TMI Blog1992 (3) TMI 109X X X X Extracts X X X X X X X X Extracts X X X X ..... ia under section 294AA of the Companies Act, had appointed L T as its sole selling agent in the year 1970. This arrangement was renewed every fifth year after obtaining similar approval of the Government of India. The Income-tax Department, with a view to understand the transaction relating to the sole selling agency between the assessee and the L T, conducted a survey. During the survey the list mentioning the prices at which EWAC sold the goods to the L T and the list of prices at which the L T sold the goods to the customers were obtained. The gate-passes of excise duty and invoices for excise duty were also collected. As a result of this survey, the department came to the conclusion that enormous margin of profit had been given to the sole selling agency, i.e., L T. The assessing officer was of the opinion that since 1979 L T had 60 per cent holding in the assessee-company, it was in a commanding position to dictate the terms to suit its convenience. Though the Board of Directors had equal representation by L T and the non-resident share-holders, i.e., Eutectic Corporation, U.S.A., still the shareholding was the most important factor in controlling and managing th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sing officer made the disallowance as under : (Rs. in lakhs) Sales as per statement 1,645.32 Add : Discount as discussed above 180.03 --------------- 1,825.35 Less : Cost of goods for resale 1,172.38 --------------- 652.97 Estimated profits @ 25% on Rs. 1,825.35 lakhs 456.34 --------------- 196.63 Add : Profit on goods for self-consumption on estimate 15.00 --------------- 211.63 --------------- Thus the assessing officer made a total addition of Rs. 211.63 lakhs on the ground that the assessee had made diversion of its profits to L T for non-commercial consideration. 4. On the matter being taken up in the first appeal, the learned CIT(A) has deleted the addition of Rs. 15 lakhs representing the estimated profit on goods for self-consumption, i.e., the goods purchased by L T from EWAC Alloys Ltd. and consumed for its (L T's) own purposes. The learned CIT(A) thus confirmed the addition to the extent of Rs. 196.63 lakhs. 5. A reading of the impugned order of the learned CIT(A) shows that on behalf of the assessee, the following submissions were made before him :---- (a) L T had all along been and continues to be a professionally mana ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e-tax Authorities. (h) Similar arrangements had been approved earlier and in all there have been five approvals under section 294(AA) of the Companies Act. (i) The purchase of know-how by the assessee-company from Eutectic cannot be considered as diversion of profits from the assessee-company to Eutectic so as to compensate the foreign share-holder for the alleged diversion of profits to L T. (j) L T's profit was Rs. 91,30,000, which was arrived at by debiting the expenditure incurred in the selling operations. Therefore, the margin was not excessive. In fact, the margin percentage on net sales owned by L T's Eutectic Division had not exceeded the margin in earlier years. (k) If the assessing officer's margin is substituted for the contractual margin, L T will make a loss of Rs. 1.20 crores. (l) The appointment of stockists is commercially justified as will be evident from the details given in the application under section 294(AA) and the Government has approved such appointment and the discount payable to them. This commerciality cannot be questioned by the assessing officer. (m) The excise duty aspect has no relevance to the arrangement. (n) L T's purch ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the profit of L T, the learned CIT(A) has observed that the assessee-company, in actual working, could not debit notional interest in such computation. Secondly, warehousing at 12 per cent of average inventory claimed on notional basis came to Rs. 400 per M.T. of the highly value added Eutectic stores. This notional (not actual) cost was too high. Thirdly, allocation of group expenses was not on actual but notional basis. This was not verifiable. Thus the net margin of L T could not be as low as 5.6 per cent when the gross margin was as heavy as 77 per cent or more on purchase cost (leaving excise inclusion component in purchase cost before working out 48 per cent or 32.4 per cent). The learned CIT(A) has further observed that the approval of the Company Law Board was not binding on the Income-tax Department. Even if the Company Law Board's approval held to be correct, yet the assessee-company has gone beyond the permissible limits to the extent of trade discount of 12.5 per cent as discussed above. Thus, 12.5 per cent was a payment beyond approval and excessive as discussed above and not justified on commercial principles and specially under section 40A(2)(b) since L T was a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or commencing a