paying the creditors for a period of four years, the assessee had obtained some benefit in respect of the trading liability allowed in the earlier years. It further observed that the words “remission” and “cessation” are legal terms and have to be interpreted accordingly. Referring to the observations of the Supreme court referred to by the Delhi High Court in CIT vs. Sri Vardhaman Overseas Ltd.(343 ITR 408) viz. “a unilateral action cannot bring about a cessation or remission of the liability because a remission can be granted only by the creditor and a cessation of the liability can only occur either by reason of operation of law or the debtor unequivocally declaring his intention not to honour his liability when payment is demanded by the creditor, or by a contract between the parties, or by discharge of the debt”, the tribunal noted that there was nothing on record or in the order of the AO or the CIT(A) to show that there was either remission or cessation of liability of the assessee. Accordingly, it held that the provisions of section 41(1) of the Act could not be invoked by the Revenue. Therefore, the appeal filed by the assessee was allowed.

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[2015] 69 SOT 25 (Chennai) DCIT vs. Sucram Pharmaceuticals ITA Nos. 804 & 806 (Mds)of 2014 Assessment Years: 2010-11 and 2011-12. Date of Order: 18th August 2014

Sections 80AC, 80IC – For AY 2010-11, where a manual return was furnished before due date while electronic return was filed after due date, provision of section 80AC, so as to claim deduction u/s. 80IC was complied with.

Where without a plausible reason, return of income was not filed before due date, assessee would not be entitled to claim deduction u/s. 80IC.

Facts:
The assessee company filed its return of income, for AY 2010-11, manually in a physical form, on 9th September, 2010. Subsequently, on January 25, 2011 an electronic return was furnished. The assessee had claimed deduction u/s. 80IC of the Act. The Assessing Officer (AO) disallowed Rs. 61,93,667 claimed by the assessee as deduction u/s. 80IC of the Act on the ground that the assessee had failed to file the return of income in electronic mode within due date specified u/s. 139(1) of the Act.

For assessment year 2011-12, the assessee filed its return of income electronically on 12th December, 2011. The assessee had claimed deduction u/s. 80IC. The Assessing Officer disallowed the claim of deduction u/s. 80IC on the ground that the assessee had failed to file the return of income within due date specified u/s. 139(1) of the Act.

Aggrieved, the assessee preferred appeals to CIT(A) who allowed the appeals on the ground that the fault was only technical which was beyond the control of the assessee.

Aggrieved, the revenue preferred an appeal to the Tribunal.

HELD
Since Rule 12(3)(ab) requiring the assessee to file return of income electronically was amended with effect from AY 2010-11, the Tribunal accepted the contention of the assessee that the accountants/tax consultants of the assessee, due to oversight, missed the amendment in the Rules. The Tribunal noted that, however, the manual return was filed before due date specified in section 139(1) of the Act. Accordingly, the Tribunal held that the assessee is entitled to claim deduction u/s. 80IC if otherwise it has complied with the conditions laid down in section 80IC of the Act. Since the AO had not examined the genuineness of the claim of the assessee u/s. 80IC, it remitted the file back to the AO to consider the claim of the assessee u/s. 80IC and allow the same, if the assessee has complied with the conditions required to be satisfied.

However, for assessment year 2011-12, the assessee contended that the tax consultants of the assessee were not fully aware of the fact that the return has to be filed before 30th September of every year. The Tribunal noted that no manual return was filed as in assessment year 2010-11 and also no plausible reason was given by the assessee for furnishing return after the elapse of due date. It observed that since assessment year 2010-11 was the first year in which, furnishing of return electronically under digital signature was made mandatory there were chances that the tax consultants may not be aware of the amended provisions. The benefit of ignorance of the tax consultants was given to the assessee in assessment year 2010-11. After committing the mistake once, if the same mistake is committed again in the next assessment year, it is unpardonable. The Tribunal was of the opinion that the assessee does not deserve any clemency. It held that the assessee had not complied with the provisions of section 80AC and is thus not eligible to claim deduction u/s. 80IC.

The appeal filed by the revenue were allowed.

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[2015] 68 SOT 338 (Agra)(SMC) ACIT vs. Krafts Palace ITA No. 2 & 60 of 2015 CO Nos. 3 & 4 (Agra) of 2015 Assessment Year: 2003-04. Date of Order: 31st March 2015

Section 255(3) – Power of Single Member Bench to hear a case does not depend upon the quantum of addition or disallowances impugned in appeal but on the total income assessed by the AO being upto Rs. Five lakh.

Facts:
The assessee filed its return of income declaring gross total income/business income of Rs. 8,55,068. However, the Assessing Officer (AO) assessed the gross total income of the assessee, before set off of brought forward business loss at Rs.31,41,645. The total income assessed after set off of brought forward business loss was Rs. 4,83,017 and thus well under Rs.5,00,000 threshold limit of assessed income as specified in section 255(3). However, the dispute involved involved in the appeal and the cross objections involved much higher amounts, in excess of that limit.

In view of the above mentioned facts, a question arose as to whether the matter could be heard by Single Member Bench or should it be referred to a Division Bench.

Held:
In terms of section 255(3) the criterion, so far as class of matters which can be heard by SMC Bench, is concerned is only with respect to the assessed income, i.e., total income as computed by the Assessing Officer (AO). The Single Member Bench has the powers to hear any case, which is otherwise in the jurisdiction of this Bench, pertaining to an assessee whose total income as computed by the AO does not exceed Rs.5,00,000 irrespective of the quantum of the additions or disallowances impugned in the appeal.

Once SMC Bench has the powers to hear such an appeal, it is only a corollary to these powers that the Bench has a duty to hear such appeals as well. The reason is simple. All the powers of someone holding a public office are powers held in trust for the good of public at large.

There is, therefore, no question of discretion to use or not to use these powers. It is for the reason that when a public authority has the powers to do something, he has a corresponding duty to exercise these powers when circumstances so warrant or justify.

Having held that a SMC Bench has the power, as indeed the corresponding duty, to decide appeals arising out of an assessment in which income assessed by the AO does not exceed Rs.5,00,000 it may be added that ideally the decision to decide as to which matter should be heard by a Division Bench should be determined on the basis of, if it is to be based on a monetary limit, the amount of tax effect or the subject matter of dispute in appeal rather than the quantum of assessed income.

