TMI Blog2006 (7) TMI 282X X X X Extracts X X X X X X X X Extracts X X X X ..... st on deposit in lien with the bank as a precondition for sanction of loan, be netted off against the interest paid to the bank? He submitted why the ratio of the Hon'ble jurisdictional High Court in the case of CIT vs. V. Chinnapandi (2006) 201 CTR (Mad) 13 : (2006) 282 ITR 389 (Mad) is not applicable to the present case. He submitted that there are two streams of cases which have to be considered, that have evolved based on two different factual dispositions. Stream A is a case where the income is computed by reducing certain expenses from the gross receipt and whether the gross receipt is to be taken or net receipt, would be an issue of contention. For instance, the issue of gross interest or net interest for the purpose of s. 80M, where there were expenses for earning a dividend income. The decision of the Madras High Court in the case of V. Chinnapandi considers only the case of whether for the deduction under s. 80HHC, the expenses related to the interest income can be allowed as a deduction or not. In this context, the Court has stated that the statute has provided for a 10 per cent deduction from the gross and nothing more can be claimed as a deduction. Therefore, the ratio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not apply to the case of the assessee. 4. Shri K. Ravi, the learned counsel of the assessee, further submitted that the Hon'ble jurisdictional High Court in the case of CIT vs. A.S. Nizar Ahmed Co. (2003) 179 CTR (Mad) 598 : (2003) 259 ITR 244 (Mad) has held that the deposit is made in pursuance of a precondition for enjoying a credit facility. At p. 247 of the report, it was held as under: "In cases where security deposit is required to be given before enjoying a facility as in the case of supply of electricity or in a case where the deposit is a precondition for enjoying a credit facility essential for running the business, the making of the deposit would be regarded as being inextricably linked to the running of the business of the assessee, so as to enable the assessee to regard the interest derived on deposit as being part of its business income." He submitted that it is absolutely clear that the jurisdictional High Court has held that in all cases where the margin money deposit bears fruit by way of interest, it should be construed as a fruit for the business endeavor and be held as "income from business". In view of the above cited decision, since the assessee has ma ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... penses to be allowed as deduction against the receipts such as interest, brokerage, commission, etc. But this deduction is only for common expenses. Deduction in respect of expenditure which has a nexus with the receipts of the nature referred to in the Explanation has to be allowed further, which is not prohibited. Such common expenses are generally the indirect or fixed expenses which every businessman has to incur to continue in business, such as salaries and wages, other administrative expenses and so on. In addition to such common expenses there may be expenses which have a direct bearing or nexus with the receipts by way of interest, commission, brokerage, rent, etc. If such receipts are to be taken out of profits of the business on the footing, that they have no connection with the business profits or the turnover, it seems only fair and reasonable to hold that the expenditure having a nexus with such receipts should also be taken out of the business profits on the same footing. The word "receipts" used in the clause does not refer to gross receipts merely because the word "net" is not used before it; nor does it mean, as was suggested on behalf of the Department, to denote ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he monies, funds and securities of the customer coming into its possession in the course of their dealings for repayment of the customer's indebtedness. This latter right is known as banker's lien and it rests on the principle of the law merchant that any credit given by bank to a customer is given on the faith that sufficient monies and securities belonging to the customer will come into the possession of the bank in the due course of further transactions. The right is akin to the right of set off which obtains between persons occupying the relation to debtor and creditor and between whom there exist mutual demands. As mutuality is essential to the validity of a set off, it is necessary that before one demand can be set off against another, both must mutually exist between the same parties and between them in the same capacity. It has been held in the case of Brahmayya Co. vs. K.P. Thangavelu Nadar AIR 1956 Mad 570 that a lien under s. 171 can be exercised only over property of someone else and not his own property. Thus when goods are deposited with or securities are placed in the custody of a bank it would be correct to speak of the rights of the bank over the security or the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sit, continued to hold the deposit as it is and debited the payout by debiting the cash credit account thereby increasing the interest payable by the assessee as well as paying interest to the