Income Tax Appellate Tribunal - Hyderabad
Ramadas Motor Transport Ltd. vs Income-Tax Officer on 4 January, 1991
Equivalent citations: [1991]37ITD48(HYD)
ORDER
G. Santhanam, Accountant Member
1. These appeals, two by the assessee and two by the department, relating to the assessment years 1984-85 and 1985-86, are disposed of in a consolidated order for the sake of convenience as common issues are involved.
2. The assessee carried on business in purchase and sale of Tata Benz Trucks and Voltas Products, manufacture and sale of automobile spares and runs a well-knit parcel lorry service. It has also a workshop of its own in which to some extent repairs to other, vehicles are undertaken. The previous year of the assessee-company is the calendar year.
3. The assessment for the assessment year 1984-85 was completed on an examination of the books of account and upon consideration of the explanations and clarifications offered by the company on the queries raised during the course of hearing of the case. Thus, this was an assessment under Section 143(3) though it has been erroneously stated as under Section 143(1) on the body of the assessment order. The assessment for the assessment year 1985-86 under Section 143(3) of the Income-tax Act was based on the materials gathered in the course of an extensive search conducted in the premises of the assessee, its directors and authorised dealers, on 10-2-1988 and 11 -2-1988. While the learned Income-tax Officer did not have the advantage of such materials gathered subsequently for being used in the assessment for 1984-85, the assessment for 1985-86 proceeded on the basis of the materials collected in the course of the search conducted under Section 132 of the Income-tax Act. For reasons discussed in the assessment orders, he disallowed the commission payments as follows :-
Asst. Year Amount 1984-85 Rs. 86,76,463 1985-86 Rs. 56,16,426
4. The assessee carried the matter in appeal before the Commissioner of the Income-lax (Appeals). The first appellate authority disposed of the appeal for the assessment year 1984-85 after considering rival submissions and materials on record, by sustaining a disallowance of Rs. 10,00,000. The appeal for the assessment year 1985-86 was disposed of by him sustaining a disallowance of Rs. 21,29,278 after considering the materials before him including the materials that were gathered in the course of the search operations. Both the assessee and the department are aggrieved and are before us.
5. The appeal for the assessment year 1984-85 was heard by us in full sans the materials collected in the course of search operations that took place at a date later than the completion of the assessment. While concluding his arguments, Sri K. Rangabhashyam, learned Senior Departmental Representative, submitted that appeals have been filed both by the assessee and the revenue on similar issues for the assessment year 1985-86, but in those appeals the materials collected at a later stage had been dealt with both by the Income-tax Officer and the first appellate authority and, therefore, he sought the permission of the Bench to bring on record such material by way of additional evidence. Accordingly, he filed a petition for the admission of additional evidence. Sri Y. Ratnakar, learned counsel for the assessee, vehemently objected to such a plea at the fag end of the hearing, but submitted that he would have no objection if the appeals for the assessment year 1985-86 were taken up for consideration as the material would be relevant in those appeals. Accordingly, we admitted the petition of the learned Senior Departmental Representative and proceeded to hear the appeals for the assessment year 1985-86 also.
6. The issue in all these appeals is about the disallowance of brokerage and discount on sales (also known as commission) paid by the assessee-company to the following dealer-firms :-
1. Sri Bhanu Enterprises, Kakinada.
2. Sri Bhaskara Auto Service, Kakinada.
3. Sri Prabhakar Enterprises, Kakinada.
4. Mehta Trading Company, Bombay.
The payments were made on an agreement entered by the assessee-company with each of the dealer-firms. One of the agreements is as follows :-
An Agreement made this Fifth Day of July, 1979, between M/s. Sri Ramadas Motor Transport Limited, Post Box No. 42, Subhash Road, Kakinada-533001, registered under the Provisions of the Companies Act, 1956 and having its Registered Office at Kakinada (hereinafter called "The Company "of the one part and M/s. Sri Bhanu Enterprises, 13-1-1961, Subhas Road, Kakinada-53306l hereinafter called the "Authorised Dealer" of the other part, whereby the company agrees to appoint M/s. Sri Bhanu Enterprises as one of the Authorised Dealers for the sale of the products manufactured by the company hereinafter referred to as 'SRMT Auto Parts and the said Authorised Dealer agrees to act as such upon the following terms and conditions.
2. This agreement shall commence from 5th July, 1979 and shall be in force till subject to renewal thereafter by mutual consent of the parties hereto.
3. The Authorised Dealer shall during the said term book orders for 'SRMT' Auto Parts from dealers and Fleet Operators on the terms and conditions furnished hereunder:
(a) The Authorised Dealer shall allow 25% discount on the list prices of the company to the Dealers irrespective of the value of the orders ;
(b) The Authorised Dealer shall extend the free freight, packing and forwarding to the destination for the supplies made by the company ;
(c) The Authorised Dealer shall have to allow additional discounts to the dealers basing on the circulars to be released by the company from time to time.
4. The Authorised Dealer shall not under any circumstances sell or offer for sale of 'SRMT' Auto Parts either by deviating the above discount policies or by overselling in the prices stipulated by the company from time to time.
5. All the prices and discount structures are subject to change without notice and those that are communicated from time to time to the Authorised Dealer by the company shall be binding.
6. The company will allow the Authorised Dealer a discount of 25 and 15% on the ruling list prices of 'SRMT' Auto Parts against the orders booked by their representatives and the difference of commission between the discount of the Authorised Dealer and discount allowed to the dealer will be credited to the account of the Authorised Dealer.
7. The company shall allow an additional trade discount of 1% to the Authorised Dealer, at the end of the year, on the total turnover of business obtained by him over and above Rs. 50,00,000 during the Financial Year ending with 31st March.
8. The Authorised Dealer shall bear the expenses incurred towards the consignments dishonoured.
9. The Authorised Dealer shall not be entitled for any discount or commission on the business of State Transport Undertakings or any other Government Departments.
10. The Authorised Dealer shall have to send the company the tour programmes of their representatives true copies of the orders booked by their representatives with original reports and the copies of correspondence made between the Authorised Dealer and the parties.
11. The Authorised Dealer alone shall be held responsible for all the transactions carried out by him either directly or indirectly even after the termination of the Agreement and the Authorised Dealer shall not be absolved from the responsibilities of realising his obligations arising out of his previous commitments with the parties ; and the company shall not be liable to make good of any losses or promises to any one introduced or caused to introduce by the Authorised Dealer for any lapses of his fulfilment of such commitments with his parties.
12. The Authorised Dealer shall have to deposit a sum of Rs. 5,00,000 free of interest and it is refundable only after the expiry of 6 months from the date of termination notice issued by either side.
13. Any subsequent additions of terms and conditions not contained in this Agreement and changes, if any, are effected will be informed separately and those should be implied with as part of this Agreement.
14. Nothing contained in this Agreement shall prevent the company from selling the products directly or appointing other Authorised Dealer or Dealers.
15. This Agreement may be terminated by either side by giving two months notice and the date that such notice is posted will be taken for the purpose of calculating the time of two months.
16. Notwithstanding anything contained in the clause No. 15 above, the company may terminate this Agreement at any time hereafter by giving the Authorised Dealer one month's notice should the work of Authorised Dealer be not satisfactory in the opinion of the company and the decision of the company of the work of the Authorised Dealer shall be final.
17. All matters of disputes arising out of this Agreement are subject to the jurisdiction of Kakinada Courts only.
18. In witness whereof the parties aforesaid have set their respective hands to this Agreement on this day mentioned in the first para.
Similar agreements have been entered into with the other firms. The Income-tax Officer was of the view that these agreements are sole-selling agency agreements and are violative of the provisions of Section 294 of the Companies Act.
7. We have carefully gone through the orders of the Income-tax Officer and the first appellate authority on this issue. The learned Income-tax Officer himself admits that there was no express provision in the agreements as regards the area of operation. In the absence of such an express provision, the agreement does not create any sole-selling agency. However, the Income-tax Officer is of the view that there is an oral understanding that the four dealer-firms should operate only in specified areas and, therefore, the agreement was intended to be in the nature of a sole-selling agency agreement within the meaning of Sections 294, 294A and 294AA of the Companies Act. The learned Commissioner of Income-tax (Appeals) did not agree with the Income-tax Officer's inference for the following reasons :-
(a) In the agreements, there was a clause enabling the company to make sales in any area it liked.
(b) The agreements did not define their respective areas of operation, nor was there any clause in the agreements making it obligatory on the part of the assessee to allot areas in such a manner that one dealer is precluded from operating in the area of another dealer.
(c) Even if there had been an oral arrangement for allotting different areas for different firms, it was only in the nature of a working arrangement and it did not confer any enforceable right on the authorised dealer to style itself as a sole-selling agent.
(d) The Registrar of Companies, before whom periodical statements were filed, did not object to the payment of commission (brokerage and discount) on grounds of violation of the provisions of Section 294 of the Companies Act.
(e) There is trade practice of leading companies procuring orders for consumer products in the country through dealers and such dealers are never considered as sole-selling agents.
Thus, he held that the provisions of Section 294 of the Companies Act were not violated in the assessee's case. Further, he held that whatever be the legal position, the payments were made wholly and exclusively for purpose of business on grounds of commercial expediency and, therefore, there was no scope for disallowing the same.
8. In their rival submissions, Sri Ratnakar relied on the agreements and the reasons stated by the learned Commissioner of Income-tax (Appeals) and Sri Rangabhashyam supported the view of the learned Income-tax Officer. Having considered the matter carefully, we are of the view that no case was made out by the Income-tax Officer that the authorised dealer-firms constituted themselves as sole-selling agents of the assessee's products in violation of the provisions of Section 294 and related sections of the Companies Act. The terms of the agreement are crystal clear. It did not result in the creation of any sole-selling agency right in favour of any one. In terms of Clause 13 of the agreement quoted supra, the company has the right to sell its products in any area it likes. In fact, it has effected counter sales (see Section 15 of Green Paper Book). A working arrangement for a smooth functioning of the sales effort cannot confer any enforceable right on the dealer-firms to claim exclusive rights or privileges. The trade practice also is to market the goods through different authorised dealers in different areas due to operational needs and the exigencies of the business. The learned CIT( Appeals) has spelt out his reasonings which are based on material and we do not find any infirmity in his findings. For these reasons, we reject the contention of the learned Senior Departmental Representative that the payment of commission is violative of the provisions of Section 294 of the Companies Act.