There seems to be little justification, except relative inertia of the tax administration in disturbing status quo in the policy matters, for the assessed income as a threshold limit to decide whether the appeal should be heard by the SMC Bench or the Division Bench, particularly when, for example because of the brought forward losses, underneath that modest assessed income at the surface level, there may be bigger ice bergs lurking in the dark representing high value tax disputes, adjudication on which may benefit from the collective wisdom and checks and balances inherent in a Division Bench.

However, as the law stands its assessed income which matters and not the tax effect or the quantum of disallowances or additions, impugned in the appeal. All that is relevant to decide the jurisdiction of the SMC Bench is thus the assessed income and nothing other than that.

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[2015] 153 ITD 153 (Chennai) DDIT (Exemptions) vs. Sri Vekkaliamman Educational & Charitable Trust A.Y. 2009 – 10 Date of Order – 27th September 2013.

Section 13 read with section 11 – Provisions of section 13(1)(c) and
13(2)(c), are not violated when contract for construction is awarded by
the assessee trust on basis of open bid to a firm belonging to managing
trustee as the said firm quoted the lowest rates. Further, the sum
advanced by the assessee to the said firm for ongoing construction work
in normal course of business activity are business advances and the said
advances would not come within the ambit of advances u/s. 13(1)(d).

FACTS
The assessee was registered as a charitable trust u/s. 12AA. It declared nil income and claimed deduction u/s. 11.

The
assessee had given, a contract of building construction, to the firm of
the managing trustee for which the assessee had advanced certain sum to
the said firm. The AO held that the aforesaid advances come within the
ambit of section 13(1)(d) and thus disentitles the assessee to claim
exemption u/s. 11 of the Act.

Also it was admitted fact that the
said firm had earned a benefit of Rs. 17.30 lakh from the said
contract. The AO therefore held that the Managing Trustee enjoyed
benefits out of the income derived by the trust which is against the
provisions of section 13(1)(c) and thereby disallowed the exemption
claimed by the assessee u/s. 11 of the Act.

The CIT(A) after
considering the submissions of both the sides, held that there is no
violation of provisions of section 13(1)(c) or (d) and allowed exemption
u/s. 11.

On appeal by the Revenue before the Tribunal.

HELD THAT
It is an admitted fact that the firm of the managing trustee had carried out the construction of building of the trust.

A
perusal of section 13(1)(c) would show that the Act puts restriction on
the use of income or any property of the trust directly or indirectly
for the benefit of any person referred to in sub-section(3) of section
13.

A reading of Clause (cc) of sub-section (3) of section 13
would show that it includes any trustee of the trust or manager. The
Assessing Officer declined to grant benefit of section 11, as in the
present case construction of building has been carried out by the firm
of a Managing Trustee and thus, derived direct benefit from the
assessee-trust.

A further perusal of clause(c) of sub-section(2)
of section 13 would show that without prejudice to the generality of
the provisions of clause-(c) and clause-(d) of subsection( 1) of section
13, the income or property of the trust or any part of such income or
property shall be deemed to have been used or applied for the benefit of
the person referred to in s/s. (3), if any amount is paid by way of
salary, allowance or otherwise during the previous year to any person
referred to in s/s. (3) out of the resources of the trust or institution
for services rendered and the amount so paid is in excess of what may
be reasonably paid for such services. In the present case, the Assessing
Officer has out rightly held that the assessee is not entitled to the
benefit of section 11 without ascertaining the reasonableness of the
amount paid for the services rendered.

The construction contract
has been awarded to the firm on the basis of open bid. Since the firm
quoted lowest rates, the contract was awarded to the firm. The
Commissioner (A) has categorically given a finding that in cases of
civil construction contracts, especially were no proper books are
maintained the Act recognises normal profit margins at the rate of 8 %.
The firm has earned a profit of 5.8 % which is very reasonable.

Since
the contract was awarded on competitive basis and the profit earned is
reasonable, hence it is held that the provisions of section 13(2)(c) are
not violated.

The CIT(A) has given a well reasoned finding
that certain sum was advanced by the assessee to the firm of Managing
Trustee for the on-going construction work in the normal course of
business activity and thus it was business advance. The aforesaid advances thus do not come within the ambit of advances u/s. 13(1)(d) of the Act.
The appeal of the Revenue is dismissed.

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[2015] 152 ITD 850 (Cochin) Muthoot Finance Ltd. vs. Additional CIT A.Y. 2009-10 Date of Order – 25th July 2014.

Section 40(a)(i) – Where assessee does not claim the payment made to
nonresident as expenditure but capitalises the same and claims only
depreciation thereon, no disallowance can be made u/s. 40(a)(i).

FACTS
The
assessee, a non-banking financial company, was engaged in providing
gold loans and other allied investment activities. It made payment to
non-resident for providing engineering site services but did not deduct
tax at the time of payment.

The AO disallowed the entire payment made by the assessee u/s. 40(a)(ia) on account of nondeduction of tax at source

The
assessee submitted that it had not claimed said payment made to
non-resident as expenditure but capitalised same and claimed only
depreciation. He submitted that the disallowance could be considered
only in case the assessee claimed deduction while computing the income
chargeable to tax and it had not claimed any deduction.

On appeal, the CIT-(A) upheld the order of the AO.

On
second appeal before the Tribunal, a query was also raised by the bench
whether the disallowance was to be made u/s. 40(a)(ia) or 40(a)(i). In
response to which the representative of the assessee clarified that the
disallowance was made by the lower authority u/s. 40(a) (ia) and section
40(a)(i) was not taken into consideration.

Regarding the merits of the case

HELD THAT
The
payment made to non-resident for technical services provided to the
assessee is admittedly taxable in India, therefore, the assessee is
bound to deduct tax. The assessee can claim the same as expenditure only
if the assessee deducts the tax at the time of payment.

The
language of section 40 clearly says that the amount paid to
non-resident on which tax was not deducted shall not be deducted while
computing the income chargeable to tax. Therefore, if the assessee
has not claimed the amount on which no tax has been deducted, as
expenditure while computing the chargeable income, there is no necessity
for further disallowance. In other words, if the assessee has not
claimed the payment to non-resident as expenditure and not deducted
while computing the income chargeable to tax, there is no question of
further disallowance by the authorities.

Since no material is
available on record to verify whether the amount paid to the
non-resident was deducted or not, while computing the income chargeable
to tax, the issue is remitted back to the AO to decide the same in
accordance with law after giving reasonable opportunity to the assessee.