assessee. The Hyderabad Bench of the Tribunal held that though for the purpose of accounting, the transactions may appear to be independent transactions, one by way of FDR as margin and another by way of loan taken by the assessee, yet in truth and reality, there was only one transaction, more particularly in view of the fact that the guarantee was invoked and guarantee money paid formed part of the total loans. Interest on FDR which was kept as margin money for giving guarantee could not be seen de hors the inaction of the bank to adjust the margin against the guarantee invoked. On the other hand, interest was payable on the loan amount including the guarantee amount, yet, on the other hand, interest on margin FDR was taxed, a fact which could not be said to be justified in the eyes of law. He also submitted that the decision of the Madras High Court in the case of K.S. Subbiah Pillai Co. (India) (P) Ltd. vs. CIT (2003) 179 CTR (Mad) 522 : (2003) 260 ITR 304 (Mad) has negatived the set off ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... omputed. The legislature put forth a thumb-rule of determining the profits from export. The profits and gains of the entire business of the assessee was divided by the total turnover which will give the average rate of profit per rupee of turnover of the business. This average rate of profit is to be multiplied by the export turnover, which will give the deemed profits of the business from the export-at the same rate of profitability for the entire business. It was immaterial whether exports actually yielded profits. 14. The learned counsel of the assessee further submitted that the profits and gains for the entire business have to be taken and no part of it is to be excluded therefrom, as not relating to exports or otherwise (CBDT Circular No. 564, dt. 5th July, 1990 [(1990) 85 CTR (St) 53 : (1990) 184 ITR (St) 37]. Such exclusion is not contemplated in view of the fact that such profits or gain is to be multiplied by the ratio of export turnover to total turnover. Therefore no profits can be excluded as not being related to exports or relief cannot be denied because there is no profits from exports. There is no such restriction under s. 80HHC and the formula prescribed in sub-s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... means main line of business employing resources of the assessee. In fact the Bombay High Court has also concluded that interest earned from moneylending activity cannot be excluded under cl. (baa). 16. He submitted that, therefore, it is essential to examine each receipt to see whether it is a receipt arising from or connected with the business activity or it is a sundry receipt which has no connection whatsoever with the business activity. If the receipt is connected with the business activity then the same cannot be excluded from profits and gains under Expln. (baa). Whether a receipt is connected with business activity is to be decided on the facts of each case. But it may be useful to consider the decisions rendered under s. 80-I, 80E, wherein profits "attributable" to an undertaking was given relief under that section. While Courts have held that "profits attributable to" is wider than "profits derived from", profits attributable to an undertaking should be considered as part of the operational activity of the undertaking and if such receipts can be considered as attributable to an undertaking the same cannot be excluded under cl. (baa). The Supreme Court in the case of Vel ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eld that interest income should be taken into account for computing relief under s. 80HHC. This being the latest decision of the Madras High Court is binding on the lower authorities and therefore this has to be followed. In the case of V. Chinnapandi, the Madras High Court was concerned with interpretation of Expln. (baa) and whether the gross receipts were to be considered or the net receipts. In that case the High Court was not considering what are the various receipts that are to be excluded under Expln. (baa). A decision of the High Court cannot be an authority for an issue which was not before it or was not considered by it, [CIT vs. Sun Engineering Works (P) Ltd. (1992) 107 CTR (SC) 209 : (1992) 198 ITR 297 (SC) at p. 320]. But in the latter case of CIT vs. Sharp Industries, specific issue before the High Court was whether interest income can be excluded under Expln. (baa). Thus the decision not only is on the specific issue and is the latest decision of the jurisdictional High Court on the issue. The High Court has not decided on jurisdiction alone but has clearly spelt out that ratio of the decision in N.S.C. Shoes is to be applied. 