9. The second ground on which the payment of brokerage and discount, also known as commission, was disallowed was that the dealer-firms were not doing anything in order to earn huge commission. The Income-tax Officer noticed that the dealer firms were expected to carry out two functions, viz. book orders for company's goods and help realise the sale proceeds from the customers. As for booking of orders, he referred to the statement of the Managing Partner of Sri Bhanu Enterprises dated 11-6-1986 and Sri Bhamidipati Nageswara Rao, Managing Partner of Sri Bhaskara Auto Service, dated 4-7-1986. They are to be found in para 2 of the assessment order for the assessment year 1984-85. His grievance was that these firms received commission even on direct orders received by the assessee-company and M/s Sri Bhaskara Auto Service just had a few agents or representatives to do service for it. The target commission was paid by the authorised dealers at the rates fixed by the assessee-company from time to time. The canvassing agents, who were few in number, were getting 1% to 2% discount on the orders booked. Therefore, the authorised dealers earned commission even on direct sales made by the company though some orders were routed through the authorised dealers. The authorised dealers did nothing in the manner of booking of orders and collecting the dues of the company and thus huge brokerage and discount was earned on mere paper work by these firms. He also mentioned that the assessee, after preparing the invoice, sends the documents through banks and allows a time of 45 days to the customer for clearing the document without charging interest and thereafter up to 60 days on payment of interest. After a lapse of 60 days, the assessee calls back documents from the bank. He also noticed that the assessee's sales are through the banking channels to the extent of 60% and about 40% were made to outstation parties on credit. Thus, he concluded that these authorised dealer-firms did not do any business in order to earn such huge commission.
10. We have heard rival submissions at length on this point and also perused the order of the learned Commissioner of Income-tax (Appeals). While appreciating the rival contentions, we have to bear in mind the terms of clauses 10, 11 and 12 of the agreements cited supra. From a reading of these clauses, a few facts emerge, viz., (i) booking of orders by the representatives of the dealer-firms, (ii) submission of copies of correspondence between the dealer-firms and the parties and (iii) the authorised dealer is saddled with responsibility for all the transactions carried out by him either directly or indirectly. The expression "indirectly" used in the agreement would mean that even in respect of sales made by the company directly, the authorised dealers are saddled with certain obligations. The assessee-company is not burdened with any loss that might arise on account of the lapses of the dealers in respect of their commitments with their parties. The dealer-firms have to make deposits as specified in Clause 1 of the agreements. Even in the course of the search that was conducted subsequently on 10-2-1988 and 11-2-1988, no material was recovered that would militate against the terms of understanding. For one thing, there is no allegation that there was no correspondence between the authorised dealer and the parties. For another, there is no allegation that the orders were not canvassed by the representatives of the authorised dealers, though there is an allegation that they work at the behest of the company to which allegation we will revert later.
Thirdly, there is no allegation but the dealer-firms had not made the deposits. The learned CIT (Appeals) at para 6 of his order for the assessment year 1984-85 has recorded a finding that "the representatives of the authorised dealers had been sending to the assessee copies of orders they booked in the field after canvassing the assessee's products. On the basis of these orders, the assessee had despatched its products through banks..., There was no doubt there were counter sales and direct sales.... There is a plethora of order forms advising the assessee to despatch auto parts to the parties mentioned in these order forms. They were also produced before the Income-tax Officer by the assessee. Therefore, to say that the authorised dealers did not perform any functions in terms of the agreements and that the agreements existed only on papers is a contravention of facts." Even at the time of hearing, no material was placed before us in relation to the assessment year 1984-85 to controvert the findings of the learned CIT(Appeals). Of course, for the assessment year 1985-86, the learned Income-tax Officer had referred to the sworn depositions of the Managing Director of the assessee-company, the Managing Partners of M/s Sri Bhaskara Auto Service and M/s Sri Prabhakar Enterprises and also the deposition of some other partners, to buttress the point that no real work was done by the firms and all that was done by them was only on paper. We would be dealing with those statements in the course of our order in relation to the assessment year 1985-86. Suffice it to say that the assessee-company does not deal in automobile spare parts alone but its activities are varied and many including the running of a parcel service, and, therefore, there are valid grounds for the assessee-company to ensure the business of sale of automobile spares through the authorised dealers. For one thing, the Bombay firm had beer, in existence since 1961 and merely because three more firms have come into existence at Kakinada, though having different areas of working arrangement, it cannot be held that these firms did not do any service to the assessee-company. Even at this stage, apart from pointing out that some of the partners of the dealer-firms had expressed ignorance of the transactions between the company and the dealer-firms vis-a-vis the customers, no material has surfaced to dislodge the finding of the learned CIT(Appeals) that the authorised dealer-firms through their representatives and agents have rendered services to the company. On the other hand, there is evidence to show that the dealer-firms were granted registration or continuation of registration by the Income-tax Officer in the post-search period, in his orders dated 27-3-1989 in the case of two firms, and in the case of another firm registration was refused as assessment was made under Section 144. There is no material to controvert the fact that the representatives and agents were employed by the authorised dealers and not by the assessee as their names are borne in the registers of the authorised dealers but not in those of the assessee and the payments of their commission or salaries are met by the authorised dealers but not by the assessee. In fact, the employment and supervision of agents and representatives from north to south and east to west of the country is an important activity of the dealer-firms and the assessee-company, having a very large establishment with variegated activities, could as well feel relieved by divesting itself of the function of marketing of its automobile spares - canvassing, booking orders, control of the activities of the field representatives and agents and maintaining customer contract and relationship - in favour of the dealer-firms.
11. Another contention of the learned Income-tax Officer is that the assessee has allowed commission even on sales directly effected by it. No figures were furnished. Sri Ratnakar contends that this was not the case with Kakinada firms; for Bombay film, because of a stipulation in the agreement, the procedure was slightly different. Moreover, it was not commission on commission. It was in the nature of additional discount to boost the sales, as it was made subject to certain minimum amount of sales. Sri Rangabhashyam, on the other hand, contends that the arrangement through authorised dealers was only a make-believe arrangement as payment of commission was made even on direct sales by the assessee. At best it can be said to be only a gratuitous payment. At any rate the payments are excessive. He further submitted that the payments, whether on direct sales or on sales through authorised dealers, have found their way back to the company and in this view of the matter, he drew support from the statement of the Managing Director of the company to the effect that these commissions paid to the dealers really belonged to the company. It is his submission that the statements given by some of the partners of the authorised dealer-firms also lend support to the view that the commission payments were really intended to be ploughed back to the company. The analysis of the cheque payments read in the context of the statements of the employees would suggest that behind the facade of commission payments, the company was able to retrieve a major slice of its income. For these propositions, he relied on the statements of Sri K.V.R. Chowdary, Managing Director of the assessee-company, Sri Bhamidipati Nageswara Rao, Managing Partner of Sri Bhaskara Auto Service, Sri Subba Rao, partner in Sri Prabhakar Enterprises, and Sri Muralidhar, employee of Sri Bhaskara Auto Service. He also relied on the inferences drawn by the learned Income-tax Officer from an analysis of the bank accounts of some of the partners in Sri Bhaskara Auto Service and Sri Bhanu Enterprises. Their statements are found in two paper books filed by the department.
12. We have gone through the orders of the learned Income-tax Officer for both the assessment years under appeal on this aspect of the matter. We have also carefully gone through the orders of the learned CIT (Appeals). There is material to show that in the case of trading in automobile spare parts, there is a trade practice to allow discount or commission on the sales effected by the manufacturer or by the dealer. As a matter of fact, the assessee has produced a few invoices from other manufacturers wherein a discount of 35% to 40% is allowed on spare parts (pages 6.16 to 6.20 of green paper book of the assessee) : Swamy Motors (Inv. No. 1298), Hyco Manufacturers of India (Inv. No. 4966), Trading Corporation, Delhi (Inv. No. 9987), Goyal Tractor and Scooter Spares (Inv. No. 8642), Anand Spares, Delhi (Inv. No. 594), Jamuna Auto Industries (Inv. No. 714). The learned Senior Departmental Representative admitted that these invoices show a discount of 35% to 40% allowed to the customers but he pleads that they were all in the periods relating to 1986 and 1987 and not in relation to the impugned assessment years. Sri Ratnakar submitted that the assessee was only trying to establish the trade practice in this line of business and the dates of the invoices are not very relevant to find out whether a trade practice existed. To a query from the Bench whether he could furnish samples of invoices of other manufacturers from whom the assessee had purchased automobile spare parts for the relevant period, Sri Ratnakar readily agreed to submit the same and accordingly photostat copies of the invoices were submitted to us subsequent to the hearing. Thus we have before us the invoices of Beant Automobiles, Delhi (Inv. No. 18 dated 27-2-1984), Rasna Enterprises, Delhi (Inv. No. RD/155/83/84 dated 3-3-1984), Trading Corporation (Inv. No. 7549 dated 3-1-1983), Anand Spares (Inv. No. 291 dated 12-5-1983), Jamuna Auto Industries (Inv. No. 1894 dated 14-5-1983) etc., wherein they have allowed discount mostly at 35% or 40% except on one item at 15%. We are satisfied that allowing of discount or commission on sales up to 40% depending on the nature of the spares is a well recognised trade practice in this line of business. Therefore, the learned CIT( Appeals) did not err in recognising such trade practice.
13. We have gone through the agreements with authorised dealer-firms. In the case of Kakinada firms, Clause 7 of the agreement is relevant. The additional discount of 1 % is allowed only on the sales effected by the authorised dealer-firms when such sales exceed a certain minimum amount of say Rs. 50,00,000 per calendar year in the case of Sri Bhanu Enterprises and Sri Prabhakar Enterprises respectively and Rs. 60,00,000 per calendar year in the case of Sri Bhaskara Auto Service. Thus, no commission was payable to Kakinada firms on direct sales effected by the company and Income-tax Officer had not brought on record any material to the contrary. However, the procedure is different in the case of Mehta Trading Co., Bombay. Clause 7 of the agreement is as follows :-
The company shall allow an additional discount of 1% on the total nett turnover of the business done by the Authorised Dealer at the year end subject to a minimum of Rs. 36,00,000 nett (i.e. value of purchases made by the Authorised Dealer and the value of supplies effected to the parties directly by the company) and the period for this target starts from 1st January and up to 31st December.
Thus, for Mehta Trading Company, in order to ascertain the eligibility, direct supplies made by the company are also reckoned for the purpose of arriving at the minimum amount of Rs. 36,00,000 but all the same additional discount is payable only on the total nett turnover of the business done by Mehta Trading Company. Thus, in no case additional discount was liable to be paid to the authorised dealers by the assessee-company. The Income-tax Officer has not brought on record instances of payment of additional discount to the dealer-firms on direct sales effected by the company to the parties, nor was any such instance brought to our notice. Hence, the allegation falls to the ground. We further note that the conditions for payment of additional discount are more stringent in the case of Kakinada firms than in the case of Mehta Trading Co., Bombay. The payment of 1% to 2% commission on direct sales effected by the company is not paid by the company but only the authorised dealer-firm to the brokers from out of their commission.