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TDS – Income deemed to accrue or arise in India – Sections 9(1)(vii)(b) and 195 – A. Ys. 1998- 99 to 2000-01 – Wet-leasing aircraft to foreign company – Operational activities were abroad – Expenses towards maintenance and repairs were for purpose of earning abroad – Payments falling within the purview of exclusionary clause of section 9(1)(vii)(b) – Not chargeable to tax and not liable for TDS

DIT vs. Lufthansa Cargo India; 375 ITR 85(Del):

The assessee acquired four old aircrafts from a nonresident company outside India and wet-leased them to a foreign company. “Wet-leasing” means the leasing of an aircraft along with the crew in flying condition to a charterer for a specified period. As the assessee was obliged to keep the aircraft in flying condition, it had to maintain them in accordance with the DGCA guidelines to possess a valid airworthiness certificate as a pre-condition for its business. The assessee entered into an agreement with the overhaul service provider, T. T carried out maintenance repairs without providing technical assistance by way of advisory or managerial services.

The Assessing Officer noticed that no tax was deducted at source on payments to T and no application u/s. 195(2) was filed. He held that the payments were in the nature of “fees for technical services” defined in Explanation 2 to section 9(1)(vii)(b) and were, therefore, chargeable to tax and tax should have been deducted at source u/s. 195(1). He passed order u/s. 201 deeming the assesee to be assessee in default for the F. Ys. 1997-98 to 1999- 2000 and levied tax as well as interest u/s. 201(1A). The Tribunal held that the payments made to T and other foreign companies for maintenance repairs were not in the nature of fees for technical services as defined in Explanation 2 to section 9(1)(vii)(b) and that in any event these payments were not taxable for the reason that they had been made for earning income from sources outside India and, therefore, fall within the exclusionary clause of section 9(1)(vii)(b).

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

“i) The level of technical expertise and ability required in such cases is not only exacting but specific, in that, the aircraft supplied by the manufacturer has to be serviced and its components maintained, serviced and overhauled by the designated centers. International and national regulatory authorities mandate that certification of such component safety is a condition precedent for their airworthiness. The exclusive nature of these services could not but lead to the inference that they are technical services within the meaning of section 9(1)(vii).

ii) However, the overwhelming or predominant nature of the assessee’s activity was to wet-lease the aircraft to a foreign company. The operations were abroad and the expenses towards maintenance and repairs payments were for the purpose of earning abroad. Therefore, the payments made by the assessee fell within the purview of the exclusionary clause of section 9(1)(vii)(b) and were not chargeable to tax at source.

iii) The question of law is answered in favour of the assessee and against the revenue.”

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TDS – Chit Fund – Interest – Section 194A – A. Ys. 2004-05 to 2006-07 – Amount paid by Chit Fund to its subscribers – Not interest – Tax not deductible at source on such interest

CIT vs. Avenue Super Chits P. Ltd.; 375 ITR 76 (Karn)

The assessee ran a chit fund. The assessee had several chit groups which were formed by having 25 to 40 customers to make one chit group. The customers subscribed an equal amount, which depended upon the value of chits. There were two types of chits. One was the lottery system and the other was the auction system. In the lottery system the lucky winner got the chit amount and in the auction system the highest bidder got the chit amount. Under the scheme the unsuccessful members in the auction chit would earn dividend and the successful bidders would be entitled to retain the face value till the stipulated period under the scheme. The Revenue took the view that when the successful bidder in an auction took the face value or the prize money earlier to the period to which he was entitled, he was liable to pay an amount to others who contributed to the prize money which was termed as interest and that this interest amount, which had been paid by the assessee to its members was liable for deduction of tax u/s. 2(28A) and section 194A of the Income-tax Act, 1961. The Commissioner (Appeals) held that the amount paid by way of dividend under the chit scheme by the assessee to the members of the chit could not be construed as interest under the Act and, therefore, there was no liability on the part of the assessee to deduct tax at source. This was upheld by the Tribunal.

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

“In the first place the amount paid by way of dividend could not be treated as interest. Further, section 194A of the Act had no application to such dividends and, therefore, there was no obligation on the part of the assessee to make any deduction u/s. 194A of the Act before such dividend was paid to its subscribers of the chit.”

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Penalty – Concealment – Section 271(1)(c): A. Y. 2003-04 – The rigors of penalty provisions cannot be diluted only because a small number of cases are picked up for scrutiny – No penalty can be levied unless assessee’s conduct is “dishonest, malafide and amounting to concealment of facts” – The AO must render the “conclusive finding” that there was “active concealment” or “deliberate furnishing of inaccurate particulars”

CIT vs. M/s. Dalmia Dyechem Industries Ltd. (Bom); I. T. A. No. 1396 of 2013 dated 06/07/2015: www. itatonline.org.

For the A. Y. 2003-04, the Assessing Officer disallowed the proportionate interest out ofthe interest paid for the interest free advances given to the sister concern, holding that the assessee had borrowed funds of which interest liability had been incurred. The Assessing Officer also levied penalty holding that the assessee concealed it’s income by furnishing inaccurate particulars. The Commissioner (Appeals) allowed the appeal and cancelled the penalty. The Commissioner came to the conclusion that merely because the claim made by an Assessee was disallowed, penalty cannot be levied, unless it is demonstrated that the Assessee had any malafide intention. The Tribunal accepted the reasoning of the Commissioner (Appeals) that the penalty cannot be levied merely because the claim of the Assessee is found to be incorrect. The Commissioner and the Tribunal relied upon the decision of the Apex Court in the case of CIT vs. Reliance Petroproducts Pvt. Ltd. [2010] 322 ITR 158 (SC):

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

“i) Section 271(1)(c) of the Act lays down that the penalty can be imposed if the authority is satisfied that any person has concealed particulars of his income or furnished inaccurate particulars of such income. The Apex Court in CIT vs. Reliance Petroproducts Pvt. Ltd. [2010] 322 ITR 158 (SC) applied the test of strict interpretation. It held that the plain language of the provision shows that, in order to be covered by this provision there has to be concealment and that the assessee must have furnished inaccurate particulars. The Apex Court held that by no stretch of imagination making an incorrect claim in law, would amount to furnishing inaccurate particulars.

