TMI Blog2011 (11) TMI 514X X X X Extracts X X X X X X X X Extracts X X X X ..... essee - Held that:- It is quite reasonable to conclude that the assessee had transferred the services of employees to the group concerns. The value of such transfer of services has to be computed on the basis of consumption of raw material. Therefore, transfer value is adopted at Rs. 40.00 lacs. Accordingly, we confirm the adjustment of Rs. 40.00 lacs to the profit on account of labour charges - Decided against the assessee. Dis-allowance in respect of delayed payment of employees contribution - PF/ESIC - Held that:- If employees contribution is paid within grace period allowed, deduction has to be allowed u/s 36(va) Deduction u/s 10A denied on income added by way of dis-allowance of expenses - Held that:- If any addition has been made to the profit of business by way of dis-allowance of expenses, the amount added will very much form part of the profit of the business and therefore, it has to be considered while working out deduction u/s 10A - Decided in favor of assessee. Netting of Interest Income - Gross Interest taken into account by Revenue - Held that:- It is settled legal position that in case some expenses have been incurred for earning of interest income, deductio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a transaction with a related party or suppression of labour charges." 2.1 The grounds raised in the appeal by the department are as under :- "( i ) On the facts and in the circumstances of the case and in law, the ld. CIT(A) erred in deleting the disallowance in respect of delayed payment of PF/ESIC of Rs. 85,447/- while computing deduction under section 10A. ( ii ) On the facts and in the circumstances of the case and in law, the ld. CIT(A) erred in deleting the adjustment made by the AO under section 80IA(10) r.w.s. 10A(7) in respect of under reporting of purchases/labour charges from related parties." 3. First we take up the dispute regarding adjustment made by AO under section 10A(7) r.w.s. 80I(10) on which both the parties are in appeal. Briefly stated, facts of the case are that the assessee who was engaged in the business of manufacturing and export of diamonds studded gold jewellery, had declared nil income for the assessment year 2004-05 after claiming deduction under section 10A. The assessee was entitled to deduction under section 10A and this was the last year for claiming deduction under the said section. The AO noted that there was abnormal increase in GP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... etails in relation to cost of diamonds purchased in case of M/s. Sanghvi Exports, copy of bills and packing list of purchase from M/s. Sanghvi Exports, the piecewise details of diamonds in opening stock, purchases, utilization and closing stock. The AO, therefore, examined the General Manager (GM) Shri Chitranjan Mahadadalkar of the company under section 131 of the Income-tax Act. He asked him to give reasons for substantial increase in GP rate but he could not pinpoint any specific reasons. He also could not give the reason for substituting M/s. Sanghvi Exports in place of non-related parties in the answer to Q.No.15. The GM in response to Q.No.23 replied that the assessee was not maintaining piece-wise record of diamonds. In regard to drastic fall in average purchase price of polished diamonds, the GM in response to Q.No.19 stated that it could be due to general fall in price of diamonds or change of quality of diamonds used. Further the GM in response to Q.No.26 stated that the assessee was maintaining reference numbers for identification of diamonds. The AO observed that the assessee did not produce reference numbers during assessment proceedings. It was also observed by him th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssee which was clear from the fact that the sundry creditors in case of the assessee had increased to Rs. 4.27 crores in this year compared to Rs. 1.65 crores in the immediate preceding year and the major portion of the credit was in the name of M/s. Sanghvi Exports. Therefore, the purchase rate from M/s. Sanghvi Exports was expected to be higher than the normal rate. But in this case, it was actually substantially lower which was not explained. The assessee by showing lower purchase rate from M/s. Sanghvi Exports had shifted the profit of that concern to itself because of the close connection with the said party. The provision of section 10A(7) were, therefore, applicable as profits shown by the assessee were more than the ordinary profits because of the transactions with the group concern. The ordinary GP rate should have been 10% but the same was shown as 16.8%. The AO, therefore, adopted GP rate of 10% and the extra profit declared by the assessee to the tune of Rs. 4,98,18,823/- was reduced from the profit and deduction under section 10A was allowed at Rs. 1,89,37,109/-. 3.4 Similar, adjustment was made by the AO in respect of labour charges also. The AO noted that expendi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 40/- in place of nil income returned by the assessee. 3.7 The assessee disputed the decision of AO and submitted before CIT(A) that AO had not brought on record any specific instance to show that the transactions with the sister concern had resulted in higher income to the assessee. It was pointed out that the AO had wrongly computed average purchase price of per carat by using the figures for diamonds consumption instead of actual purchase. In case the correct figures were adopted, the average purchase rate per carat this year was Rs. 4,205/- compared to Rs. 4,620/- in assessment year 2003-04. The detailed computation was given as under :- Computation made by AO A.Y.2004-05 A.Y. 2003-04 Total polished diamonds consumed (Rs.in lakhs) 3,662.34 4,772.11 Total polished diamonds consumed in Cts. 87,336.43 90,443.91 Average rate per carat 4,193 5,276 CORRECT COMPUTATION A.Y. 2004-05 A.Y. 2003-04 Total polished diamonds purchased (Rs. in lakhs) 3,855.96 4,661.65 Total polished diamonds purchased in Cts. 91,691.35 100.909. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nsfer of profits, it was also submitted that M/s. Sanghvi Exports had earned net profit before depreciation of Rs. 18.24 crores in assessment year 2004-05 on turnover of Rs. 502 crores compared to profit of Rs. 18.34 crores on turnover of Rs. 445.75 crores in assessment year 2003-04. It was, further, pointed out that similar gross profit of Rs.19.4% had been shown by M/s. Classic Diamond India Ltd. in similar business. Accordingly, it was urged that no adjustment should be made on account of purchases. As regards the labour cost it was submitted that reduced labour expenses were on account of the following factors:- ( i ) on account of lower content of diamonds; ( ii ) on account of product mix; ( iii ) on account of number of employees increased during the year and ( iv ) on account of double shift work during part of the year 3.10 CIT(A) after considering the submissions of the assessee observed that there was no dispute that for the relevant year the assessee had shown excessive high GP rate of 16.80%. It was also an accepted fact that substantial purchases had been made from a group concern. CIT(A), therefore, observed that, in principle, the provisions of sectio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at in respect of purchase of same grades, the average purchase price in case of purchase from M/s. Sanghvi Exports were more. The other purchases from M/s. Sanghvi Exports which were non-comparable were given at page-186 of the paper book as per which average purchase rate was Rs. 2,847/-, but the same was not comparable. It was pointed out that CIT(A) had made a mistake in upholding addition @ 72 per carat by making wrong comparison. He had compared the over all average rate in respect of entire purchases of diamonds from M/s. Sanghvi Exports of Rs. 3,445/- per carat to the average purchases from M/s. Super Diam and M/s. Dhaval Exports in respect of comparable grade of Rs. 3,518/- per carat. It was pointed out that the average rate of Rs. 3,518/-per carat in respect of M/s. Dhawal Exports and M/s. Super Diam could be compared only to comparable grades in respect of M/s. Sanghvi Exports in respect of which average rate was Rs. 3,697/- per carat. The adjustment upheld by CIT(A) on account of purchase from sister concern was thus not correct and should be deleted. 3.12 In relation to labour charges, it was submitted that provisions of section 80IA(8) were not applicable which app ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of purchases from the group concern, on average, there were 20 pieces per carat whereas in respect of other purchases there were 350 per carat which shows that the size of diamond purchased from the group concern was bigger and, therefore, price should have been higher. But it was just reverse. The Ld. AR also pointed out that in assessment year 2002-03, in assessee's own case, similar adjustment had been made by AO under section 10A(7) which had been upheld by the Tribunal in ITA No.89/M/2006. 3.14 As regards labour charges, it was submitted that the provisions of section 80IA(8) also applied to services and, therefore, labour charges were also covered by the provisions. It was also pointed out that the various details mentioned by the ld. AR had not been given before the AO and therefore it could not be verified. It was accordingly submitted that the adjustment made by the AO was justified. 3.15 In reply, the ld. AR for the assessee submitted that the GP rate was not only high in this year but also in earlier years. It was pointed out that in assessment year 1999-00 to 2001-02, the assessee had shown GP rates varying from 14.96% to 18.50%. It was also pointed out that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... her from group concerns. Further, AO also noted from audited accounts of M/s. Saghvi Exports and about which there is no dispute that average sale rate of diamond per carat in case of that concern was Rs. 7,310/- whereas the average sale rate to the assessee was only Rs. 3,445/-. There is also no dispute that M/s. Saghvi Exports is a group concern in which all the directors of the assessee company are partners and that the said concern holds 52.63% of equity capital of the company. The income of the assessee is exempt under section 10A of the Income-tax Act and the assessment year 2004-05 was the last year for claiming deduction under section 10A. Further, the income of M/s. Saghvi Exports is exempt under section 80HHC only to the extent of 30% and, therefore, any transfer of profit from M/s. Saghvi Exports to the assessee firm has tax advantage for the group. 3.17 In the back drop of above factual position it is required to be examined whether the profits of M/s. Saghvi Exports were diverted to the assessee company and the provisions of section 10A(7) r.w.s. 80IA were applicable. But provisions of section 10A provide that provisions contained in Sec.80IA(10) and Section 80IA(8 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eligible business in the manner hereinbefore specified presents exceptional difficulties, the Assessing Officer may compute such profits and gains on such reasonable basis as he may deem fit. Explanation - For the purposes of this sub-section, "market value", in relation to any goods or services, means the price that such goods or services would ordinarily fetch in the open market." 