14. The company directly allowed 25% discount or commission to the customers, who are retail dealers or others, and deducted the same from the invoice value. This cannot be held to be a make-believe arrangement. The identity of the payee is known and the payment itself is by way of deduction from the invoice. On the net invoice value, the company allowed 15% discount or commission to the authorised dealers. In effect, it works out to 11.25% on the gross invoice value. In the case of such payments, payment is made through account payee cheques. There is no allegation that these cheques were encashed by the employees of the concern or by the company itself. The payment thus received by the dealer-firms by way of account payee cheques from the company is accounted for in their books and assessed to tax. The mode of payment is in accordance with law. Thus, in all, the assessee gave a total discount of 36.25% on the invoice value - 25% directly to the customers and 11.25% to the authorised dealers. The total discount payments of 36.25% are much less than 40% discount or commission allowed by other manufacturers. In para 12, we have analysed sample copies of the invoices to show that in this line of business discount or commission payments up to a maximum of 40% are a normal trade practice. Whether it should be considered to be so in the case of the assessee can be also answered from a different angle. Similar commission payments were made to Mehta Trading Co., Bombay, under an agreement. The percentage of commission and the mode of payment are identical. The learned Senior Departmental Representative had fairly admitted that there is no material to disallow any part of the commission paid to Mehta Trading Co, If commission at 36.25% on the gross invoice value is to be considered to be reasonable in the case of Mehta Trading Co., we cannot hold a different view that the percentage is high in respect of Kakinada firms, especially when these payments are covered by similar agreements for similar services rendered. This conclusion we arrive at on the limited question of reasonableness of the commission payment not only based on the trade practice shown to exist in the line of trade but also on the basis of revenue's admission that there was no case against Mehta Trading Company to whom a similar payment was made. Even out of 11.25% paid to the authorised dealers, they have to part with a portion of it to the retail dealers or customers by way of target commission or additional trade discount to the retail dealers or customers, at rates fixed by the company from time to time. Brokers are also paid commission from 1% to 2% by the authorised dealers even on direct sales depending on the nature of sales. The details of commissions received by the dealer-firms and paid by the dealer-firms to the retail dealers or customers for a number of years are to be found in the assessee's (green) paper book at pages 2.1 to 4.22. From a comparison of the commission allowed by the assessee-company to the authorised dealer-firms and the commission allowed by the latter to their customers, it can be safely said that 50% to 60% of such commission received from the assessee-company by the authorised dealer-firms was disbursed to the retail dealers or customers. The relevant figures, for example for the assessment year 1985-86, are as follows :-
Commission Commission Name of the allowed by allowed by the dealer-firm the assessee dealer-firm Sri Bhanu Enterprises Rs. 32,55,485 Rs. 18,03,911 (55.4%) Sri Bhaskara Auto Service Rs. 26,23,833 Rs. 12,16,753 (46.4%) Sri Prabhakar Enterprises Rs. 17,96,683 Rs. 10,26,059 (57%)
The learned Income-tax Officer did not deny that the authorised dealer-firms passed on a part of the commission as above to the retail dealers or customers. Therefore, out of the 15% commission earned by the dealer-firms on the net invoice value, only about 6% to 7% is retained by the dealer-firms. There is no dispute over this aspect of the matter. From the manner in which the commission is worked out and the manner in which the commission is paid to the retail dealers and authorised firms, we are not persuaded to hold that the entire arrangement is a make-believe arrangement.
15. The Income-tax Officer's grievance is that by the device of the authorised dealer-firms, substantial profits had been syphoned off by the company. As a matter of fact, for the assessment year 1984-85, he had disallowed the commission paid by the assessee-company to the authorised dealer-firms in its entirety by overlooking the further commission paid or liable to be paid by the authorised dealer-firms to the retail dealers or customers. As there was absolutely no justification for such a course of action, the Income-tax Officer himself had taken into account only the net figure of commission i.e. the commission paid by the assessee-company less the further commission paid by the authorised dealers, while making the addition for the assessment year 1985-86. This would be evident from the observations in the order of assessment itself for the assessment year 1985-86 at page 32, to the effect that "in regard to quantification of disallowance, during the course of the hearing of the case, the assessee urged that the authorised dealer-firms were under an obligation to pay out of the commission received by them incentive commission to the customers at the rates announced by it from time to time although it is directly paid by the company to the customers through credit notes passed on to them and the adjustment of the same through customer's account. It pleads that it is a definite outgoing as far as the company is concerned and it should be allowed. The claim is found to be correct and deduction for incentive commission is allowed against the payments claimed. The balance is added back." We have already indicated that what is retained by the authorised dealers does not exceed 8% on the net value of the invoice or about 6% of the gross invoice value. The authorised dealer-firms had to incur a variety of expenditure on maintenance of staff, rents, office expenditure, travelling, advertisement etc. They have to pay commission to brokers from 1 % to 2%. Of course, there would still be some surplus in their hands, and if at all any disallowance is warranted, it cannot be the total commission as in the case of assessment year 1984-85,
16. The crucial question is whether the revenue is entitled to tax net commission or any part of it in the hands of the assessee-company. In answering this question, we have to consider several aspects of the matter.
17.1 One aspect of the matter is whether there was need for an arrangement with the dealer-firms in the carrying on of the business of the company. Sri Ratnakar submitted that the assessee-company was not only dealing in automobile spare parts but had a variety of activities. Marketing of automobile spare parts involves meticulous canvassing, booking of orders, attending to complaints and realisation of debts. In such consumer products, dealership arrangements are very common and are found to be more convenient and economical. The company did not want to take additional responsibility by marketing the products itself through its channels but instead preferred to concentrate on the manufacture of the products which has to be done with great care and precision with an eye on quality as the products are used in automobiles. For these reasons, the company entered into the arrangement with the dealer-firms. In fact, there was a dealer-firm in Bombay, viz. M/s Mehta Trading Company, right from 1961. As a result of marketing through dealer-firms, the company's turnover has increased. Thus, he submitted that there was need for such a selling arrangement. Sri Rangabhashyam, on the other hand, submitted that the products of the company are quite popular and the assessee could achieve the sales even without the aid of the selling arrangements it had. Collection of debts was no problem for the company as the documents were negotiated through the bank and in fact no bad debts were reported in this section of the business.
17.2 Having regard to rival submissions, we are not persuaded by the arguments of the learned Senior Departmental Representative. The learned CIT (Appeals) has extracted the turnover of the company from 1981 to 1985 as follows :-
1981 Rs. 6,80,40,257 1982 Rs. 7,20,57,336 1983 Rs. 7,64,75,736 1984 Rs. 8,99,75,154 1985 Rs. 9,63,96,234
The above figures were also verified by us with the Final Accounts of the company. There has been a tremendous improvement from year to year. Though the popularity of the assessee's products might be one of the reasons for hike in turnover, it could not be gainsaid that unless a consistent effort was made at selling, such a substantial increase in turnover would not be possible. The reasons are not far to seek. Automobile parts face a highly competitive market with different brands competing with each other. It is also flooded with fake spare parts which are sold at cheaper rates. Therefore, to maintain the sales in a competitive market, one has to keep running in order to stay where one is and in the scheme of things, unless there has been good canvassing and booking of orders, it would not be possible to achieve higher turnover. Therefore the increase in the turnover may be attributed at least largely if not mainly, to the existence of these dealer-firms.
17.3 The CIT (Appeals) had accepted the contention of the learned counsel for the assessee that when popular products of daily use which have become habits are being marketed by even monopolistic cartels who sell their products through a system of outlets having several tiers, there is nothing wrong in the assessee employing authorised dealers for canvassing and booking the orders throughout the country. We also see the point in Sri Ratnakar's argument that the assessee in view of its desire to concentrate on the manufacture and its varied activities, left the business of procuring the market to the authorised dealers through the canvassing agents or authorised representatives. The assessee manufactures about 300 different items of automobile spare parts used in heavy vehicles. In addition to large companies like TVS Ltd., Rani India Ltd., there are other small manufacturers in the field. Besides, the assessee is also running a parcel service the income from which is of the order of Rs. 4,74,56,069 and Rs. 5,48,53,943 for the two years under appeal. Further, it is also engaged in the sale of Tata Diesel Vehicle Chassis, air-conditioners, water coolers and heaters, Voltas' products, room coolers etc., apart from the sale of spares, tyres, tubes and batteries, We are told that it employs about 3,500 people on its rolls in manufacturing and other activities. There is force in the contention that in the light of variety of activities, the assessee wanted to divest itself of the marketing functions in respect of the automobile spare parts which are as many as 300 in number. The authorised dealers, apart from booking orders, were also saddled with the responsibility of collection of the dues and looking into complaints and loss arising out of complaints. Clause 8 of the agreement is as follows :-
The authorised dealer shall bear the expenditure incurred towards consignments dishonoured.
Clause 11 of the agreement is as follows :-
The authorised dealer alone shall be held responsible for all the transactions carried out by him either directly or indirectly even after the termination of the agreement. The authorised dealer shall not be absolved from the responsibility of realising his obligation arising out of his previous commitment with the parties and the company shall not be liable to make good any promise or loss introduced or caused to be introduced by the authorised dealer for any lapses of fulfilment of such commitments with his parties.
18. From these, we conclude that it is not as if the authorised dealers got the commission for the asking. The commission was given in recognition of the services rendered by them and also the responsibilities undertaken and is covered by an agreement. The payment of commission was not in cash but only through account-payee cheques on which there is no dispute. There is no material to suggest that the cheques issued by the company from time to time in favour of authorised dealers were encashed by the employees of the company or others connected with the company.
Another related aspect of the matter is that the canvassing work was carried on by only a few freelance brokers and the company could have directly secured the orders from the brokers and, therefore, the need for authorised dealer-firms was not very much evident except as a conduit to syphon off part of the profits. In this connection, Sri Rangabhashyam relied on the statement of the Managing Partner of Sri Bhanu Enterprises who was examined on oath on 11-6-1986, and also the statement of the Managing Partner of Sri Bhaskara Auto Service which were extracted at page 7 of the assessment order for the assessment year 1984-85. One of the questions put to the Managing Partner of Sri Bhanu Enterprises and the answer thereto are as follows:-
Q. What are the duties discharged by you to earn the commission?
A. We have got four freelance brokers. Their names are (1) P.S. Prakasa Rao ; (2) Y. V. Subba Rao; (3) M. Nageswara Rao; (4) Ch. Radhakrishna Murty. Excepting controlling the activities of the above brokers or representatives, the firm of M/s Sri Bhanu Enterprises does not carry on any other operations. We write our accounts on the basis of the credit notes given by the company S.R.M.T. I cannot immediately tell you how much is the commission paid to our representatives at the rate of 1 % and 2%. In other words the commission is paid on the direct orders received by the company S.R.M.T. Similarly, one of the questions put to Sri Bhamidipati Nageswara Rao and the answer thereto in his sworn statement dated 4-7-1986 were as follows :-
Q. What are the duties of your firm in order to earn the commission given by SRMT?
A. We employ six agents. They are (1) S. Prakasarao ; (2) N.S.R. Murthy ; (3) N. Rama Murty; (4) P. Prema Chandran; (5) Damera Enterprises; (6) PASBS Baburao. The first five are paid brokers. The last employee, i.e. Baburao gets salary. Brokerage is paid at the rate of 1 % on direct orders received by the company and 2% on booked orders.