ii) Thus, conditions u/s. 271(1)(c) must exist before the penalty can be imposed. Mr. Chhotaray tried to widen the scope of the appeal by submitting that the decision of the Apex Court should be interpreted in such a manner that there is no scope of misuse especially since a miniscule number of cases are picked up for scrutiny. Because small number of cases are picked up for scrutiny does not mean that rigors of the provision are diluted. Whether a particular person has concealed income or has deliberately furnished inaccurate particulars, would depend on the facts of each case. In the present case, we are concerned only with the finding that there has been no concealment and furnishing of incorrect particulars by the present assessee.

iii) Though the assessee had given interest free advances to it’s sister concerns and that it was disallowed by the Assessing Officer, the assessee had challenged the same by instituting the proceedings which were taken up to the Tribunal. The Tribunal had set aside the order of the Assessing Officer and restored the same back to the Assessing Officer. Therefore, the interpretation placed by Assessee on the provisions of law, while taking the actions in question, cannot be considered to be dishonest, malafide and amounting to concealment of facts. Even the Assessing Officer in the order imposing penalty has noted that commercial expediency was not proved beyond doubt. The Assessing Officer while imposing penalty has not rendered a conclusive finding that there was an active concealment or deliberate furnishing of inaccurate particulars. These parameters had to be fulfilled before imposing penalty on the Assessee.”

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DIPP – Press Note No. 8 (2015 Series) dated July 30, 2015 Introduction of Composite Caps for Simplification of Foreign Direct Investment (FDI) policy to attract foreign investments

This Press Note has made the following amendments
to the Consolidated FDI Policy issued on May 12, 2015, with immediate
effect: –

2. Para 3.6.2 (vi) of the Consolidated FDI Policy Circular of 2015, is amended to read as under:

3.6.2
(vi) It is also clarified that Foreign investment shall include all
types of foreign investments, direct and indirect, regardless of whether
the said investments have been made under Schedule 1 (FDI), 2 (FII), 2A
(FPI), 3 (NRI), 6 (FVCI), 8 (QFI), 9 (LLPs) and 10 (DRs) of FEMA
(Transfer or Issue of Security by Persons Resident Outside India)
Regulations. FCCBs and DRs having underlying of instruments which can be
issued under Schedule 5, being in the nature of debt, shall not be
treated as foreign investment. However, any equity holding by a person
resident outside India resulting from conversion of any debt instrument
under any arrangement shall be reckoned as foreign investment.

3. Para 4.1.2 of the Consolidated FDI Policy Circular of 2015, is amended to read as under:

4.1.2
For the purpose of computation of indirect foreign investment, foreign
investment in an Indian company shall include all types of foreign
investments regardless of whether the said investments have been made
under Schedule 1 (FDI), 2 (FII holding as on March 31), 2A (FPI holding
as on March 31), 3 (NRI), 6 (FVCI), 8 (QFI holding as on March 31), 9
(LLPs) and 10 (DRs) of FEMA (Transfer or Issue of Security by Persons
Resident Outside India) Regulations. FCCBs and DRs having underlying of
instruments which can be issued under Schedule 5, being in the nature of
debt, shall not be treated as foreign investment. However, any equity
holding by a person resident outside India resulting from conversion of
any debt instrument under any arrangement shall be reckoned as foreign
investment.

4. Para 3.1.4 (i) of the Consolidated FDI Policy Circular of 2015, is amended to read as under:

3.1.4
(i) An FII/FPI/QFI (Schedule 2, 2A and 8 of FEMA (Transfer or Issue of
Security by Persons Resident Outside India) Regulations, as the case may
be) may invest in the capital of an Indian company under the Portfolio
Investment Scheme which limits the individual holding of an FII/FPI/QFI
below 10% of the capital of the company and the aggregate limit for
HI/FPI/OR investment to 24% of the capital of the company. This
aggregate limit of 24% can be increased to the sectoral cap/statutory
ceiling, as applicable, by the Indian company concerned through a
resolution by its Board of Directors followed by a special resolution to
that effect by its General Body and subject to prior intimation to RBI.
The aggregate FII/FPI/ QFI investment, individually or in conjunction
with other kinds of foreign investment, will not exceed
sectoral/statutory cap.

5. Para 6.2 of the Consolidated FDI Policy Circular of 2015 is amended to read as under:

a)
In the sectors/activities as per Annexure, foreign investment up to the
limit indicated against each sector/activity is allowed, subject to the
conditions of the extant policy on specified sectors and applicable
laws/regulations; security and other conditionalities. In
sectors/activities not listed therein, foreign investment is permitted
up to 100% on the automatic route, subject to applicable
laws/regulations; security and other conditionalities. Wherever there is
a requirement of minimum capitalization, it shall include share premium
received along with the face value of the share, only when it is
received by the company upon issue of the shares to the non-resident
investor. Amount paid by the transferee during post-issue transfer of
shares beyond the issue price of the share, cannot be taken into account
while calculating minimum capitalization requirement.

b)
Sectoral cap i.e. the maximum amount which can be invested by foreign
investors in an entity, unless provided otherwise, is composite and
includes all types of foreign investments, direct and indirect,
regardless of whether the said investments have been made under Schedule
1 (FDI), 2 (FII), 2A (FPI), 3 (NRI), 6 (FVCI), 8 (QFI), 9 (LLPs) and 10
(DRs) of FEMA (Transfer or Issue of Security by Persons Resident
Outside India) Regulations. FCCBs and DRs having underlying of
instruments which can be issued under Schedule 5, being in the nature of
debt, shall not be treated as foreign investment. However, any equity
holding by a person resident outside India resulting from conversion of
any debt instrument under any arrangement shall be reckoned as foreign
investment under the composite cap. Sectoral cap is as per Annexure
referred above.

c) Foreign investment in sectors under
Government approval route resulting in transfer of ownership and/or
control of Indian entities from resident Indian citizens to non-resident
entities will be subject to Government approval. Foreign investment in
sectors under automatic route but with conditionalities, resulting in
transfer of ownership and/or control of Indian entities from resident
Indian citizens to non-resident entities, will be subject to compliance
of such conditionalities.

d) The sectors which are already under 100% automatic route and are without conditionalities would not be affected.

e)
Notwithstanding anything contained in paragraphs a) and c) above,
portfolio investment, upto aggregate foreign investment level of 49% or
sectoral/statutory cap, whichever is lower, will not be subject to
either Government approval or compliance of sectoral conditions, as the
case may be, if such investment does not result in transfer of ownership
and/or control of Indian entities from resident Indian citizens to
nonresident entities. Other foreign investments will be subject to
conditions of Government approval and compliance of sectoral conditions
as laid down in the FDI policy.

f) Total foreign investment, direct and indirect, in an entity will not exceed the sectoral/statutory cap.

g)
Any existing foreign investment already made in accordance with the
policy in existence would not require any modification to conform to
these amendments.

h) The onus of compliance of above provisions will be on the investee company.