proceeding for reassessment under section 147(b) may be made out. Avoidance of tax liability by so arranging commercial affairs that charge of tax is distributed is not prohibited. A taxpayer may resort to a device to divert the income before it accrues or arises to him. Effectiveness of the device depends not upon considerations of morality, but on the operation of the Income-tax Act. Legislative injunction in taxing statutes may not, except on peril of penalty, be violated, but it may lawfully be circumvented. " In this connection, the learned counsel further claimed that there was no reason to believe that the sole selling arrangement between the assessee-company and the L T was otherwise than bona fide so as to invoke the application of the principles of law enunciated in the Supreme Court decisions in the cases of B.M. Kharwar, Mc Dowell Co. Ltd. and Associated Rubber. We have considered the facts and circumstances of the case and agree with the learned counsel that the assessee could not have validly been taxed on a notional income, which admittedly has not been earned by it, on the ground that it could have earned such income. From a cumulative consider ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arties have operated over a period of about two decades. but it has been renewed every fifth year after obtaining similar approval of the Government of India. We, therefore, find it difficult to endorse the view of the two revenue authorities that the price charged by the assessee-company from the L T was unreasonably low and, therefore, the difference arising out of the lower price was liable to be treated as the notional income of the assessee-company and be taxed as such. The learned counsel then discussed the question of the applicability of section 40A(2). According to the learned counsel, the provisions of that section can be invoked only in cases where deductions in respect of expenses or payments are sought, under that section, in the case in hand, no payment of deduction is sought by the assessee and, therefore, the provisions of section 40A(2) could not validly be invoked. So far as the discount to stockists is concerned, such expenditure is not the expenditure incurred by the seller, i.e., the assessee-company and, therefore, the provisions of section 40A(2) cannot be applied even to the question of discount. Support on this point was sought from the decisions reporte ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as already been considered by us in the preceding paragraphs and a conclusion favourable to the assessee has been recorded. Further discussion of the same aspect is, therefore, not necessary. The next question taken up for consideration by the learned counsel for the assessee was the motive imputed by the department for the alleged diversion of profits by the assessee-company to the L T. On this point, it was submitted by the learned counsel that the assessee was forced to become a subsidiary of the sole selling agent by virtue of the provisions of the Foreign Exchange Regulations Act, 1973 and it resisted to become a subsidiary as far as it was legally possible for it to do so. After being forced to become a subsidiary, it altered its Articles so as to ensure that the sole selling agent could have the highest advantage of 50 per cent seats on the Board of Directors. A foreign company, namely Eutectic Corporation of U.S.A., which held 50 per cent of the seats on the Board of Directors could have absolutely no reason to be a party to the diversion of the assessee's profits to the L T. There is no material on the record to support the conclusion drawn by the two revenue authoriti ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (P.) Ltd. [1978] 115 ITR 688 (Cal.). To this argument, the reply of the learned Departmental Representative was to the effect that merely because an agreement has been approved by the Government of India, it does not preclude an authority under the Income-tax Act to independently adjudge the reasonableness of relationship. The approval of the Government of India has been accorded only under the provisions of the Companies Act, whereas an assessing authority under the Income-tax Act is required and entitled to act independently and consider and determine the issues in the light of the provisions embodied in the Income-tax Act. Reference in this connection was made by the learned Departmental Representative to the judgment of the Calcutta High Court in the case of Bilaspur Spg. Mills Industries Ltd. v. CIT [1982] 135 ITR 496. We have considered the rival submissions and find that there was no justification or warrant in the present case for taking the view that the terms and conditions of the agreement approved by the Government of India were unreasonable or that they were to the disadvantage of the assessee-company. It is of course true that the taxing authorities may independent ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... here was no disproportion