18.1 From the above, the Income-tax Officer deduced that the representatives mentioned above are the persons actually working for the assessee-company and the so-called authorised dealer-firms practically did nothing in the matter of booking orders and collecting the dues of the company, except to provide, if at all, the order forms printed in their names and that their induction is only a device to divert the profits of the assessee-company in the guise of brokerage and discount on sales and reduce the incidence of taxation in the hands of the assessee-company.
18.2 The learned CIT (Appeals) in his order noticed that in the case of consumer products, even monopolistic cartels have a system of outlets having several tiers and there was nothing wrong in the assessee employing authorised dealers for canvassing and booking orders throughout the country and that the Income-tax Officer cannot force the assessee to do away with this system of authorised dealers. He had also referred to the earlier passages in his order to show that the authorised dealers were really paid for their services. He found no need for advising the assessee as to how it should conduct its business. In judging the commercial expediency for determining whether the expenditure was wholly and exclusively laid out for the purposes of the business, he relied on the decision of the Supreme Court in CIT v. Walchand & Co. Ltd. [1967] 65 ITR 381, and also the decision of the Supreme Court in Sassoon J. David & Co. (P.) Ltd. v. CIT [1979] 118 ITR 261.
18.3 Sri Rangabhashyam vehemently assailed the order of the CIT (Appeals) on this aspect stating that the expenditure is not allowable merely on the basis of a bundle of papers ; after all, the brokers are not many, who were working for the company, and the assessee itself could have employed those brokers directly without routing their employment through the dealer-firms. Sri Ratnakar, besides relying on the order of the learned CIT (Appeals), vehemently objected to the line of reasoning adopted by Sri Rangabhashyam, stating that it has never been proved that these agents were really working under the company instead of under the firms.
18.4 Having regard to rival submissions and the materials on record, we are unable to persuade ourselves to accept the viewpoint of the revenue. The managing partners of Sri Bhanu Enterprises and Sri Bhaskara Auto Service have admitted the employment of the freelance brokers. They have also admitted that their duties extend to controlling the activities of the above brokers or representatives and that the commission is paid to their representatives at the rate of 1 % and 2% even though the exact amount could not be named. They had also stated that the brokers received commission even on orders received by the company directly. The Managing Partner of Sri Bhaskara Auto Service is admitted to have 6 agents or brokers one of whom is a salaried person and brokerage is paid at 1% on direct orders received by the company and 2% on orders booked through them. Apart from the engagement of these brokers by the authorised dealer-firms, the important aspect of the matter is supervision and control of their activities. We have noticed earlier in our order that one of the reasons for appointing these authorised dealer-firms was for the company to rid itself of the botheration of looking after the marketing functions. This control aspect is admitted to have been exercised by these authorised dealer-firms and no material has surfaced to show that these firms did not exercise control over the freelance brokers or their representatives in spite of a massive search in their premises. The payment of commission to the brokers even on direct orders received by the company is an additional burden for the authorised dealer-firms and the Income-tax Officer erred in drawing an adverse inference against the assessee.
18.5 Another argument of the Income-tax Officer is that the assessee could as well have employed the brokers directly without routing their employment through the authorised dealer-firms. This is certainly a suggestion to the businessman as to how he should conduct his business. We are convinced with the reasons advanced by the assessee that since in its anxiety to concentrate more on the manufacture of spare parts and its parcel line of business and other activities, involving crores of rupees, it did not want to undertake the marketing function which includes control of the activities of the brokers, the company engaged the authorised dealer-firms. If the company dispenses with these dealer-firms, apart from exercising supervision and control over canvassing work and order booking, the company itself will have to look into the area of complaints and related matters. 40% of the sales are said to be on credit and if bad debts arise, they will have to be borne by the company, whereas, under the existing arrangement, it is the responsibility of the dealer-firms to see that no loss arises to the company out of its transactions. The dealer-firms are holding interest-free deposits with the company of the order of Rs. 20 lakhs during the impugned assessment years alone. In addition, the company has the benefit of interest-free credit balances of the authorised dealer-firms as follows :-
Name of the firm 1983-84 1984-85
LF Rs. LF Rs.
Sri Bhanu Enterprises 559 12,12,986 627 15,55,059
Sri Bhaskara Auto Service 563 9,70,377 651 11,22,253
Sri Prabhakar Enterprises 797 5,70,044 632 8,02,172
------------ ------------
27,53,407 34,79,484
------------ ------------
Considering these additional benefits, we hold that the Income-tax Officer's inference is erroneous and his suggestion that the assessee itself could have employed the brokers on its own etc. should be only viewed from the point of view of the businessman vis-a-vis his needs and not from the angle of a tax gatherer.
18.6 It was the view of the Income-tax Officer that the brokers worked under the company. There is no material to suggest that they were in the employment of the company though they canvassed orders for the products of the company. The CIT (Appeals) has recorded a finding that these brokers were in the employment of the authorised dealers and the commission paid to them was adjusted in the accounts of the authorised dealers. In this connection, we may usefully refer to certain additional material unearthed in the course of the search during the period from 10-2-1988 to 12-2-1988. We have already admitted the additional material for our consideration. Among the loose papers seized from the premises of Sri Prabhakar Enterprises (marked A6), there is a letter dated 21-8-1985 from HMM Ltd., Dowlaiswaram, addressed to the assessee-company with "Attention : Mr. Ch. V.V. Satyanarayana" requesting for immediate supply of 3 Voltas air-conditioners for which orders were placed. At the relevant time, Sri Ch.V.V. Satyanarayana was the Managing Partner of M/s Sri Prabhakar Enterprises, a dealer in Voltas' products. The Income-tax Officer also referred to his sworn statement dated 10-2-1988 and thus inferred that the entire business of Sri Prabhakar Enterprises belonged to Sri. K.V.R. Chowdary, Managing Director of the assessee-company.
18.7 We have heard rival submissions. We are not on the issue whether the entire business of Sri Prabhakar Enterprises belonged to Sri K.V.R. Chowdary. We are on the issue of disallowance of commission paid by the assessee-company of which Sri K.V.R. Chowdary is the Managing Director. The Income-tax Officer has used this letter dated 21-8-1985 as a supportive material to say that people were working under the assessee-company. We do not uphold such an inference. Firstly, HMM Ltd., Dowlaiswaram, is not a freelance broker but only a customer asking for supply of 3 Voltas air-conditioners. Secondly, the letter is dated 21-8-1985 which is not relevant to any of the years under appeal. The fact that HMM Ltd. addressed a letter to the assessee drawing the attention of Sri Ch. V.V. Satyanarayana of Sri Prabhakar Enterprises and the fact that this letter was found in the premises of Sri Prabhakar Enterprises in the course of the search cannot be considered as evidence to say that brokers were working under the company though they were working for the company's products.
18.8 Then there is another letter found in the course of the search at the premises of M/s Sri Bhaskara Auto Service (A18) written by a Bangalore representative to M/s Sri Bhaskara Auto Service as under :-
I have been instructed by Sri Venkata Rao, Marketing Manager, to send Rs. 2,000 every month out of the realised amount.
The Income-tax Officer remarked that Sri Venkata Rao is the Marketing Manager of the assessee-company and the fact that he gave instructions to a representative alleged to be working in the employment of Sri Bhaskara Auto Service, to send a sum of Rs. 2,000 every month out of the realised amounts, would show that the dealer-firm was only a facade or a device and the real marketing was done by the assessee-company itself. Sri Ratnakar submits that Sri Venkata Rao is the Marketing Manager of SRMT Ltd. (the assessee) which deals in a variety of products. There is nothing in the letter to suggest that he had gone there in connection with the work of M/s Sri Bhaskara Auto Service. Whatever field work was done by the dealer-firms, the company cannot afford to sit idle without studying the market for its own products even occasionally. Therefore, when the Marketing Manager of the company visited Bangalore, it may be that the representative had met him and made certain representations and the Marketing Manager might have given some suggestions but no mileage can be drawn out of this. The learned Senior Departmental Representative relied on the orders of the Income-tax Officer.
18.9 Having regard to the submissions made before us, we do not see how such a letter written by a representative can go to prove that the dealer-firm is only a device and its employees are really the employees of the company. For one thing, the Marketing Manager Sri Venkata Rao had not been examined on the representation by Sri Sundara Mahalingam, the Bangalore representative. For another, the representative himself has not been examined. Without examining them and also without going into the circumstances in which such a letter came to be written, we feel that one should not hasten to draw an adverse inference.
18.10 Sri Rangabhashyam relied on another letter of one Sri Ramamurty, another area representative, addressed to Sri K. Sarathy, Joint Managing Director of the assessee-company, on 13-11-1987 which reads as under:-
I wrote nearly 6 letters requesting your goodself to send me the balance standing to my credit with M/s Sri Bhaskara Auto Service and so far I have not received any payment.
He also referred to another letter dated nil in which the representative writes to Sri Sarathy again requesting him to instruct the authorised dealer to supply him statements of accounts from 1-4-1986 to 31-3-1987. Adverting to these letters, Sri Rangabhashyam submitted that these are tell-tale evidence which will go to show that the representatives were really in the employment of the company for all practical purposes. Sri Ratnakar objected to such an inference. We uphold his objection. These letters were addressed to the Joint Managing Director of the assessee-company and the copies were recovered in the premises of M/s Sri Bhaskara Auto Service. If the Joint Managing Director had really given a reply to the representative, certainly it could be held that it was the assessee-company which was controlling the representatives but not the dealer-firms. In fact, the letter itself started, to quote again, with the words "I wrote nearly 6 letters requesting your goodself.... so far I have not received any payment." No action was taken by the Jt. Managing Director on these letters because these letters did not relate to the company though addressed to the Jt. Managing Director. It is also quite possible to say that sometimes the representatives would complain to the principal if they do not get their commission properly from the dealer. It may also be due to the fact that such commission payments are made by adjustments in the accounts of the dealer-firms. That does not make them employees of the principal itself. For these reasons, we hold that though the representatives were working for the company's products they were not working under the control and supervision of the company.