6.
It is clarified that there are no sub-limits of portfolio investment
and other kinds of foreign investments in commodity exchanges, credit
information companies, infrastructure companies in the securities market
and power exchanges.

7 In Defence sector, portfolio investment
by FPIs/FIls/ NRIs/QFIs and investments by FVCIs together will not
exceed 24% of the total equity of the investee/joint venture company.
Portfolio investments will be under automatic route. 8. In Banking-
Private sector, where sectoral cap is 74%, FII/ FPI/ QFI investment
limits will continue to be within 49% of the total paid up capital of
the company.

9. There is no change in the entry route i.e.
Government approval requirement to bring foreign investment in a
particular sector/activity. Further, subject to the amendments mentioned
in this Press Note, there is no change in other conditions mentioned in
the Consolidated FDI Policy Circular of 2015 and subsequent Press
Notes.

10. Relevant provisions of the FDI policy and subsequent
Press Notes will be read in harmony with the above amendments in
Consolidated FDI Policy Circular of 2015.

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Scientific research expenditure – Weighted deduction – Section 35(2AB) – A. Y. 2003-04 – Denial of deduction by AO on ground that machinery is required to be installed and commissioned before expiry of relevant previous year – Not proper

CIT vs. Biocon Ltd.; 375 ITR 306 (Karn):

The assessee was engaged in the business of manufacture of enzymes and pharmaceutical ingredients. The Assessing Officer rejected the assessee’s claim for weighted deduction u/s. 35(2AB) of the Income-tax Act, 1961 on three machineries acquired during the year on the ground that the machineries had not been installed and commissioned during the year. The Tribunal allowed the assessee’s claim.

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

“i) The provision nowhere suggests or implies that the machinery is required to be installed and commissioned before expiry of the relevant previous year. The provision postulates approval of a research and development facility, which implies that a development facility shall be in existence, which in turn, presupposes that the assessee must have incurred expenditure in this behalf.

ii) The Tribunal had rightly concluded that if the interpretation of the Assessing Officer were accepted, it would create absurdity in the provision inasmuch as words not provided in the statute were to be read into it, which is against the settled proposition of law with regard to the plain and simple meaning of the provision. The plain and homogeneous reading of the provisions would suggest that the entire expenditure incurred in respect of research and development has to be considered for weighted deduction u/s. 35(2AB) of the Act.”

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Processing of Registration applications submitted along with scanned documents

Trade Circular 13T of 2015 dated 14.8.2015

The new office procedure for the grant of new registrations under the MVAT Act, 2002, The CST Act, 1956 and the Professional Tax Act, 1975 has been explained in the Circular issued by the Commissioner of Sales Tax.

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The Computerized Desk Audit (CDA) for the period 2012-13

Trade Circular 12T of 2015 dated 14.8.2015

The department has generated Computerized Desk Audit (CDA) report for the period 2012-13 and made the same available on website www.mahavat.gov.in from 20.8.2015. Compliance to the CDA can be made on or before 18.9.2015. List of dealers in whose cases discrepancies have been found mentioned in CDA Dealer list 2012-13 is available on the website. Detailed procedure to comply electronically with CDA system has been explained in the Circular issued by the Commissioner of Sales Tax.

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Recent Developments in International Taxation

Topic : Recent Developments in International Taxation

Speaker : M r. Pinakin Desai, Chartered Accountant

Date : 15th July, 2015

Venue : Jai Hind College Auditorium, Churchgate

Mr. Pinakin Desai commenced his talk by referring to the India-Mauritius DTAA and the fact that Mauritius has been quite popular among the Foreign Investors investing in India on account of the favourable provisions in the treaty. He mentioned that negotiations on India-Mauritius DTAA are under process and the renegotiated Treaty should be out in a couple of weeks’ time. There has been a lot of speculation around the changes which would be incorporated in the revised DTAA and looking at the same, he pointed out to a few provisions which could be a part of the new treaty. One such provision could be the insertion of LOB clause in the treaty. Other amendments could be on the lines of the India-Singapore DTAA which provides for an expenditure test for demonstrating commercial substance, a provision for insertion of a grandfather clause in regard to investments made prior to 2017. He then invited the attention to a news article which mentioned that under the revised DTAA , short term capital gains would be subject to capital gains tax under Income-tax Act, 1961.

The Speaker then commented upon the cumbersome reporting requirements contained in the amended section 195(6) of the ITA . Section 195(1) contains tax withholding obligations in case of payments made to a non-resident, provided the sum is chargeable to tax under ITA , whereas section 195(6) states that, irrespective of the sum being chargeable to tax, the person responsible for paying to a non-resident should furnish information about the same. The Speaker stressed upon the intention of the Income Tax Department of the amended section 195(6) which was to secure information about every remittance made outside India. The Speaker mentioned that though section 195(6) talks about all payments, whether chargeable to tax or not, provisions contained in Rule 37BB, the relevant rule for section 195(6), continues to talk about furnishing of information only relating to payments which are chargeable to tax under ITA . This has led to an anomalous situation and different views are taken by remitters. He mentioned that till new Rules are notified in this regard, problems would continue. However in his view, Form 15CB need to be obtained only in cases where income was chargeable to tax as mentioned in Rule 37BB and not for all remittances.

Mr. Pinakin Desai then dwelt on the provisions of the new Black Money Act and its far reaching implications. He cited a simple illustration wherein Mr. Kumar, an NRI, who was away for 5 years, comes back to India, and is now a Resident and Ordinarily Resident. While a non-resident, he claims to have acquired significant assets outside India and from FY 2015-16, Kumar will offer income from overseas assets to tax in India. Provisions of the Black Money Act empower an Assessing Officer to bring an undisclosed foreign asset to tax on the basis of FMV valuation in the year in which he receives information as to the ownership of the asset. Now in such a scenario, Mr. Kumar can have serious difficulties, if he has no records or evidence to correlate the source of investment with the items of investment.

