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TMI Blog2003 (9) TMI 11X X X X Extracts X X X X X X X X Extracts X X X X ..... ively, representing provision for after sales services based on the warranty issued at the time of sale of the transformers. The Assessing Officer disallowed the claim and added back the provision mainly on the ground that the provision is made in respect of a contingent liability and not in respect of a definite and ascertained liability. However, the said claim was allowed by the first appellate authority in appeal. The same was confirmed by the Tribunal in the appeal filed by the Revenue. Being aggrieved by the order of the Tribunal on this issue, the Department has come up in appeal. This court, while admitting the appeals, ordered notice on the following questions of law: "(1) Whether, on the facts and in the circumstances of the case also in the light of the decisions reported in A.P.S. Cold Storage and Ice Factory v. CIT [1979] 119 ITR 709 (All) and CIT v. Pretty Cycle Industries [1980] 123 ITR 227 (P & H), the assessee is entitled to claim deduction of the provisions made towards repairs of transformers? (2) Whether, on the facts and in the circumstances of the case, (i) in the absence of an ascertained liability, (ii) the provision being only on an estimate without an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the transformers and had obtained excise permission for warranty and that in the case of BHEL a provision for Rs. 90,000 has been made based on the claim made by them during the previous year. Senior counsel further pointed out that the BHEL had sent a letter dated October 20,1990, to the appellant wherein it was H mentioned that they had purchased ten numbers of OFW 2.75 MVA transformers from one of the GEC subsidiaries of M/s. ITL, Cochin, that all of them failed within a year of operation which resulted in serious dislocation at Rourkela which was brought to the notice of the chairman, GEC also. Senior counsel further submitted that the authorised representative of the assessee had furnished the details of the actual expenditure incurred for the current years which were very much higher than the provision made which had been debited in the account for the subsequent year. The senior counsel also submitted that the authorised representative had explained that the sum of Rs. 12,23,381 brought back to the accounts did not relate to any provision for B warranty claim. Senior counsel submitted that both the appellate authorities have clearly entered a finding of fact after verifying ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ted to the assessee only after March 31, 1991, this will be allowed only in the next year. Some of the correspondences filed by the assessee shows that it relates to subsequent years. Further, the exact working as to how each amount was arrived was also not filed. As seen from Schedule 11 of the balance-sheet, the assessee has written back Rs. 12,23,382 as provision no longer required. Thus, the amount of provision made is not accurate and the company is making huge provision every year and after a few years it is written back to postpone the tax liability. Because of this, the provision made by the assessee amounting to Rs. 3,50,000 is added back." The first appellate authority in its appellate order (annexure B) has considered the matter as follows: "I have considered the facts and circumstances of the case. It is seen that the provision of Rs. 3,50,000 has been made towards repairs as well as provision for expenses for assembling of cable boxes, radiators, etc., supplied by the company. For example, in the case of MES, Goa, warranty claim, the appellant has made a provision for Rs. 42,000 towards replacement of HF/LV coils and leak repeated failure of the transformer. It has a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... thus: "Considering the submissions on both sides and on verifying the facts, we are of the view that the Commissioner of Income-tax (Appeals) was justified in holding that the assessee was entitled to deduct the sum of Rs. 3,50,000 representing the provision for repairs. It is not disputed that the provision was created for repairs/replacement of the transformers and other equipment supplied by the assessees. From the order of the Commissioner of Income-tax (Appeals), we find that in the case of MES, Goa, the assessee had made a provision for Rs. 42,000 towards replacement of HF/LV coils for setting right the repeated failure of the transformer. The provision was created after ascertaining the extent of the repairs required on the transformer supplied to them. In respect of the transformer supplied to BHEL, a provision for Rs. 90,000 was created after noticing that the machinery had failed within a year of operation, resulting in serious dislocation of production. The concern had brought to the notice of the company the defects in the transformers. The Commissioner of Income-tax (Appeals) thus found that in respect of various items the provisions were created on the basis