19.1 Another aspect of the matter is that the arrangement with the dealer-firms is a device or ruse to divert the profits of the assessee-company. In this connection, the Income-tax Officer referred to the constitution of the firms consisting of 20 partners each and the sub-partnership arrangements among the partners of the firms. He also referred to certain sworn statements listed below :-
Page No. in Sl No. Name of deponent departmental.
paper book
1. Sri K.V.R. Chowdary, MD & Chairman, SRMT Ltd.
dt. 10/11-2-1988 1 to 15
2. Sri K.V.R. Chowdary dt. 11-2-1988 17 to 20
3. Sri Bhamidipati Nageswara Rao, Managing Partner
of M/s Sri Bhaskara Auto Service, Kakinada,
dt. 10-2-1988 29 to 34
4. -do- dt. -do- 35 to 38
5. -do- dt. -do- 39 to 44
6. -do- dt. -do- 45 to 48
7. -do- dt. 4-7-1986 49 to 52
8. Sri K. Muralidhar, employee of Sri Bhaskara
Auto Services, dt. 10-2-1988 55 to 64
9. Sri Anaparthi Sriramulu dt. 10-2-1988 65 to 68
10. Sri Chandrada Subba Rao, Pr. in Sri Prabhakar
Enterprises, dt. 10-2-1988 69 to 72
11. -do- dt. 10-2-1988 73 to 76
12. Sri J. Mangaraju dt. 10-2-1988 77 to 92
13. Sri. M.V.V. Satyanarayana Rao dt. 10-2-1988 93 to 108
He also made an analysis of the withdrawals from the bank accounts of 14 of the partners in M/s Sri Bhaskara Auto Service and 7 of the partners in M/s Sri Bhanu Enterprises. Reading together the statements of the partners as listed above and on an analysis of the withdrawals in the partners' accounts as mentioned above, he came to the conclusion that commission, which was initially paid to these dealer-firms, had been ploughed back to the coffers of the assessee-company ; at any rate, it was a device to divert the profits of the assessee-company. Thus, he disallowed the net commission paid for the assessment year 1985-86, It is pertinent to recall that the above statements were not available before the Income-tax Officer when he completed the assessment for the assessment year 1984-85 but were available before him for the assessment year 1985-86 and, therefore, in his order for the latter year, he drew support from these materials to confirm his view that these firms are merely conduits to syphon off the profits. The above materials are relevant for the assessment year 1985-86. We have already admitted these materials for our consideration on a petition moved by the learned Senior Departmental Representative and we propose to consider the same in the following paragraphs.
19.2 There was a search in the premises of the assessee, its Managing Director and also in the premises of the dealer firms and their partners, during the period from 10-2-1988 to 12-2-1988. The first statement is that of Sri K.V.R. Chowdary, Managing Director & Chairman of the assessee-company, dated 10/11-2-1988. There are 48 questions. Till question No. 39, there are only usual questions seeking information. Question No. 40 seeks information on distributors or authorised dealers. Sri Chowdary mentions the name of four authorised dealers and questions were put about their constitution and about the existence of agreements, and if so whether they were approved by the Board of Directors. The answers were to the effect that the firms were partnership firms, that the dealership is governed by agreements and that such agreements were approved by the Board of Directors. Now comes question No. 48 and the question and the answer thereto are as follows :-
Q. 48. At this point of time may I invite your attention to Section 132 (4) of the IT Act, which states that any disclosure made during the course of search operation voluntarily would not amount to concealment of income. Would you make any disclosure voluntarily?
(The answer to this question was written by Sri K. Sarathi, son of Sri K.V.R. Chowdary) A. I in my capacity of the Managing Director of M/s SRMT Ltd. would like to make some admissions. There are three firms of authorised dealers of the said company at Kakinada namely Sri Bhaskara Auto Service, Sri Bhanu Enterprises and Sri Prabhakar Enterprises. These are partnership firms, which from their conception, and till date, have been receiving commissions from the said company at the rate of 15% of net sales turnover a portion of which, roughly 50% is given away to the retail dealers as overriding commission as per agreement on the sales effected by him, of the products of SRMT Ltd. After deducting the overriding commission, given away to the retail dealers the net income in the hands of the above said three partnership firms, has suffered tax, as income of said three firms. I would like to state and affirm that the net income of the said three firms as referred to above is in reality the additional income during the respective years of the M/s SRMT Ltd. over and above the income assessed to tax or disclosed in the return of income or figuring (in) books of account of M/s SRMT Ltd. Right now I am not in a position to exactly state the said additional income relevant for each of the concerned years. However, taking an overall view, certain expenditure incurred etc. I would state and affirm that the total amount of additional income of M/s SRMT Ltd. for the above said years of payment of commission to the above said three firms, and till date, would be about Rs. 260 lakhs (Rs. two hundred sixty lakhs). Therefore, M/s SRMT Ltd. is liable to pay additional tax on the said additional income for the concerned years. I in my capacity as the Managing Director of M/s SRMT Ltd. would undertake to arrange for expeditious payment of the said due additional taxes. However, I would expect that after collecting the additional taxes due credit for taxes paid by the above-said three partnership firms and the partners of the said three firms should first be given and thereafter the net. tax liability be determined. We would be providing exact figure for the respective assessment years after verifying our books of accounts keeping in view the above admitted figure Rs. 260 lakhs. But however since the concomitant tax liability will be staggering for being paid in one instalment I would expect that the Income-tax Department will be considerate in accepting payment of the said additional due taxes over a period of 15 months.
(Emphasis supplied) There are no further questions. The statement ends with usual formalities. This statement was taken on 10-2-1988 but would appear to have been concluded by 11-2-1988, perhaps past midnight. There is another statement dated 11-2-1988. Question No. 10 is relevant:-
Q. 10. I am showing to you the sworn statement of Sri Bhamidipati Nageswara Rao, Managing Partner of M/s Bhaskara Auto Service with whom the company has an agreement appointing them as Authorised Dealers of SRMT Ltd. In this sworn statement he categorically stated that M/s Bhaskara Auto Service was floated on your instructions with an intention to divert a portion of the profits of SRMT Ltd. Please read his deposition and what have you to say in respect of the statement of Sri B. Nageswararao?
The original answer was "All that is said in the above statement is not correct." This line was scored out and the answer was recorded as follows :-
In my earlier statement I explained about the commission payments. Voluntarily I disclosed an amount of Rs. 260 lakhs and at this point of time I do not want to give explanation about the statement of Sri Bhamidipati Nageswara Rao.
Sri Ratnakar submitted that nothing was found in the possession of Sri K.V.R. Chowdary - cash, jewellery, bank accounts, valuable articles or things. Therefore, the above statements recorded are not statements recorded under Section 132(4) of the Income-tax Act. He submitted that the search started on the morning of 10th February 1988 and lasted for several hours and extended beyond midnight. An army officers were on the scene; the premises of the company and its Managing Director and the premises of the firms and their partners were searched simultaneously ; statements were recorded under threat of dire consequences though it would be difficult for the assessee to provide any direct evidence in this regard; there was a lot of mental tension for Sri K.V.R. Chowdary who was above the age of 60 years ; when officers were going about their operations in his house from dawn to dusk to midnight to near dawn, apart from the humiliation, mental tension and physical inconvenience the search had caused, the presence of a large number of officers and the fact that simultaneous search operations were conducted in and around him had made him shiver in his shoes and in that state of mind the statement had been recorded. Thus, there was coercion at least mentally if not physically. The phrasing of the question No. 48 was a deliberate design to hustle him into a statement and the manner in which the statement itself ended abruptly would show that the department wanted a particular reply and once such reply was given there was no further questioning. This would suggest that Sri Chowdary was induced into making this statement. He further emphasized that in the second statement recorded on 11-2-1988, to question No. 10 having reference to the sworn statement of Sri B. Nageswara Rao, the spontaneous answer was that that statement was not correct, but as such a reply did not suit the purpose of the department, it was scored out and another reply was obtained and thus the admission was not voluntary. In this connection, he emphasized the expression "voluntarily disclosed" and pointed out that this statement was not in the hand-writing of anyone else but in the hand-writing of the Authorised Officer himself though the answer to question No. 48 of the earlier statement was written in the hand-writing of the son of the deponent. All these circumstances would go to show that the Managing Director was made to make certain disclosures much to his discomfort and against his will.
19.3 Sri Rangabhashyam stoutly opposed the submissions of Sri Ratnakar. He submitted that insinuations and baseless charges are levelled against the Revenue. The search was conducted in a smooth manner though a large number of officers were deputed for the same. No doubt the search began at 9-00 AM on 10-2-1988 and partially concluded at 6-00 AM on 11-2-1988. It was again resumed at 7-00 PM on 11-2-1988 and concluded at 9-00 PM on the same night. Though the search had lasted for long hours, no inconvenience was caused to Sri K.V.R. Chowdary or to any member of his family or to anyone and there was no complaint about that. The officers knew their job and were always polite and no threat or intimidation was resorted to as alleged by Sri Ratnakar. Speaking on a personal note, he submitted that he was in overall charge of the search operations on those two days and to his knowledge none complained about any threat or intimidation. Thus, the allegations of the assessee's counsel are baseless and are designed to detract from the main issue.
19.4 We have heard rival submissions and perused the statements. It cannot be said that the statements were taken under threat or intimidation or under coercion. There is no presumption of illegality or wrong-doing when an authority is exercising its statutory functions. It has to be proved, if there had been any. No such proof has come forth except bare assertions. Sri Rangabhashyam on a personal note had explained before us that he was in overall control of the search operations and to his knowledge no complaint was made in this regard. Knowing Sri Rangabhashyam as we do in his capacity as Senior Departmental representative, as a person endowed with sound knowledge of law coupled with mild temperament and endearing qualities of head and heart, we have no hesitation in accepting his personal explanation. Further, in the absence of material, we have to reject the allegations levelled by Sri Ratnakar as not substantiated.