between the actual prices and the alleged reasonable prices so as to warrant a conclusion that the motive behind the assessee's action was to divert its profits to L T. At the most, such alleged action of the assessee could be termed as imprudent, but it cannot validly be held to be otherwise than bona fide and the department cannot be allowed to substitute its own judgment for the judgment of the assessee. Case law support on this point is available in the decisions of the Supreme Court in the case of CIT v. Edward Keventer (P.) Ltd. [1978] 115 ITR 149 and in the case of CIT v. Dhanrajgirji Raja Narasingirji [1973] 91 ITR 544. The facts of the case clearly show that the addition of as much a sum as Rs. 1,86,000 as additional/notional profits of the assessee-company is clearly misconceived. The net profits of L T out of this sole selling agency were to the tune of about Rs. 92 lakhs. Should the impugned addition of Rs. 196 lakhs be upheld it would result in loss of Rs. 104 lakhs to L T. L T is a company which is managed by presumably intelligent persons. It would be unnatural and improbable human conduct on the part of those presumably intelligent ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... see on the ground that the doctrine of res judicata does not apply in tax matters and that the tax authorities are not precluded from reviewing the position from year to year. Although we cannot have a quarrel with the principle that the doctrine of res judicata as such or in its terms does not apply to tax proceedings, yet the earlier decisions in tax matters cannot be lightly disturbed. Unless there are strong and compelling reasons for reviewing an earlier decision or order, a different view in the subsequent tax proceedings cannot legitimately be taken. There has to be finality to the adjudicatory orders in certain areas even in tax matters. In the present case, the department has been accepting the relationship created between the two companies and approved by the Government of India. The margins initially approved were admittedly higher than those allowed in the later years. Thus the change, if any, in the relationship has been to the disadvantage of L T. There was thus no compelling reason or good ground for reviewing the earlier years' orders of the tax authorities with regard to the allowability of the margin. In the earlier year also the same practice was followed while ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uilding. We have given our careful thought to this aspect of the matter and find that this claim of the assessee cannot be allowed. The rulings relied upon by the learned counsel do not offer any material assistance to the assessee. The first three rulings pertained to the canteens situated in the factory premises. It was held therein that canteen is located in the factory premises for the welfare of the workers and is subjected to almost the same amount of wear and tear. The decisions in Elpro International Ltd.'s case and Hukamchand Mills Ltd.'s case pertained to the roads in the factory premises. These two decisions only purported to lay down that the roads in the factory premises are 'buildings'. They do not lay down a principle that roads are entitled to higher depreciation. As regards the decision in Borosil Glass Works Ltd.'s case that pertained to fencing and road in factory premises and, therefore, they are held to be part of factory building. In the decision in Standard Motor Products of India Ltd's case the question pertained to the buildings housing engineering offices wherein designs for factory use were prepared. It was in that context that it was held that they const ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s purchased for a new project. No material has been paid before us to show that the factual position is otherwise and that the land was not purchased for a new project or that the new project was part and parcel of the present undertaking of the assessee. In the absence of the full factual picture before us, we would not feel inclined to disturb this finding of the learned CIT(A) more particularly so when he has relied on the decisions of the Commissioner (Appeals) for earlier years and it has not been shown to us that those earlier decisions in the first appeal have been reversed by the Tribunal. This ground of the appeal would, therefore, stand rejected. 