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2023 (5) TMI 1440 - AT - Income TaxDisallowance of 20% of management fees - as submitted management fees could be paid without knowing the cost of services and such management fees could not have been paid in terms of percentage of revenue - CIT(A) deleted addition HELD THAT - AO has made the addition merely on ad hoc basis without questioning the books of account who has accounted the entire receipts in its books and offered the same to tax. Moreover all the services have been rendered by AAPL to the assessee company as per corporate services agreement that all services of AAPL have been allowed at 1.5% of sales of the assessee . The assessee brought on record the fact that AAPL has agreed to provide use of trade mark and various other corporate/ management services which include wide ranging provisions for giving of all marketing industrial manufacturing commercial and scientific knowledge experience and skill for the efficient working and management of the company in which it has charges a consolidated bundled fees @1.5% of sales for the use of trademark and all other services referred to above. The assessee has brought on record the entire details of management services rendered by AAPL group company along with copies of invoices raised and also ledger account of management fee in books of account which has been duly examined. Assessee company has also brought on record detailed quantification of services rendered by group company but the AO without questioning the same on merit merely proceeded to made the addition on ad hoc basis by way of estimation and guess work which is not sustainable in the eyes of law. Revenue has failed to dispute the legal proposition mooted out by the coordinate bench of Tribunal in case of Spicer India Pvt. Ltd. 2017 (4) TMI 908 - ITAT PUNE wherein identical services were also taken from AAPL @2.85% of sales of the assessee. Moreover expenditure has to be examined with the businessman s stand point and revenue authority cannot sit in the chair of the businessman to decide as to availing of any services to run its business. Decided in favour of assessee.
1. ISSUES PRESENTED and CONSIDERED
The core legal questions considered by the Tribunal in this appeal are: (a) Whether the disallowance of 20% of the management fees paid by the assessee to its group company, on the ground that such fees were charged as a percentage of revenue without a clear cost base, was justified in law and on facts. (b) Whether the assessee failed to establish the business exigency and the wholly and exclusively business purpose of the management fees expenditure, thereby justifying the disallowance. (c) Whether the Assessing Officer (AO) was justified in making an ad hoc disallowance without specific evidence of excessive charges or non-provision of services. (d) The applicability of the principle of commercial expediency and the extent to which the revenue authorities can interfere with the business judgment of the assessee in incurring expenditure for management services. 2. ISSUE-WISE DETAILED ANALYSIS Issue (a): Validity of Disallowance of 20% of Management Fees Charged as Percentage of Revenue Relevant legal framework and precedents: The Tribunal relied heavily on the principle of commercial expediency as expounded by the Supreme Court in the cases of Hero Cycles (P) Ltd. vs. CIT and S.A. Builders Ltd. vs. CIT(A), which establish that expenditure incurred by a prudent businessman for the purpose of business is allowable even if not legally obligatory. The Tribunal also referred to a coordinate bench decision in the case of Spicer India Pvt. Ltd., a group company of the assessee, where management fees charged @2.85% of sales were upheld as allowable. Court's interpretation and reasoning: The Tribunal observed that the management fees were charged under a corporate services agreement at a fixed rate of 1.5% of net sales, covering a bundle of services including the use of the "Gabriel" trademark and various management and corporate services. The Tribunal emphasized that the AO's disallowance was ad hoc, based on the absence of cost base details, without questioning the actual services rendered or the books of account. Key evidence and findings: The assessee produced the agreement with the group company Anand Automotive Pvt. Ltd. (AAPL), invoices raised on the basis of 1.5% of sales, ledger accounts evidencing payments, and detailed quantification of services rendered. It was also noted that AAPL accounted for the entire receipts and offered the same for tax, including payment of service tax. Application of law to facts: Applying the principle of commercial expediency, the Tribunal held that the assessee, as the best judge of its business needs, was entitled to incur such expenditure for smooth business operations. The AO's ad hoc disallowance lacked specific proof of excessive or unwarranted charges and was therefore unsustainable. Treatment of competing arguments: The revenue argued that management fees could not be paid as a percentage of revenue without knowing the cost of services and that no tangible benefit was derived. The Tribunal rejected this, stating that no specific instance of non-provision of service or excessive charge was demonstrated, and the revenue authorities cannot act as a businessman to second-guess the expenditure. Conclusion: The disallowance of 20% of management fees on an ad hoc basis was unjustified and rightly deleted by the CIT(A). Issue (b): Business Exigency and Wholly and Exclusively Business Purpose of Management Fees Relevant legal framework and precedents: Section 37(1) of the Income Tax Act permits deduction of any expenditure