19.5 Another related issue is whether the statements recorded on 10-2-1988 and 11-2-1988 by the Authorised Officers from Sri K.V.R. Chowdary were statements under Section 132(4). Sri Rangabhashyam's submissions are threefold: (i) though no books of account, documents, money, bullion, jewellery or other valuable article or thing was found, Sri Chowdary as Managing Director of the company is deemed to have control of the books of account ; (ii) the word "thing" may refer to tangible and intangible assets and, therefore, it could take in its sweep an enquiry about the commission payments; (iii) the Explanation to Section 132 (4), inserted by the Direct Tax Laws (Amendment) Act, 1987 was clarificatory in nature and, therefore, even in an enquiry in connection with a proceeding under the Income-tax Act, statements could be recorded whether any thing is found or not. Sri Ratnakar submitted that nothing was found. The word "thing" which is found in Section 132 (4) could mean only tangible items but not intangible items like expenditures. The company's books were not found in the premises of Sri Chowdary. The books of account of the company cannot be said to be in the control of the Managing Director, because the Managing Director was only responsible for the conduct of the day to day affairs of the company. No material was placed on record to show that the Managing Director was holding the key to the place where the company's books were kept. Therefore, it cannot even be construed that there was constructive control when the legislature itself, in its superior wisdom, has not used such an expression. Addressing himself to the Explanation to Section 132(4) introduced by Direct Tax Laws (Amendment) Act, 1987, Sri Ratnakar submitted that doubts were removed only prospectively but not retrospectively. Whenever the legislature wanted to have a retrospective intendment, it always chose to employ deeming provisions and no such deeming provision is found in the Explanation to Section 132(4), as for example in the case of the Explanation to Section 263(1). Sri Rangabhashyam in his reply submitted that though the deeming provision was to be found in the Explanation to Section 263(1), it was because there was a limitation for action under Section 263(1) and, therefore, such a deeming provision was considered essential. Even if the deeming provision is removed, it could be said that whenever the expression "For the removal of doubts" is employed in an Explanation, it is always clarificatory in nature and is declaratory in its content. Thus, the Explanation has retrospective effect.
19.6 We have heard rival submissions and perused the records. Section 132(4) at the relevant time was as follows :-
The authorised officer may, during the course of the search or seizure, examine on oath any person who is found to be in possession or control of any books of account, documents, money, bullion, jewellery or other valuable article or thing and any statement made by such person during such examination may thereafter be used in evidence in any proceeding under the Indian Income-tax Act, 1922 (11 of 1922), or under this Act.
On a perusal of the Panchnama, we do not find that Sri K. V.R. Chowdary was in possession of the company's books of account, nor any document relating to the company. There is no allegation that the personal books contained reference to commission payments. No money, bullion, jewellery or other valuable article or thing was found in his possession. The learned Senior Departmental Representative emphasizes that the expression "thing" occurring in Section 132(4) would cover both tangible and intangible items. We are not persuaded by his argument. The word "thing" occurs along a train of words such as "books of account, documents, money, bullion, jewellery or other valuable article" and, therefore, the principle of ejusdem generis would apply in the context in which the word "thing" is used. Unless certain "thing" which has some monetary value was found in the possession or was in the control of a certain person, Section 132(4) cannot be invoked. Besides, in the scheme of Section 132(4) and (4 A) and Section 132(5), by using the words "valuable article or thing" what the legislature intended to imply is that the assets covered by these words should be such as could be converted into cash so that the tax liability of the assessee concerned, as revealed from his undisclosed income, could be duly satisfied. In this view of the matter, we are supported by the decision of the Gujarat High Court in Bhagwandas Narayandas v. CIT 98 ITR 194.
19.7 The next leg of the argument of Sri Rangabhashyam is that the word "control" should be construed to mean and include constructive control also. In our opinion, the law-makers did not conceive of constructive control in the scheme of Section 132(4). A person may be said to have control (whether actual or constructive) over something only when no other person has got access to the same. Persons dealing with the accounts, as for instance the book-keeper or the accountant have an easy access to the same and, therefore, it cannot be said that the Managing Director has control over company's accounts, overt or covert. If the term "control" is equated with "authority", even then in the case of the company, no person has any authority to direct keeping of the books of account/documents to his liking or in a manner not in conformity with the provisions of the Companies Act. The Managing Director was not having the key to the place where the books of the company or its documents had been kept. Further, the term "control" would naturally refer to control over something found in a particular place, especially when such term is used beside an expression like "possession". Moreover, the affairs of the company are always subject to the control and supervision of the Board of Directors. More so, in the case of this company, in view of Articles 14, 15, 16 and 18 of the Articles of Association. Even the resolutions passed by the company in 1981 and 1984 on the terms and conditions of appointment of Managing Director and Joint Managing Director relate only to remuneration and perquisites and to none else. No particular direct or the Managing Director for that matter can claim to have control of the affairs of the company, because control and supervision vest with the Board of Directors as such. This apart, Sri K.V.R. Chowdary is not the only Managing Director. There is also a Joint Managing Director. At any rate, individually a director or Managing Director cannot be said to have control of the books of account of the company or the affairs of the company. This is the pith and substance of the provisions of the Companies Act. Thus, we reject the revenue's contention.
19.8 The third aspect of the matter is the Explanation as introduced by the Direct Tax Laws (Amendment) Act, 1987, with effect from 1-4-1989. The Explanation occurs under Section 132(4) and it is as follows :-
For the removal of doubts, it is hereby declared that the examination of any person under this sub-section may be not merely in respect of any books of account, other documents or assets found as a result of the search, but also in respect of all matters relevant for the purposes of any investigation connected with any proceeding under the Indian Income-tax Act, 1922 (11 of 1922), or under this Act.
It takes effect from 1-4-1989. This Explanation was not in force at the time when the search was conducted on 10-2-1988 to 12-2-1988. In our opinion, this is only prospective in operation and does not have any retrospective effect. Our reasons are as follows :-
Section 132 enables the revenue to conduct search operations and effect seizures. Thus, it makes inroads into the personal liberty of the citizen, but such extreme measures are necessary in the context of economic offences. Citizen's substantive rights such as Right to Privacy which is part of the Right to Liberty, and the Right to Hold and Enjoy Property, are made subject to reasonable restraints in an action under Section 132. It is settled law that whenever substantive rights are affected by a legislation retrospectively, the legislature should spell out its intention in no unclear terms. Section 132 of the Income-tax Act is a substantive provision. Any amendment to the same by way of explanation can be only prospective in its operation unless the legislature deems it to be retrospective in effect. No such provisions found in the Explanation to Section 132(4) as inserted by the Direct Taxes (Amendment) Act, 1987, with effect from 1-4-1989. Therefore, the Explanation cannot come to the rescue of the revenue, notwithstanding the preface "For the removal of doubts...". Sri Rangabhashyam laboured hard to buttress the point that the expression "For the removal of doubts" is always clarificatory and retrospective in effect. But, that would depend upon the nature of the right that is affected. In the case of substantive rights, no retrospective effect can be inferred from a provision unless stated expressly.
19.9 For another reason also, we are unable to accept the argument of Sri Rangabhashyam. The purpose of an Explanation is to remove any ambiguity in or to explain the meaning of the words or expressions used in the section preceding it. However, we notice that the Explanation inserted with effect from 1-4-1989 to Section 132(4) does not deal with any word or expression employed in that section, nor does it deal with any ambiguity in relation to the words or expressions found in the section, but goes to give a new meaning to the section itself by bringing within its ambit a totally new concept viz. by using the words "not merely but also" and thus the scope of the main section itself stands re-written. So, for all practical purposes, the Explanation is a sub-section to Section 132 though it is called an Explanation. Any sub-section can take effect only from the date from which it comes into force and not before. In this view of the matter also, we reject the revenue's contention.
19.10 Sri Ratnakar cited the Explanation to Section 263(1) as introduced by Finance Act, 1988, w.e.f. 1-6-1988, wherein the deeming provision is found, unlike in the case of Explanation to Section 132(4), and emphasized that in the absence of a deeming provision, the Explanation to Section 132(4) should be read only prospectively. Explanation to Section 263(1) as introduced by the Finance Act, 1988, w.e.f. 1-6-1988, and as amended by Finance Act, 1989, w.e.f. 1-6-1988, is as follows :-
For the removal of doubts, it is hereby declared that, for the purposes of this subsection,-
** ** **
(c) where any order referred to in this sub-section and passed by the Assessing Officer had been the subject matter of any appeal filed on or before or after the 1st day of June, 1988, the powers of the Commissioner under this sub-section shall extend and shall be deemed always to have extended to such matters as had not been considered and decided in such appeal.
From a reading of this Explanation, it is abundantly clear that the legislature wanted to clothe the Commissioner with retrospective powers to revise the order of an Assessing Officer to the extent to which it did not merge with the order of an appellate authority. In the absence of such a deeming provision, inasmuch as Section 263 is only a procedural section, retrospective intendment could be inferred but doubts might be entertained about such an inference in some quarters. The legislature, therefore, took care to spell out its intention very clearly even while dealing with a procedural section. Such being the case, if there was a retrospective intendment in relation to the Explanation to Section 132(4), which affects the substantive rights of a citizen, the legislature in its superior wisdom would have clearly employed a deeming provision. That has not been done. For this reason also, we hold that the Explanation to Section 134(4) will not come to the rescue of the revenue.
19.11 Lastly, Sri Rangabhashyam submitted that even if certain materials were gathered in the course of an illegal search, the same can be used against the assessee. No doubt, he is supported by the decision of the Supreme Court in Pooran Mal v. Director of Inspection [1974] 93 ITR 505, in this regard. We are convinced that the search was properly authorised and was conducted in a smooth manner and, therefore, the question of using any material collected in the course of an illegal search does not arise in this case.
20.1 Sri Rangabhashyam took us through the department's paper book (DPB in brief) which contains copies of certain cheques issued by some of the partners of the dealer-firms which were encashed by the persons in the employment of the assessee-company or its sister concerns. On the basis of these materials, he submitted that the commission payments found their way back to the company. Sri Ratnakar vehemently objects to such a proposition. It may be that the cheques issued by some of the partners of the dealer-firms were encashed by some of the employees of the assessee-company or its sister concerns, but that does not mean that the money had flowed back to the company. Kakinada is a small town and the firms are also situated near the premises of the assessee-company and, therefore, some of the employees of the company or its sister concerns might have done personal services to some of the partners of the dealer-firms. Such personal service might be by way of courtesy or for pecuniary gain for them and merely because a few employees obliged the partners of the dealer-firms, no adverse inference can be drawn against the company. None of the cheques has been traced into the accounts of the company nor into the accounts of Sri K.V.R. Chowdary, Managing Director, or its Joint Managing Director. Therefore, it cannot be held that the money had flowed back to the assessee. As far as the assessee-company is concerned, it had parted with the commission from out of which the firms also had paid commission to the retail dealers and after that what the partners did with their money would be only an application of income in their hands. At any rate, it cannot be held that the company derived benefit out of it. He further submitted that he would go to the length of saying that even if some of the directors had obtained some benefit indirectly, for which there is no proof as on date, that should be tackled only in their hands but not in the hands of the company. Further, he submitted that if the partners of the dealer-firms had in turn entered into sub-partnership arrangements, again it is a matter not to be tackled in the hands of the company. The company is not concerned with what the partners of the dealer-firms do with their share of profits.