18. Further, Shri T.N. Seetharaman, th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and interest paid in cases where net profit is the criterion. What has to be looked into under s. 80HHC is "business profits" and this is not the same as in s. 80-I where the concept of "derived from an undertaking" is considered. There is no concept of "derived from" under s. 80HHC. All that is to be seen is whether the interest in question is assessed as "business profits" and if so the interest component included in such business profits should be excluded in terms of Expln. (baa) to s. 80HHC and the formula applied. There seems to be confusion on the concept of "profits of business" as contemplated under s. 80HHC and the concept of "income derived from" contemplated under s. 80-I. All that is to be seen under s. 80HHC is whether it is "profit from business" or not and then, if it is so, apply the formula. Looking at the matter from any angle, the order of the first appellate authority has to he upheld, by following the order of the Tribunal in the case of the assessee for the earlier years." 19. On the other hand, the learned Departmental Representative, Shri Shaji P. Jacob, first of all argued that cl. (baa) to Explanation to s. 80HHC was brought on statute book w.e.f. 1st A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... judgment which read as under: "It is fairly submitted by the learned counsel for the Revenue that the issue raised in the question is covered against the Revenue by the decision of this Court in CIT vs. N.S.C. Shoes (2003) 179 CTR (Mad) 524 : (2002) 258 ITR 749 (Mad), wherein it is held that the interest income is also eligible for deduction provided it is included in the computation of profits and gains of the business. Applying the ratio laid down by this Court in the decision cited supra, we hold that the Tribunal was right in holding that the claim of the assessee could not be disallowed in a proceeding under s. 154, especially when the interest income was included in the profit of the business. Hence, there is no error in the order of the Tribunal and no substantial question of law arises for consideration for this Court. Hence, the appeal is dismissed. No costs." He argued that this case law is purely on a debatable issue, whether rectification proceedings under s. 154 can be carried out on debatable issue or not. This case law is not at all applicable to the facts of the present cases. 21. As per cl. (baa) to Explanation to s. 80HHC, 'profits of business' means the p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion relating to definition of 'total turnover'. This amendment is consequential to the amendment proposed under sub-cl. (e)(ii)(1) relating to new definition of this expression." 'The Memorandum explaining provisions in the Finance (No. 2) Bill, 1991 reads as under: "............. The existing formula may also give a distorted figure of export profits when receipts like interest, commission, etc., which do not have an element of turnover are included in the P L a/c. It is, therefore, proposed to clarify that "profits of the business" for the purpose of s. 80HHC will not include receipts by way of brokerage, commission, interest, rent, charges or any other receipt of a similar nature. As some expenditure might be incurred in earning these incomes, which in the generality of cases is part of common expenses, it is proposed to provide ad hoc 10 per cent deduction from such incomes to account for these expenses. It is also proposed to clarify that "profits of the business" for the purpose of s. 80HHC will not include profits of any branch, warehouse, etc., situated overseas. These amendments will take effect from 1st April, 1992, and will, accordingly, apply in relation to as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee is carrying on the business of financing because in the case of financing, the interest income which accrues to the assessee, will have the element of turnover and in such a case, receipts like interest, will not attract Expln. (baa). The point which we would like to make, therefore, is that in every matter the AO will have to ascertain whether receipt of interest, commission, labour charges, etc., were a part of operational income. We cannot lay down any standard test for deciding what would constitute operational income. Broadly, the Department will have to consider the memorandum and articles of association of the company, the nature of the business, the nature of the activity and such other tests. The Department will also have to ascertain as to what is the dominant business of the company and whether receipts like interest, commission, etc., accrue as a part of the main business activity or whether they accrue out of incidental business. In the case of CIT vs. K.K. Doshi Co. (2000) 163 CTR (Bom) 472 : (2000) 245 ITR 849 (Bom), the assessee had received Rs. 19.60 lakhs as service charges. It was held that the service charges of Rs. 19.60 lakhs did not have the el ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... erest or charges as mentioned in Expln. (baa) to s. 80HHC. Further, the assessee received Rs. 66,35,083 as processing charges. This can be seen from the P L a/c. The company is engaged in manufacture and sale of garments, both domestically and by way of exports. The processing charges earned was by using the entire undertaking of the company which also manufactured garments for domestic sales and export sales and which processing charges were earned by incurring expenditure for the factory like wages, electricity charges, etc., debited in the P L a/c. That, the income of Rs. 66,35,083 was only an income from business and the expenditure for earning this income is included in several items of expenditure debited in the P L a/c. In these