The speaker then raised concerns about the impact of the Black Money Act on discretionary trusts set up outside India. In case of non-resident discretionary trusts where either the settlor or the trustees or the beneficiary is a Resident & Ordinarily Resident, provisions of BMA could apply. In case the Settlor is Resident in India, a question could arise as to whether he is under an obligation to make disclosures in his tax returns in relation to assets settled upon the discretionary trust set up outside India.The answer to this is possibly a ‘yes’. However, the Speaker further raised a question that, would the disclosure be required merely in the first year in which the Settlor is settling the property upon the trust or would the disclosure be required on a recurring basis in subsequent years? The Speaker discussed another scenario wherein the trustee of the discretionary trust is a ROR whereas the Settlor and the beneficiaries are non-residents. In this case too, the Speaker was of the view that the Trustee would be under an obligation to make disclosures in the tax returns since he is the holder of the assets on behalf of the beneficiaries. The speaker then referred to a person being ROR in India and is a beneficiary of the discretionary trust set up outside India. Highlighting the definition of the term ‘beneficiary’ as a person deriving benefit during the year, the Speaker commented that the beneficiary may not be required to make disclosure in this regard if he has not derived any benefit from the trust during the year.

The Speaker then drew attention to the disclosure requirements in the tax returns in case of an assessee holding a financial interest in an entity outside India. The Speaker raised a concern as to whether a beneficiary of a discretionary trust set up outside India, could be said to have a financial interest in that trust. In this regard, the Speaker was of the view that a beneficiary of a trust is merely a chance beneficiary depending upon the discretion of the trustees, and his right to the benefits of the trusts are not enforceable, and thus he may not be said to have a financial interest in the trust.

Thereafter, the Speaker commented upon applicability of BMA Act to expatriates in India. Referring to the FA Qs released by CBDT on Clarifications on Tax Compliance for Undisclosed Foreign Income and Assets, he mentioned that the expatriates who have come to India on a Student Visa, Business Visa or an Employment Visa, have been given a concession from reporting requirements in regard to assets situated outside India which do not yield any income, for example, a residential house which is not let out. However, no concession is granted to assets located outside India which yield income which is taxable under the ITA , for example, bank account or any other security yielding interest income. The Speaker raised a concern that if the spouse or the children accompany the expatriate to India, who do not come on a Student Visa or a Business Visa or an Employment Visa, theoretically no concession is available to them.

Thereafter, the Speaker discussed a few case studies relating to indirect transfers of capital assets read in conjunction with Circular 04/2015 issued by CBDT. By referring to the case studies, the Speaker conveyed that declaration of dividend by a foreign company outside India does not have the effect of transfer of any underlying assets located in India. The Circular 04/2015 has clarified that the dividends declared and paid by a foreign company outside India in respect of shares which derive their value substantially from assets situated in India would not be deemed to be income accruing or arising in India by virtue of section 9(1)(i) of ITA . The Speaker also cited an illustration highlighting the intricacies on determining the ‘Specified Date’ on which the value of a share deriving its value from assets located in India is computed.

The Speaker threw light upon deemed international transactions u/s. 92B(2). Referring to an illustration, the Speaker explained the provisions contained in section 92B(2) whereby a transaction between an enterprise with a person other than an associated enterprise would be deemed to be an international transaction if the terms and conditions of such a transaction are settled by the enterprise with its Associated Enterprise, where the enterprise or the associated enterprise or both of them are non-residents, irrespective of whether such other person is a non-resident or not.

The Speaker then shared his views on Corporate Residency in view of the amendment made by the Finance Act 2015. He mentioned that since many years, the test to determine the residential status of a Company in India was quite liberal and hence if some management decisions were taken outside India or if some directors were situated outside India, the Company was classified as a Non Resident. This had facilitated formation of shell companies which were effectively managed from India, however classified as Non Resident. To put an end to such practices, the Income Tax department has introduced the concept of ‘Place of Effective Management’ (POEM) as the test to determine the residential status of a Company. He mentioned that POEM is situated at the place where key commercial and management decisions of the Company are taken. He further mentioned that for a decision to be a key commercial or management, one would really have to look into the substance of the decision, the regularity at which the decisions are taken and the persons who are effectively making the decisions.

The Speaker then threw light on the various consequences which a Company might face if its POEM is in India. This would include taxation of its global income at the higher tax rate of 40% plus surcharge and education cess, obligation to withhold taxes u/s. 195 in respect of chargeable amounts, applicability of transfer pricing provisions, non-applicability of beneficial provisions u/ss. 44BB, 44BBB, 44BBA, since they apply only in case of non-residents, applicability of provisions of Black Money Act, etc.

The Speaker commented that in case of a US Company becoming a resident of India on account of POEM being situated in India, then the benefits under India USA DTAA will be lost, since the tie breaker test in such a situation cannot be invoked under the treaty and further there could be questions as to whether foreign tax credit would be available in respect of the transactions of the Company.

He mentioned that exchange of information is likely to be very active and relevant in the days to come and the BEPS provisions would also be having an impact. Exchange of information, multi-lateral treaty, and awareness on the part of all the foreign governments with regard to curbing of tax avoidance is going to be the order of the day.

The meeting ended with a vote of thanks to the speaker.

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REPRESENTATI ON TO CBDT ON E-FILI NG OF WEALTH -TAX RETU RNS FOR A.Y. 2015-16

20th August 2015

The Chairperson,
Central Board of Direct Taxes,
Government of India,
North Block, Vijay Chowk,
New Delhi 110 001.

Respected Madam,

Re: REPRESENTATI ON TO CBDT ON E-FILI NG OF WEALTH -TAX RETU RNS FOR A.Y. 2015-16

Your kind attention is invited to Notification 32/2014 dated 23rd June, 2014 (F.No.143/1/2014-TPL) wherein it was notified that wealth-tax returns are to be filed electronically for all categories of wealth-tax assessees. In the said Notification, certain amendments had been made to the Wealth-tax Rules, 1957. In particular, Rule 3 was substituted by a new Rule. The amended sub Rules (2) and (3) of the said Rule 3 are reproduced below for ready reference:

(2) Subject to the provisions of sub-rule (3), for the assessment year 2014-15 and any other subsequent assessment year, the return of net wealth referred to in sub-rule (1) shall be furnished electronically under digital signature.

(3) In case of individual or Hindu undivided family to whom the provisions of section 44AB of the Income-tax Act, 1961(43 of 1961) are not applicable, the return of net wealth referred to in sub-rule (1) may be furnished for assessment year 2014-15 in a paper form.