20.2 We have heard rival submissions and perused the records. The Income-tax Officer dealt with the withdrawals from bank accounts of some of the partners of the dealer-firms in the assessment order for the assessment year 1985-86. We quote below his observations in some such cases and comment on the same :
(1) "Smt. Mutala Adilakshmi is a partner in M/s Bhaskara Auto Service. She had a S.B. account No. 3627 in Union Bank of India, Kakinada. A bank account was opened in the joint names of Smt. Adilakshmi and one Sri Chundru Veeraraju. Sri Veera Raju issued all the 8 cheques relating to 1983 and 1984 in favour of Sri M. Sarveswara Rao and O. Balaraju, who are closely connected with persons in management of S.R.M.T. The amounts drawn on these cheques amounted to Rs. 1,69,250.
In the department's paper book the bank account and photo copies of the cheques are found at page marked as A(a). We are concerned with the calendar years 1983 and 1984 but not 1985. The actual amount for both the years under appeal worked out to Rs. 1,65,250. Neither Smt. Adilakshmi nor any person mentioned in the above paragraph was examined by the Income-tax Officer. The Income-tax Officer is of the view that Sri. M. Sarveswara Rao and Sri O. Balaraju are closely connected with the persons in management of the assessee-company but the nature of close connection had not been brought out. In the circumstances, no adverse inference can be drawn against the assessee.
(2) "Sri Yeramati Panasa Ramudu, who is a partner in M/s Bhaskara Auto Service, had an account bearing No. 7299 in Canara Bank, Kakinada. An authorisation has been given to one Sri Chitturi Raghavayya by this partner and he has signed all the 7 cheques issued from 1981 to 1984. Sri Chitloori Raghavaiah has been working as Parts Manager in M/s Gopal Auto Service, a sister concern of SRMT Ltd. The cheques issued were either self-cheques or cheques issued in favour of Sri Mangaraju. Out of 7 cheques, 6 cheques were encashed by Sri Mangaraju, an employee of M/s Gopal Auto Service and a trusted lieutenant of Sri. M. V. V. Satyanarayana Rao, Director, SRMT The proceeds of such cheques aggregated to Rs. 2,46,850.
The details are to be found in department's paper book at pages marked as A(b). We are concerned with the calendar years 1983 and 1984 during which period the following withdrawals are found :-
1983 Rs. 1,32,580 1984 Rs. 40,400
Of the four withdrawals spreading over 2 years, two are by Sri Mangaraju amounting to Rs. 62,940. Sri Yeramati Panasa Ramudu was not examined. Sri Mangaraju was examined under Section 132(4) of the Income-tax Act. He is a cashier in Gopal Automotive Pvt. Ltd., Kakinada. He is not related to Sri K. V.R. Chowdary or Sri M.V.V. Satyanarayana Rao. He is said to carry on money-lending business (answer to question No. 6 in his statement at pages 77 to 91 of DPB) but no books were maintained. To a question whether he has any connection with SRMT Ltd., he had stated that he did not have any connection with SRMT Ltd., and he did not discharge any work of SRMT Ltd. (page 86 of DPB). He had also stated that the Managing Director of Gopal Automotive Pvt. Ltd. was Sri M.V.V. Satyanarayana Rao. Questions were asked about some of the above withdrawals and he answered that though he did not know Sri Yeramati Panasa Ramudu, he gave the cash to Sri M.V.V. Satyanarayana Rao (page 91 of DPB). However, we note that Sri Yeramati Panasa Ramudu was not examined.
Besides, Sri Mangaraju had given a different version in his sworn deposition before the Income-tax Officer on 30-5-1988.
(3) "Sri Mallidi Dorareddy, who is a partner in M/s Bhaskara Auto Service has S.B. Account No. 7318 in Canara Bank, Kakinada. A letter of authority has been obtained for the operation of this bank account in favour of Sri Chittoori Raghavaiah, who incidentally is the letter of authority holder in the case of Sri Yeramati Panasa Ramudu referred to above. Six cheques relating to the years 1981 to 1983 were issued by Chittoori Raghavaiah as letter of authority holder. Some of the cheques were self-cheques and some have been issued in favour of Sri J. Mangaraju, employee of Sri Gopal Auto Service. The bearer cheques as well as the self-cheques were found to have been encashed by Sri J. Mangaraju. The total proceeds involved in these six cheques were Rs. 1,73, 289.
The bank statements are found in the department's paper book marked as A(c). In the calendar year 1983, there are only three withdrawals amounting to Rs. 97,860. Of these, withdrawals of Rs. 66,260 are in the name of Sri Mangaraju. Of the three withdrawals, questions were put to Sri Mangaraju about two items amounting to Rs. 30,000 and Rs. 36,260 and he admitted that Sri Chittoori Raghavaiah was Manager (Spare Parts) of Gopal Automotive Pvt. Ltd. and he did not have any personal transaction with him and after encashing the cheques he handed over the proceeds to Sri. M.V.V. Satyanarayana Rao. Here again, we note that Sri Chittoori Raghavaiah was not examined. Further, Sri Mangaraju has given a different version in his sworn statement dated 10-5-1988 before the Income-tax Officer.
20.3 The Income-tax Officer then proceeded to deal with another set of cases where the cheques were signed by the account holder himself, i.e. the partner of the authorised dealer-firm, but the cheques were issued in favour of persons connected with the assessee-company or its sister concerns or were self cheques. The instances cited by the Income-tax Officer are as follows :-
(1) M. Sarveswara Rao or O. Balaraju encashed some of the cheques of Gunnam Rama Rao, partner of Sri Bhanu Enterprises. But, none of them was examined.
(2) Sri Ch. V. V. Satyanarayana and Sri Sirajuddin encashed the cheques of Sri Sathi Reddy. Sri Satyanarayana is an employee of the assessee-company. But, none of them was examined.
(3) Sri M.V. Ratnam and Sri B. Appalaraju, employees of the assessee-company, encashed four cheques of Sri Tetali Salhi Reddy, partner in Sri Bhaskara Auto Service. Though the Income-tax Officer states that they arc trusted persons of the management of SRMT Ltd., no material is on record to prove their proximity to the management. None of them was examined.
(4) Another instance is where 5 cheques were in the name of M.V. Ratnam and B. Appalaraju issued by Sri Dwarampudi Venkata Reddy who is a partner in Sri Bhaskara Auto Service. None of them was examined.
(5) In 1983, on cheque for Rs. 27,000 and in 1984 two cheques amounting to Rs. 46,050 were issued in favour of B. Appalaraju but he was not examined.
(6) In Smt. Mallidi Krishna Kumari's account (partner of Sri Bhanu Enterprises) two cheques were impounded of which one was encashed by Sri J. Mangaraju and another was credited to Sri Aruna Auto Service (P.) Ltd., which was encashed by it and the Income-tax Officer wondered how this was available for distribution as share of profits to sub-partners. Whether the profits were available for distribution among the sub-partners or not, is a totally different question and no adverse inference can be drawn against the assessee-company about these withdrawals. No question was put to Sri Mangaraju about this withdrawal in account No. 8774.
(7) Sri M.V. Ratnam and Sri B. Appalaraju had cheques in their favour from Sri Tadi Venkatareddy, partner in M/s Sri Bhaskara Auto Service, but none of them was examined.
In the above instances pointed out by the Income-tax Officer, the Income-tax Officer was not dealing with the accounts of the company nor was he dealing with the accounts of the firms. He was only dealing with the bank accounts of some of the partners of the dealer-firms and merely because certain cheques were encashed by some persons who are the employees of the sister-concerns of the assessee-company or of the assessee-company itself, he drew an adverse inference against the company. In our considered view, the material is not enough to indict the company. Firstly, no unaccounted cash or bullion or jewellery or any slip or diary or duplicate set of accounts were found either in the premises of the company or in the premises of the Managing Director or any director or any of the authorised dealer-firms. Therefore, the charge that the company has derived benefit out of payments through the medium of partners is not substantiated by sufficient material on record.
(8) Sri Mutukumilli Venkata Satyanarayana, partner in M/s Sri Bhaskara Auto Service, had an account with Andhra Bank bearing No. 9509/31. Of the two cheques issued by him in 1983, one was in favour of Sri P. Suryanarayana Murthy, Accountant of M/s Sri Bhanu Enterprises, and the other in favour of Sri Ch. V.V. Satyanarayana, Managing Partner of M/s Sri Prabhakar Enterprises. Both the cheques were encashed by Sri Satyanarayana who is also an employee of SRMT Ltd. The deposition of Sri Ch. V.V. Satyanarayana in the course of the search is discussed by the Income-tax Officer in the assessment order for 1985-86. It is stated that though there is the written agreement between the assessee and Sri Prabhakar Enterprises, whatever amounts were credited to the accounts of the partners towards sales commission should be returned to Sri K.V.R. Chowdary, Managing Director of the assessee-company, and other directors. He was inducted into the partnership by them. The cheque drawing power which he had in terms of the partnership deed was only an empty power. He used to hand over the cheques issued in favour of the partners to Sri K.V.R. Chowdary, who made his own arrangements to get back the proceeds of the cheques. But, as far as his share was concerned, he drew the money from the bank and handed over the cash to Sri K.V.R. Chowdary. He was only an employee of SRMT Ltd., getting a salary of Rs. 1,000. However, Sri Ch. V.V. Satyanarayana retracted his statement which is also referred to at page 19 of the assessment order for 1985-86. According to him, the firm was genuinely constituted, the profits were distributed in accordance with the shares in the agreement and he fulfilled the role as Managing Partner and SRMT Ltd. was threatening criminal action against him for giving false statement before the Income-tax authorities. The Income-tax Officer felt that Sri Ch. V.V. Satyanarayana was only obliging his pay-masters by retracing the statement given in the course of the search.
20.4 Similar is the case with the statement of Shri B. Nageswara Rao, Managing Partner of Sri Bhaskara Auto Service. More than one statement were recorded from him on 10-2-1988 in the course of the search. The Income-tax Officer referred to one of the statements and proceeded to observe therefrom that he was inducted ma the firm by Sri K.V.R. Chowdary, that he was only a partner on paper and he never enjoyed the profits and that he signed only the cheques and gave them to accountant Sri Murali and before that to one Sri Suryanarayana Murthy, the then accountant, introduced by Sri K.V.R. Chowdary. He also stated that he had never operated the bank account himself though he used to sign blank cheques brought before him by the accountant. He admitted that 2 per cent commission was paid to the field representatives and 1 per cent turnover commission on the sales made in the areas allotted to them but he did not fill in the amount of commission in the cheques and stated that even for the cheques issued to the field representatives for the commission earned by them, he had not filled in the amount in the cheques nor had he seen the collection of the amount of those cheques. He is also on record in the course of his other statements dated 10-2-1988 (pages 29 to 38 of DPB) recorded in the course of the search, given under Section 131 and Section 132 of the Income-tax Act, which are brought to our notice by Sri Ratnakar and the following extracts are relevant:-
Q. Who are the other partners of the firm ?
A. There are twenty partners in the firm. I do not know the names of the partners." (page 29) Q. What is share of profit or loss in the firm ?
