2022 (9) TMI 1576 - HC - Income Tax

Nature of expenditure - Commission paid to the Managing Director - appellant company is following mercantile system of accounting and such method of accounting has been accepted by the department in all the other years - Tribunal held that the expenditure incurred can be treated as Revenue expenditure and not as capital expenditure HELD THAT - On a careful perusal of the order of the Assessment Officer we are of the view that the methodology adopted by the Revenue is perfectly correct for the simple reason that it is not disputed that the amount has been shown as expenditure and that the payment has been made to the Managing Director. However the amount has been received by the beneficiary only for the subsequent Assessment Year which does not mean that as long as the Appellant has not shown the payment in the Books of Accounts in respect of liability it cannot be stated that the expenditure was incurred during 2004-2005 as such expenditure would be ratified only after Board s meeting. We have no other option but to dismiss this Appeal. Accordingly this Tax Case Appeal is dismissed and the question of law answered against the Assessee and in favour of the Revenue.

Summary

Issues:
1. Deductibility of commission paid to Managing Director for Assessment Year 2004-05 under mercantile system of accounting.

Analysis:

Issue 1: Deductibility of commission paid to Managing Director for Assessment Year 2004-05 under mercantile system of accounting

The case involved a Tax Case Appeal filed by the Assessee challenging the order of the Income Tax Appellate Tribunal related to the Assessment Year 2004-05. The Appellant, engaged in mental arithmetic training, claimed a deduction for royalty paid to the Franchisor. The Assessing Officer disallowed the claim as capital expenditure, but the Commissioner of Income Tax (Appeals) allowed it considering past treatment. The Tribunal allowed the appeal regarding payment to the Managing Director, treating royalty payments as revenue expenditure. The key issue was whether the Rs. 30 lakhs payment to the Managing Director was deductible based on a resolution allowing the payment. The Tribunal found that the liability arose only upon approval by the company in the annual general meeting, deciding in favor of the Revenue.

The Appellant argued that the Tribunal erred in disallowing the Commission payment, citing the acceptance of the mercantile system of accounting in trade business. Referring to the Metal Box Company case, the Appellant emphasized that accrued but discharged liability must be allowed under the mercantile system. The Respondent's counsel defended the Tribunal's decision, stating the expenditure was rightly treated as revenue expenditure, not capital expenditure.

The Court upheld the Revenue's methodology, noting that the payment was shown as expenditure but received in a subsequent year. The Court emphasized that until the payment was recorded in the Books of Accounts, it could not be considered as incurred during 2004-05. Consequently, the Appeal was dismissed, with the question of law answered against the Assessee and in favor of the Revenue.

In conclusion, the Court's decision highlighted the importance of proper accounting treatment and timing of payments in determining deductibility under the mercantile system, ultimately leading to the dismissal of the Tax Case Appeal.