It may be noted from the above that in case of individuals and HUFs where tax audit was not applicable, the wealthtax returns could be filed electronically without the Digital Signature (DSC) for A.Y. 2014-15. However, now, for filing the wealth-tax returns for A.Y. 2015-16, even for such wealth tax assessees, it would be necessary to obtain and use the DSC for filing the wealth-tax return.

Assessment Year 2015-16 is the last year for which the Wealth-tax Act, 1957 is applicable. Thereafter, the question of filing wealth–tax returns will not arise.

It will therefore be appreciated that several tax payers will be put to great hardship as they will need to obtain a DSC only for the purpose of uploading the wealth-tax return for one last year i.e. A.Y. 2015-16.

On behalf of the taxpaying community, it is therefore humbly requested that the Rule 3(3) of the Wealth-tax Rules, 1957 be amended suitably to provide that the wealth-tax returns of individuals and HUFs who are not subject to tax audits can be filed electronically without using the DSC.

An early action in the matter would be greatly appreciated as the last date for filing the returns i.e. 31st August is fast approaching.

Thanking you.
Yours truly,
For Bombay Chartered Accountants’ Society

Raman H. Jokhakar
President

Ameet N.Patel
Co-Chairman, Taxation Committee

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Something More (Kuchh Aur)

Pending Court Cases:
1. 376,604 (upto June 2015) are Pending Court Cases under different Laws/Acts, in Hon’ble Bombay High Court including its branches at Nagpur, Aurangabad, Panji-Goa

Hon’ble High Court has written many letters to the Govt of Maharashtra (GOM) for creation of additional 867 courts of various cadres of Judges in the State of Maharashtra. Hon’ble High Court has also written to GoM about funds for recurring and non-recurring expenditure for the said 867 courts.

2. 29.51 lakh (upto June 2015) are Pending Court Cases in District Judiciary (District & Subordinate Courts).

2,072 is the Sanctioned Strength and 1,784 is actual working Strength of Judicial Officers as on 1.1.2015 in the State of Maharashtra.

Sanctioned & Actual Strength of Hon’ble Judges in Hon’ble Bombay High Court. 94 is the Sanctioned Strength and 65 is the actual working Strength of the Hon’ble Judges in the Hon’ble Bombay High Court.

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How to tackle radical Islam: India can learn from the frankness of political discourse in the West

Prime Minister David Cameron delivered a remarkable speech in Birmingham outlining a stepped up government campaign against Islamist extremism. India could learn a thing or two from him on how to address a sensitive subject without either flinching from the truth or carelessly tarring an entire community.

To be sure, Britain’s problems with Islamism (the drive to order all aspects of the state and society by sharia law) do not exactly mirror India’s. Nor are the two countries’ experiences with terrorism, Islamism’s most violent and visible manifestation, identical. Nonetheless, in the age of Lashkar-e-Taiba and the Islamic State, all pluralistic democracies face a challenge from an ideology that Cameron characterises as “hostile to basic liberal values such as democracy, freedom and sexual equality”.

This raises important questions. Which principles of confronting Islamism are equally applicable to London and Lucknow, Paris and Patna, Boston and Bangalore? How might you apply Cameron’s observations – a broad distillation of sensible centre-right discourse in the West – to an Indian context?

To begin with, the distinction between the ideology of Islamism and the faith of Islam cannot be made often enough. Bluntly put, Islamism is an exclusivist dogma that threatens non-Muslims, heterodox Muslims and secular Muslims alike. Islam is one of the world’s major faiths, practised by 1.6 billion people, most of whom are moderate. In India, the Left refuses to acknowledge the Islamist threat. The Right often fails to distinguish between Islamists and ordinary Muslims less interested in resurrecting a Caliphate than in simply getting on with their daily lives.

It follows that legitimate concerns about Islamism should not become an excuse to condone the excesses of the Hindu far Right. A politician or public intellectual ought to be able to condemn both West Bengal’s craven expulsion of dissident writer Taslima Nasreen and the poisonous ravings of Pravin Togadia of the Vishwa Hindu Parishad. In Birmingham, Cameron likened Islamist extremists to his country’s “despicable far right”. In India, unfortunately, the line between the responsible Right and the despicable Right is often blurry.

This is not to suggest a mindless equivalence. Every faith may have its share of extremists, but you have to be either blind or a member of the CPM politburo to ignore that the Islamic world is especially in turmoil today. Neither Cameron nor Barack Obama nor François Hollande need fret about their Hindu or Buddhist or Jewish compatriots boarding a plane to blow themselves up on a distant battlefield in search of paradise.

This brings us to another simple principle: Ideas matter. In both the West and India, apologists for Islamist extremism attempt to explain it away by blaming colonialism or Western foreign policy or poverty. But they can’t explain why formerly colonised Burmese and Cambodians aren’t strapping on suicide vests. Or why Islamist terrorists first tried to destroy New York’s World Trade Center in 1993 – long before George W Bush invaded Iraq. Or why so many prominent terrorists, from multimillionaire Osama bin Laden to Germaneducated 9/11 ringleader Mohammed Atta, weren’t exactly underprivileged.

Beyond the obvious counterterrorism component, what might a deeper Indian response to Islamism look like? For starters, people need to start paying more attention to ideology than to individual acts of terror. It’s no coincidence that Jamaate- Islami – along with Egypt’s Muslim Brotherhood, one of the world’s two main conveyor belts of Sunni extremism – birthed the Students Islamic Movement of India, which in turn spawned Indian Mujahideen.

These groups may differ in tactics. But they are bound by a shared belief that Islam is not merely a religion, but a complete way of life spanning everything from marriage to banking to politics. Many modern Islamists have grudgingly come to terms with democracy as a means to an end, but they ultimately agree that God’s law (sharia) is superior to man’s law (legislation).

Viewed against this backdrop, India’s failure to reform Muslim personal law in the 1950s at the same time that it undertook a sweeping modernisation of Hindu laws governing marriage, inheritance and adoption, must count among the republic’s most consequential blunders. Western democracies can defend themselves by drawing a clear line in the sand between democratic liberalism and the medieval practices enshrined in sharia. In India, the state itself ensures that Muslims follow sharia in civil matters.