circumstances, we do not wish to interfere with the finding of fact recorded by the Tribunal. As stated above, if the receipt of labour charges (job work charges), interest, commission, etc., accrues by way of operating income then it falls outside Expln. (baa). In the present case, the receipt accrued from manufacturing activity. The Tribunal has found that job processing activity was linked to the manufacturing activity of the assessee. In the circ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ry heavily criticized the deduction granted to the assessee-company on account of this interest receipts. She points out that the words used in s. 80HH are: 'Where the gross total income of an assessee includes any profits and gains derived from the industrial undertaking..... to which this section applies there shall, in accordance with and subject to the provisions of this section, be allowed, in computing the total income of the assessee, a deduction from such profits and gains of an amount equal to twenty per cent thereof.' Learned counsel invites our attention that the emphasised words would suggest that the deductible income must have been 'derived' from the industrial undertaking. Learned counsel claims that the words 'derived from the industrial undertaking' would suggest that the said income must be solely relatable to the industrial undertaking and the interest earned by the assessee on its deposits though for getting letters of credit from its banks cannot be held to be the profits and gains derived from the industrial undertaking and would obviously be income from other sources. Learned counsel buttresses her contention on the basis of the decision reported in CIT ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the industrial undertaking.' As regards the facts of the case concerned, the apex Court held in that case that the nexus was not direct but only incidental. There the apex Court was considering the case of an assessee who was engaged in processing prawns and other seafood which it exported and in that it also earned some import entitlements granted by the Central Government under the Export Promotion Scheme. Such import entitlements could be used by the assessee itself or could also be sold to others. The assessee had sold the import entitlements which it had earned to others and the total income for the assessment included the sale proceeds of such import entitlements in respect of which relief was granted under s. 80HH of the IT Act. The High Court had held in favour of the assessee. However, the Supreme Court found that such sale of the import entitlement could not be said to be an income directly attributable to the industrial undertaking. The Supreme Court observed: 'The industrial undertaking exports processed sea food. By reason of such export, the Export Promotion Scheme applies. Thereunder, the assessee is entitled to import entitlements, which it can sell. The sale c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y may have helped to earn the said income or profit in an indirect or remote manner.' We agree with this decision, which is binding on us. The aforementioned decision has only been further strengthened by the subsequent decision of the apex Court. We are, therefore, of the clear opinion that the interest which is earned by the assessee from the bank deposits would not have a direct nexus with the industrial undertaking of the assessee and would only be incidental income thereto and, therefore, such interest has to be ignored from the allowable profits under s. 80HH. We answer the reference on this count against the assessee. Let us now consider the interest earned by the assessee on belated payments. There can be no doubt that this interest would, however, be directly relatable to the business of the assessee of forgings. If the purchasers of the forgings did not make the payments for the forgings and then agree to pay the interest on delayed payments, the said interest would have direct nexus with the business of forgings. The true test would be whether such interest would be available to the assessee otherwise also. The answer to the question would be certainly in the negativ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e the cost of its assets. These are receipts of a capital nature and cannot be taxed as income." Further, in the decision cited by the ld, counsel of the assessee in the case of CIT vs. Karnal Co-operative Sugar Mills Ltd., the apex Court held that the assessee had deposited money to open a letter of credit for the purchase of machinery required for setting up its plant in terms of assessee's agreement with the supplier. It was on the money so deposited that some interest had been earned. This was, therefore, not a case where any surplus share capital money which was lying idle had been deposited in the bank for the purpose of earning interest. The deposit of money in the present case was directly linked with the purchase of plant and machinery. Hence, any income earned on such deposit was incidental to the acquisition of assets for the setting up of the plant and machinery. The interest was a capital receipt, which would go to reduce the cost of asset. 