of defin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t the Tribunal has found as a fact that the claim of deduction for the amount of Rs. 3,50,000 made towards after sales services is an ascertained liability. We do not find any illegality in the said finding of the Tribunal. As already noted if the finding of the two appellate authorities that the provision made is for an ascertained liability is upheld questions Nos. 1 and 2 stand answered to the effect that the assessee is entitled to the claim for deduction made before the Assessing Officer on this account. Now we will deal with the decisions relied on by standing counsel for the Revenue. In Indian Molasses Co. (P.) Ltd. v. CIT [1959] 37 ITR 66, the Supreme Court considered the question regarding the principles to be applied for allowing business expenditure and observed thus: "The income-tax law does not allow as expenses all the deductions a prudent trader would make in computing his profits. The money may be expended on grounds of commercial expediency but not of necessity. The test of necessity is whether the intention was to earn trading receipts or to avoid future recurring payments of a revenue character. Expenditure in this sense is equal to disbursement which, to use a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 63 per cent, of all vehicles sold would contain defects requiring repair under warranty. In calculating its assessable income for the year ending December 31, 1988, the taxpayer claimed as a deduction the amount of a reserve for its anticipated liabilities under unexpired warranties in respect of vehicles sold in that year. In assessing the taxpayer to income-tax for the year ending March 31, 1989, based on the taxpayer's return of income furnished on December 31,1988, the Commissioner disallowed that deduction. On a case being stated in the High Court of New Zealand the judge held that the warranty provision was deductible expenditure within section 104. However, the Court of Appeal of New Zealand held that it was not H deductible under section 104. On the Commissioner's appeal to the Judicial Committee of the Privy Council it was observed thus: "The taxpayer's liability under the warranty for each vehicle sold was contingent on a defect appearing and being notified to the dealer within the warranty period so that no liability was incurred by the taxpayer until those conditions were satisfied, regard could be had to its estimation of warranty claims based on statistical informati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es it is more serious. Sixty three per cent, of the vehicles sold by the taxpayer in the year 1988 were returned to the dealers for some kind of work to be done under the warranty. Although it cannot of course be predicted whether any particular vehicle will turn out to be defective or how serious the defect will be, the taxpayer can make a reasonably accurate forecast, based on previous experience, of what will be the total cost of remedial work for all the vehicles sold in a given year. Normal commercial practice, therefore, requires that this amount should be brought into account as a deduction from income in estimating the profits or gains of the business in the year in which the vehicles were sold." It was observed that the question whether the expenditure has been "incurred" involves characterising the nature of the legal relationship between the taxpayer and the person to whom the obligation is owed, that one view is that it requires one to decide as a matter of construction whether the obligation is contingent or vested but defeasible and that this is a nice distinction which can easily become a matter of language rather than substance and on which judicial views may diffe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Their Lordships think it would be strange if a concept so eminently practical as the computation of profits for income-tax depended upon theoretical distinctions more appropriate to the rule against perpetuities. The question is rather whether, in the light of all the surrounding circumstances, a legal obligation to make a payment in the future can be said to have accrued. For this purpose, merely theoretical contingencies can be disregarded. In Coles Myer Finance Ltd. v. Federal Commissioner of Taxation 176 CLR 640, 671-672, Deane J. gave some examples of linguistic contingencies which were soon unlikely as not to affect the certainty of the obligation. And in Commercial Union Assurance Co. of Australia Ltd. v. Federal Commissioner of Taxation 14 ALR 651, 659-660, Newton J. felt able to disregard a condition in an insurance policy requiring notice of the occurrence of an insured event to be given within a stipulated time on the ground that, according to the evidence, the condition was hardly ever insisted upon. If one asks whether in respect of each of the vehicles sold by the taxpayer, the warranty conditions make its liability contingent in substance as well as in form, the an ..... 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