incurred wholly and exclusively for the purpose of business. The Supreme Court's rulings on commercial expediency were again pertinent. Court's interpretation and reasoning: The Tribunal found that the assessee had demonstrated that the management fees were paid for a wide range of services necessary for the efficient working and management of the business, including marketing, industrial, manufacturing, commercial, and scientific knowledge and skills. The Tribunal noted that the services were rendered under a written agreement and that the fees were charged as a consolidated bundled amount. Key evidence and findings: The assessee's production of detailed invoices, ledger accounts, and the corporate services agreement supported the claim that the expenditure was incurred wholly and exclusively for business purposes. The Tribunal also noted that the recipient company had accounted for the fees as income and paid service tax. Application of law to facts: The Tribunal applied the principle that where there is a nexus between the expenditure and the business purpose, the revenue cannot interfere merely because it disagrees with the quantum or mode of payment. The assessee's evidence established the business exigency and exclusive business purpose of the expenditure. Treatment of competing arguments: The revenue's contention that the assessee failed to prove business exigency was dismissed due to lack of specific evidence or demonstration of non-provision of services. Conclusion: The management fees were incurred wholly and exclusively for business purposes and hence allowable under Section 37(1). Issue (c): Legitimacy of Ad Hoc Disallowance Without Specific Evidence Relevant legal framework and precedents: It is well established that disallowances must be based on tangible evidence or specific discrepancies and cannot be made on mere guesswork or estimation. Court's interpretation and reasoning: The Tribunal criticized the AO's approach of making a 20% disallowance on an ad hoc basis without questioning the books of account or pointing out any specific irregularity. The Tribunal held that such an approach is not sustainable in law. Key evidence and findings: The absence of any audit or detailed inquiry into the services rendered or the cost base, coupled with the fact that the recipient accounted for the income and paid service tax, negated the AO's rationale. Application of law to facts: The Tribunal applied the principle that the burden of proof lies on the revenue to establish that the expenditure is not allowable. An ad hoc disallowance without evidence cannot be sustained. Treatment of competing arguments: The revenue failed to produce any evidence to justify the ad hoc disallowance. Conclusion: The ad hoc disallowance was rightly set aside. Issue (d): Extent of Revenue's Interference with Business Judgment Relevant legal framework and precedents: The Supreme Court's rulings on commercial expediency emphasize that the revenue authorities cannot substitute their judgment for that of the businessman in deciding the reasonableness or necessity of expenditure. Court's interpretation and reasoning: The Tribunal reiterated that the assessee is the best judge of the expenditure necessary for smooth business operations. The revenue cannot sit in judgment over the business decisions unless there is clear evidence of excessiveness or non-provision of services. Key evidence and findings: The Tribunal relied on the coordinate bench decision in the Spicer India case where similar management fees were allowed, reinforcing that such expenditure is permissible if commercially expedient. Application of law to facts: The Tribunal applied the principle that the nexus between expenditure and business purpose is sufficient for allowance and that the revenue's role is not to second-guess commercial decisions. Treatment of competing arguments: The revenue's attempt to challenge the mode and quantum of fees was rejected as beyond the scope of their authority absent concrete evidence. Conclusion: The revenue's interference was unwarranted and the expenditure was rightly allowed. 3. SIGNIFICANT HOLDINGS The Tribunal held: "The Assessing Officer cannot sit in judgment of businessman position in incurring any expenditure. The Hon'ble Supreme Court in Hero Cycles (P) Ltd. Vs. CIT have applied the ratio laid down by the Apex court in S.A. Builders Ltd. Vs. CIT(A) and another and upheld the scope of commercial expediency, wherein it was held that The expression 'commercial expediency' is an expression of wide import and includes such expenditure as a prudent businessman incurs for the purpose of business. The expenditure may not have been incurred under any legal obligation, but yet it is allowable as a business expenditure if it was incurred on grounds of commercial expediency. Where there is nexus between the expenditure incurred and the purpose of business, then the revenue cannot put itself in the arm chair of the businessman to decide how much of the expenditure is reasonable." Further, the Tribunal concluded: "The adhoc disallowance of 20% of management fees is not sustainable unless specific discrepancies are brought out which is not the case here. On the other hand, the appellant has stated that various services are being rendered by the payee, in terms of a written agreement. Hence the claim of expenses u/s. 37(1) by the appellant is allowed." The core principles established include:
The final determination was that the impugned disallowance was unsustainable and the appeal filed by the revenue was dismissed, affirming the allowance of the entire management fees expenditure claimed by the assessee.
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