10. Ground No. 4. " 4. On the facts and in the circumstances of the case and in law the learned CIT(A) has erred in holding that the repairs to gear type rolling shutter amounting to Rs. 9,000 is of capital nature and not a revenue nature. He ought not to have done so. " This ground has been dealt with by the learned CIT(A) in paragraph 13 of his impugned order. The learned counsel for the assessee challenged this part of the CIT(A)'s order with the aid of the decisions in the cases of New Shorrock Spg. Mfg. Co. Ltd v. CI ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... anagement and conduct of the assessee's business to be carried on more efficiently or more proifitably while leaving the fixed capital untouched, the expenditure would be on revenue account, even though the advantage may endure for an indefinite future. The test of enduring benefit is, therefore, not a certain or conclusive test and it cannot be applied blindly and mechanically without regard to the particular facts and circumstances of a given case. In the case before us, the old logo of the company had been replaced by a new one. The old logo by itself was not a marketable asset. The new asset also by its very nature would not be a marketable asset. The replacement of the logo is made with a view to project the image of a trading/ manufacturing house in a better manner. The expenditure incurred thereon does not lead to the creation of any asset or addition of any asset to the assessee. The disallowance, therefore, cannot be upheld. This ground of the appeal thus succeeds. 12. Ground No. 6 : " 6. On the facts and in the circumstances of the case and in law, the learned CIT(A) has erred in holding that the expenditure of Rs. 23,990 incurred on laying, installation and commissi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... harges on flat given to employees come within the purview of the provisions of section 40A(5) of the Income-tax Act, 1961 as perquisite. He ought not to have done so. " This issue finds its discussion in paragraph 10 of the impugned order.The learned CIT(A) has held that the society charges on ownership flats given to the Chief Executive are liable to be taken into consideration for the purpose of disallowances under section 40A(5). He has further held that the ownership flat is much more a personal property and benefit than company owned, leased, rented flat. For this purpose he has placed reliance upon the decision of the Tribunal in the case of Kodak Ltd. v. IAC [1986] 18 ITD 213 (Bom.) (SB). After a reading of that decision of the Tribunal, we hold that no fault can be found with this part of the order of the learned CIT(A). This ground of the appeal would thus stand rejected. 15. Ground Nos. 9 and 10 : " 9. On the facts and in the circumstances of the case and in law, the learned CIT(A) has erred in holding that your appellants are not entitled to the deduction of the entire amount of Rs. 1,08,65,976 payable to the foreign collaborators for technical know-how fees. He ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al provision is permitted. Assessing Officer will allow after verifying the dates of payments and satisfaction of conditions when the amounts are 'payable' (included in 'paid') as per provisions of section 35AB of the Act. " We have considered the submissions made on behalf of the assessee before the two revenue authorities and also before us and are of the view that the question of treating the expenditure on know-how as of capital nature or of revenue nature need not detain us. Irrespective of whether an expenditure is capital or revenue, it will receive the same treatment under section 35AB. The scheme of that section is to give special treatment to the expenditure on know-how. In this view of the matter and looking to the scheme of section 35AB, we find that the directions issued by the learned CIT(A) on this issue are eminently correct and reasonable and cannot be interfered with. These grounds of the appeal thus fall. 16. Ground Nos. 11 and 12 : "11. On the facts and in the circumstances of the case and in law, the learned CIT(A) has erred in holding that for the purposes of computing the profits of the new industrial undertaking for allowing deduction under section 8 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd is not to be mixed up with interest paid which as an expenditure is to be apportioned over new and old units. Interest paid and interest received are both to be separately allocated on specific nexus basis, if possible or on pro rata basis. This is what is already done by the assessing officer. Regarding R D expenses, appellant admits, it is of general nature (and pertains to several units) and hence, in my view it is to be allocated pro rata over old and new units. Appellant gets relief in these terms. " We see no reason as to why the directions of the learned CIT(A) on this issue should not be endorsed except that we would direct that the assessing officer will verify as to whether any interest has been received by the assessee. If so, the interest received shall be deducted from the interest paid and only the balance, i.e., the net interest paid shall be deducted in computing the profits of the new industrial undertaking for the computation of allowance of deduction under section 80-I. These two grounds shall stand decided accordingly. 17. Ground No. 13 : " 13. On the facts and in the circumstances of the case and in law, the learned CIT(A) has erred in directing the ..... X X X X Extracts X X X X X X X X Extracts X X X X
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