Historical blunders notwithstanding, the media can do a lot more to even the playing field between extremist and moderate voices. In sum, what Cameron calls “the struggle of our generation” isn’t confined to a Britain roiled by homegrown Islamist extremism. It’s a global phenomenon whose lessons apply as much to India as to any other democracy.

(Source: Extracts from an Article by Mr. Sadanand Dhume in The Times Of India dated 23-07-2015. The writer is a resident fellow at the American Enterprise Institute in Washington, DC)

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Regulatory Emergency – Why India must act to improve its regulators

The Food Safety and Standards Authority of India, or FSSAI, which is India’s apex food safety regulator, has not covered itself with glory of late. Its order to withdraw Nestle’s Maggi noodles from India’s grocery shelves has come under a cloud for several reasons. There is little doubt that Nestle deserves to be criticised for the manner in which it chose to handle the situation. But it now appears that the company had already decided to recall Maggi, and this spurred the FSSAI to action before additional reports had come in. The regulator has thus given the impression of acting in a bid to send out a message about its strictness rather than due consideration. Worse, Maggi noodles have now been cleared not just by laboratories in Singapore and Britain but also by FSSAI-approved domestic laboratories. This imbroglio is the climax of a period in which the FSSAI has gone after various puzzling but headline-grabbing targets – such as the world-famous Australian wine brand, Jacob’s Creek, for supposedly including tartaric acid, which gained the regulator an acid reproof from the Bombay High Court for an “adversarial” attitude. “Statutory authorities”, added the Court while overruling the FSSAI in this case, “must act in a manner that is fair, transparent and with a proper application of mind”. Certainly, these strictures appear deserved in the case of the FSSAI.

But the Court’s opinion sadly extends to many other regulators. India’s pharmaceutical regulator is a case in point. Following several controversial reports about lax standards in Indian companies – several of which wound up being banned from developed-country markets – the drug controller simply said, in effect, that American standards could not be applied to Indian pharma, because no drug would then get passed. The automobile sector is no better; Europe’s regulators tested five new Indian small cars in 2014 and found none met the safety standards. But that doesn’t matter for regulation back home. Then there’s aviation; India may be one of the world’s largest and fastest-growing airline markets, but the US Federal Aviation Authority in 2014 downgraded safety standards to its equivalent of junk status – because, the FAA said, the Indian aviation regulator didn’t have enough people to inspect all the planes they were supposed to.

This is an emergency – a public health, public safety, and economic emergency. India is the third-largest economy in the world (measured by its gross domestic product in terms of purchasing power parity), but it has one of the most tattered regulatory structures globally. It has laws that are so strict on paper that they become unmanageable. Then there is the problem of unconscionably lax application of these laws, which leads to Maggi-style discretion and controversy. Worse, fixing this does not appear to be on the government or business agenda. Instead, both the Centre and India Inc defend India’s lax regulation. Acting on pressure from domestic companies, India did not even participate in negotiations for the second-generation Information Technology Agreement, or ITA -II, for fear that freer trade would hurt. It insists on data-secure status in Europe for Indian companies without legislating basic privacy rights at home. This reveals a short-sighted lack of ambition in the Indian private sector; unless they push for updated regulation, they will never grow and become global giants. And the government must think of consumers – who have the right to global standards, to Maggi and to safer cars.

(Source: Editorial in the Business Standard dated 11-08-2015.)

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The Indian Dream – We desire modernity, moderation, a middle-income and well-managed society

Is there an India Dream?

This is what a Japanese executive asked me at a talk that I was giving on India. In the midst of what I thought was quite an informative discussion on the homeland, he said: “Thank you for telling us where India is today. But where does it want to be tomorrow? What is the India Dream?”

While scratching my head in search of an answer, what came to mind fairly quickly was Prime Minister Narendra Modi’s “Make in India” dream, which is the idea that India is open for business, especially manufacturing. The Modi dream is a good one. Without a solid manufacturing base, the Indian economy cannot generate enough jobs for its growing, aspiring population.

My Japanese interlocutor was not terribly impressed by this answer. In his view “Make in India” could not be the sum total of the India Dream.

Reflecting on the matter, I suggested that in addition ,Indians dreamed of a modern India, a moderate India, a middleincome India and a well-managed India. This seemed to satisfy him better.

To say that most Indians want a modern India is quite a claim in a country where there are so many remnants of the medieval: child marriage, the dowry system, female infanticide and neglect, honour killings, purdah, caste discrimination, anti-rationalism, quackery in medicine, superstition, khap fatwas, and on and on.

Yet there is one clear, discernible, modern value that is spreading unstoppably, and that is the yearning everywhere in India for education. If there is one quintessential feature of a modern society, it is the desire to have every child going to school. For the first time in Indian history, all Indians dream of being educated. This is the greatest hope of India.

Indians want modernity, but they also want moderation — in personal and in social life. As far as I know, historically, there is no body of thought in India that encourages personal excess. A moderate life is widely regarded as a good life.

Indians also want social moderation. They want moderation in their political institutions and practices. In Nehru’s “Idea of India”, moderation meant constitutionalism, socialism, secularism, pluralism and non-alignment. Today, all these words are regarded as old-fashioned and somewhat misguided. But the idea of moderation is still a powerful one, and no Indian leader should forget this if he or she wants to prosper.

Indians have more material dreams too. They dream of India as a middle-income country. Most Indians are quite realistic about what their government, business executives, workers, farmers, professionals, intellectuals and civil society organisations can deliver. They are also aware of the limits of the natural world around them. Deep down they know that a rich, first-world India is neither feasible nor desirable in the next 20-30 years (perhaps ever). The majority of Indians will settle for a middle-income country, a country of say Thailand’s or Brazil’s per capita income and general prosperity over the next quarter of a century. Today, Thailand’s per capita GDP in purchasing power parity terms is roughly three times that of India, Brazil’s is roughly four times.

Finally, Indians dream of a well-managed country. Modi’s victory in the last general elections was engineered on the promise of good governance. India was fed up with illconceived, corrupt, chaotic, rudderless governance. The Prime minister still has a strong sense that Indians want clean, purposeful, efficient and effective administration. Whether he can deliver, is the great challenge.

There is an India Dream. It is not Amit Shah’s notion of a strutting “Vishwa guru”. Most Indians hold to a different dream — of a modern, moderate, middle-income and well-managed India, taking its modest place in the international society.

(Source: Extracts from an Article by Mr. Kanti Bajpai in The Times OF India dated 18-07-2015.)

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