3.18 No doubt it is true that burden is on the revenue to show that the assessee had so arranged the transactions with the sister concern that it provided more than ordinary profit in the case of the assessee. However, once the AO demonstrated that GP rate had increased during the year abnormally and transactions with the sister concern had also increased substantially during the year and purchase rate from the sister concern was much lower than the average sale rate of that concern, the initial onus placed on the revenue is discharged and the assessee is required to explain the matter satisfactorily as all material facts are under the control of the assessee. The GM when asked about the sudden and substantial increase in GP rate could not point out any specific reason. Subsequently, the assess ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ess in the earlier year when purchases made from this concern were nominal. Further, there is no satisfactory explanation for M/s. Sanghvi Exports selling diamonds to the assessee at a very low average rate of Rs. 3,445/- per carat where the overall average sale rate of that concern was Rs. 7,310/- per carat. The claim that lower quality diamonds had been purchased is not supported by any evidence. The assessee could have easily given the cost of purchases made from M/s. Sanghvi Exports in their books to show that there was no concession made to the assessee as M/s. Sanghvi Exports was under its control. The assessee, however did not give details despite repeated queries made by the AO. It did not even produce the copy of bills and packing list of purchases made from M/s. Sanghvi Exports despite repeated requests. These details have not been produced either before CIT(A) or even before us. It has been submitted that NP rate of M/s. Sanghvi Exports was almost the same at 18.24% compared to 18.34% in the immediate preceding year. This, however, does not explain the lower sale rate of diamonds to the assessee. Moreover, purchases from M/s. Sanghvi Exports constituted only 4% of total ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es per carat in case of group concern was 20 whereas in case of others, it was 35. Therefore, on this account also, purchase price from the group concern should have been higher. We further note from details at page 186 of the paper book that purchase rate from M/s. Sanghvi Exports in case of other grades was only Rs. 2,847/- per carat. Therefore, in our view explanation based on comparable grade is not reliable. The GM at the time of examination admitted that the assessee was maintaining reference numbers of diamonds but the same was not produced during the assessment proceedings. The assessee could easily give the cost of purchase in case of M/s. Sanghvi Exports to show that there was no concessional rate of sale to the assessee which has not been done. Under these circumstances, the authorities will be justified to go by the average rate. Identical issue had arisen in the case of the assessee in the assessment year 2002-03. The assessee in that year had sold goods at higher rate to the sister concerns M/s. Sanghvi Diamonds to generate more profits. In the present case, purchase has been made from sister concern at lower rate but the effect is the same i.e. ; shifting of profits ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... been given in para 3.4 earlier. The employee cost had gone up by about 20% this year but labour charges have declined steeply from Rs. 73.00 lacs to only Rs. 15.00 lacs though raw material consumption has declined only by 20%. The assessee has explained that employee cost went up because of increase in number of employees but details of employees was not given before the AO. The claim of overtime work was also not supported by any evidence. There is no dispute that group concern of the assessee i.e. Sanghavi Star was running a design centre at Prince Arcade outside SEEPZ where employees of the assessee were also working. The employee details of that centre were not given to the AO. Though the assessee has claimed that they had recovered the cost from Sanghvi Star complete working details are not given. Further, the assessee had staff sharing arrangements in relation to assortment activity at M/s. Sanghvi Exports where there is strong possibility of transfer of services of the staff of the assessee company. 3.23 We also note that in the immediate succeeding year labour charges have increased from Rs. 15.00 lacs to Rs. 75.00 lacs and the employee cost has also increased by abo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sallowed under section 43B, 40A(7) and 37(1). The AO had made following disallowance which had not been considered for the purpose of section 10A:- Ex-gratia Rs. 11,10,719/- Unpaid bonus Rs. 7,47,341/- Unpaid leave encashment Rs. 1,92,138/- Unpaid sales-tax Rs. 23,868/- Provisions of gratuity u/s.40A(7) Rs. 2,90,553/- Fines Penalties Rs. 4,602/- Total : Rs. 23,69,221/- The AO held that the amounts added as mentioned above would not qualify for deduction under section 10A as deduction was allowable only in respect of profit derived from export of article or things or computer software and the additions made were not the profit derived from export. In appeal CIT(A) agreed that enhancement of income by disallowance of expenses under the statutory provisions was not from exports as the source of additional profit was statutory disallowance. He, therefore, confirmed the action of the AO. 5.1 We have heard both the parties, perused the records and considered the matter carefully. The deduction under section 10A is allowable on the basis of profit of the business of the ..... X X X X Extracts X X X X X X X X Extracts X X X X
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