32. Even the learned counsel, Shri K. Ravi argued that the jurisdictional High Court in the case of CIT vs. Chinnapandi has relied on Rani Paliwal vs. CIT, wherein the claim of the assessee was to reduce the interest paid of Rs. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... vided a return at the rate of 10 per cent. That was in the nature of an additional source of income to the assessee which was not in any way linked to the business that it was carrying on. The credit facilities enjoyed by the assessee from the bank had been extended to it by charging interest at a rate lower than the one which the assessee was receiving on its deposits. The assessee, therefore, had found it advantageous to borrow money from the bank and have those borrowed funds used in the business. The interest income that the assessee received on its own funds kept in deposit with the bank, therefore, did not have any direct link with the business that was being carried on with the funds made available to the assessee by the bank by way of loans on which the assessee was required to pay less interest. The fact of this case would go to show that though the assessee wanted the interest income to be treated as business income, the AO as also the CIT had found, in our opinion rightly, that the claim could not be sustained. The true character of the income not being business income, the fact that the assessee had claimed it to be business income will not make it so." 34. Regardin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r related such expenditure may be to the receipts. It is in this view of the matter that the expression 'receipt by way of' has been used in the section and not 'income' of that nature. In view of the above, we are of the view that 90 per cent of the interest that is deductible for the claim under s. 80HHC of the Act is from the gross interest received by the assessee and that the amount of interest paid by the assessee should not be deducted therefrom and, hence, we answer the above question in favour of the Revenue and against the assessee and allow the tax case filed by the Revenue." 36. The argument of the learned counsel of the assessee, Shri R. Vijayaraghavan, is that Expln. (baa) provides for exclusion of 90 per cent of the receipts like brokerage, commission, etc. from the business profits. This would show that the legislature wanted to exclude only such receipts where the expenditure for earning the same is not more than 10 per cent of the receipts. For this, the words "brokerage, commission.... any other receipts of similar nature" would show that the principle of ejusdem generis is to be applied and only such receipts, which have an underlying common characteristics, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he first question there is considerable confusion. The AO, according to counsel for the Revenue, has not deducted the amount of interest assessed under the head "Income from other sources". The appellate order proceeds on the basis that there has in fact been such deduction and that such deduction could be made from the profits even though the interest received is not assessed under the head 'Profits and gains of business or profession'. That view of the CIT has been affirmed by the Tribunal. Clause (baa) under the Explanation to s. 80HHC defines profits of the business as contemplated under the head "Profits and gains of business or profession". The deductions to be made are from the amount of profit so computed and not from the amount computed under any other head of income of that assessee. The reference to 'such profits' in sub-cl. (1) of cl. (baa) can only be to the profits of the business computed under the head "Profits and gains of business or profession". Addition of prefix "the" to "profits" in cl. (baa), while referring to the profits and gains of business or profession makes it clear that it is only the amounts already included in that computation which are now to b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ross receipts of such nature will be excluded while computing the export profit for the purpose of computation of deduction from the profits of the business and this cl. (baa) does not speak about netting of the receipt of the types mentioned therein. Clause (baa) to Explanation to s. 80HHC speaks about profits of the business but does not include receipts which do not have any element of turnover like rent, interest, commission, etc. But some expenditure might be incurred in earning such incomes and an ad hoc 10 per cent deduction from such incomes is provided to account for those expenses. Accordingly, even if the receipts in the nature of interest, commission, etc. are considered as business income, 90 per cent has to be excluded while computing deduction under cl. (baa) to Explanation to s. 80HHC and this 90 per cent will be excluded out of the gross receipts while computing export profit for the purpose of deduction under this provision in view of the above discussion. 39. In view of the above, we shall now proceed to decide each of the appeals filed by the assessee and the Revenue. ITA Nos. 856/2000 and 1290/2001: 40. In these appeals, the Revenue has contended that 90 ..... X X X X Extracts X X X X X X X X Extracts X X X X
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