A. My share of profit is 5 1/4 per cent." (p. 30) Q. What is the accounting year of the firm ? When it commenced the business? What is the total amount of profit or loss for the first year of the business ?
A. The firm M/s Sri Bhaskara Auto Service, Kakinada, commenced business in January 1984. 1 do not know about the accounting year of the firm. I got a profit of Rs. 42,000 (Rupees forty two thousand) approximately during the first year. Second year also I have received similar sum of Rs. 42,000 (Approx.) towards my share of profit." (p. 31) Q. Whether you arc having any Bank account. Where did you keep this amount of Rs. 84,000 (profit for two years) ?
A. I am having my personal current account in Corporation Bank, Market Street Branch, Kakinada. The share profit amount of Rs. 42,000 per year is again divided to other three sub-partners, one is Sri Edala Ramarao, Kakinada (full address is not known to me) and I do not know the other two sub-partners' names. I have never seen the other two sub-partners." (p. 31) Q. What happened to the amount of share profit received by you ?
A. Every year my share of profit is Rs. 42,000 (approx.) in the main firm. After dividing the share profit to other sub-partners my share of profit is about Rs. 14,000 per year. I have drawn some amount towards personal expenses amount drawn is not known. The balance is bank account." (p. 32) Q. Whether you withdraw any amount from the firm? What is your initial capital investment in the firm in the first year of the firm ? What is your personal monthly expenses ?
A. I have invested an amount of Rs. 12,000 (Rupees twelve thousand) by taking loan from my father's brother and relatives during the first year of business in 1984. I am not withdrawing any amount from the firm. I am a bachelor and my monthly expenses is about Rs. 200." (p. 33) Q. Who manages the affairs of M/s Bhaskara Auto Service ? A. I manage." (p.36) Q. What are your activities as the managing partner of M/s Bhaskara Auto Service ?
A. I mainly look after the business correspondence of M/s Bhaskara Auto Service. I have got the cheque-drawing power.
The third statement was recorded from the same person on 10-2-1988 at 1-30 A.M. and concluded at 1 P.M. (as per timings furnished by the learned Senior Departmental Representative). The following questions and answers are relevant :-
Q. What are your sources of income ?
A. I am getting a monthly remuneration of Rs. 250 in the capacity of Managing Partner of M/s Bhaskara Auto Service. Apart from this I do not have any other sources or modes of income." (p. 39) Q. You are claiming that you are the Managing Partner of M/s Bhaskara Auto Service and that you are getting a monthly remuneration of Rs. 250 for services rendered. Are you not getting any profit from the said concern i.e. M/s Bhaskara Auto Service towards your share ?
A. Though I am designated as Managing Partner, it is only for name-sake. I do not have any controlling or decision making authority. Though certain share of profits is being shown on record as being given to me, I am not enjoying those profits.(p. 39) Sri Ratnakar contends that Sri B. Nageswara Rao had given three statements on 10-2-1988 and it is only in the third statement that he was speaking against himself but not in the other two statements which were also recorded in the course of the search. This would suggest that either he is inconsistent or he is not speaking the truth or was making the third statement out of nervousness or fear. In any case, he had also resiled his statement subsequently but that was not taken into account by the Income-tax Officer and the Income-tax Officer was only making use of the third statement against the assessee by conveniently overlooking his first two statements.
20.5 We have carefully gone through the statements of Sri B. Nageswara Rao. There are inconsistencies in his statements and, therefore, his statement cannot be relied upon and cannot be used in part against the assessee. He had resiled his statement which was against the interests of the assessee. He had also given a sworn deposition as early as 4-7-1986 before the Income-tax Officer wherein he had admitted that the firm was employing agents for sales and paying commission etc. In the light of the above, we cannot rush to the conclusion that Sri Bhaskara Auto Service was a conduit for the assessee-company.
20.6 Sri M.V.V. Satyanarayana Rao had also given a deposition on 10-2-1988. The following questions and answers are relevant (page 103 of DPB):-
Q. According to Shri Mangaraju's statement on oath, the following cheques were drawn by Shri Chittoori Raghavaiah, Spare Parts Manager, and Yeramati Parasuramulu of Rayavaram on Canara Bank under either their names or 'self' were paid to you on encashment:
Chittoori Raghavaiah 24-7-1982 Ch. No. 660623 Rs. 25,000 4-1-1983 Ch. No. 660624 Rs. 31,600 29-5-1982 " 660622 Rs. 900 5-12-1983 " 660626 Rs. 36,260 29-8-1983 " 660625 Rs. 30,000 Y. Parasuramulu 7-11-1984 Ch. No. 660277 Rs. 40,400 5-10-1983 " 660276 Rs. 34,440 29-8-1983 " 660275 Rs. 28,500 29-5-1982 " 660272 Rs. 3,050 24-7-1982 " 660273 Rs. 23,750 4-1-1983 " 660274 Rs. 69,640 Do you agree that cash was received by you ?
A. Yes, I agree that cash against these cheques was received by me." (p. 103 of DPB) Q. Do you wish to state anything voluntarily ?
A. I wish to state that I have agreed regarding the Bank accounts in the names of J. Mangaraju and his family members in good faith under Section 132(4) in the course of the search. I shall verify the extent of the transactions and disclose all the unaccounted incomes for which I may be exempted from penalty & prosecution.
In addition, he had stated that should there be a voluntary disclosure on the part of SRMT Ltd. group of concerns, including the firms, he should be relieved of the additional income-tax thereon. However, in his sworn deposition recorded on 30-5-1988 by the Income-tax Officer, to specific questions that were put about the cheques referred to in the preceding paragraphs - cheques drawn by Chittoori Raghavaiah in cheque Nos. 660623 to 660625 and cheque Nos. 660272 to 660277, but encashed by him - Sri J. Mangaraju had stated that the proceeds were given to Chittoori Raghavaiah only. The name of Sri M.V.V. Satyanarayana Rao was not mentioned (sec questions & answers 31 and 32 in the sworn deposition of Sri Mangaraju). Question No. 33 and the answer thereto are worth noting :-
Q No. 33: In your earlier deposition at the time of search operations the transactions in various bank books which stand in your name and in the names of your family members belong to M.V.V. Satyanarayana Rao. Do you confirm the same or disagree with it ?
A. They do not belong to M.V.V. Satyanarayana Rao.
Thus, Sri Mangaraju had resiled his statement and the admission made by Sri M.V.V. Satyanarayana Rao on the basis of earlier statement of Sri Mangaraju cannot by itself be made to indict the assessee-company.
20.7 The statements of Sri Mangaraju given under Section 132(4) of the Income-tax Act are found at pages 77 to 91 of the department's paper book. Several bank accounts were found in his name or in the names of his family members. Questions were asked about the transactions in the bank accounts found in the premises of Sri Mangaraju. He had stated that some of the transactions found in those bank accounts did not belong to him but they belonged to Sri M.V.V. Satyanarayana Rao, Managing Director of Sri Gopal Automotive Pvt. Ltd., Incidentally, Sri M.V.V. Satyanarayana Rao is also a director of the assessee-company. When passbooks or bank statements bearing his name or the names of members of his family are found in the possession of a person in the course of search under Section 132(4), the presumption arises that the accounts belong to the person found in possession and the transactions found in those accounts really belong to that person. The mere owning of these transactions by another person at the instance of the revenue that the other person had stated so is not enough to dislodge the presumption. They are not single transactions but are several in number. They are found in the bank accounts of Sri Mangaraju. There is no evidence to show that the accounts were opened on an introduction by Sri M.V.V. Satyanarayana Rao nor is there any evidence to show that the cheques were filled in by Sri M.V.V. Satyanarayana Rao and the amounts purported to have been withdrawn from these accounts were in fact given to Sri Satyanarayana Rao on each occasion. No question was put to Sri Satyanarayana Rao as to what he did with those amounts. Sri Mangaraju and Sri M.V.V. Satyanarayana Rao have resiled their statements. In view of the retraction of the statement of Sri Mangaraju, the legal presumption that the transactions in the pass books found in his possession really belong to him, stares at the revenue. In fact, Sri Ratnakar argued that he would go to the length of saying that if the directors or the Managing Director of the company had obtained any indirect benefit, that would not fasten the liability on the company and the issue should be tackled only elsewhere but not in the hands of the company. There is force in his submission. Unlike partnership firm where a partner can bind the firm or the other partners even wrongful transactions done in the course of the business of the firm (see Sections 26 and 27 of Partnership Act), directors of a company have no such power. They can only act bonafide within the limits laid down by the Memorandum of Association and the Articles of Association and also within the provisions of the Companies Act. Further, we observe that it has not been proved that the company has in fact received the amounts. Moreover, before the assessment was completed, the statements of the Managing Director and the Managing Partners were resiled. The company particularly wanted to cross-examine the Managing Partners of the firms on their statements, but the Income-tax Officer felt that inasmuch as the Managing Partners them selves had resiled the statements, there was no need for cross-examination. In the light of our above discussion, we hold that the leads have not taken the revenue anywhere near the assessee-company.
21. We have already considered the aspect whether there was need for selling products through the authorised dealers and whether there was such a mode of dealings prevalent in this trade and also whether there is trade practice for payment of commission, and held the issues in favour of the assessee. Sri Rangabhashyam contended that there was no need for such selling arrangements except as conduits as is obvious from the fact that these firms have disappeared by 1989. Sri Ratnakar brought to our notice that in view of the grave doubts entertained by the revenue about the bona fides of the company in having dealings with these firms, the company decided to terminate their appointments and go in for the appointment of authorised dealers from the open market and in this connection they had given an advertisement in The Hindu on 21-12-1988 and appointed M/s Ram Associates, a consultancy firm in marketing, finance and computers, to selection the assessee's behalf authorised dealers. A photostat copy of the advertisement was subsequently filed along with the report of Ram Associates about the selection of dealers or distributors for the assessee-company. Therefore, there is business need for marketing the products through dealers.
22. Having regard to the materials collected by the revenue and having heard rival submissions, we hold that it has not been established that the company had received back the commissions paid to the authorised dealer-firms. Sri K.V.R. Chowdary's statement, we have already held, is nota statement under Section 132(4). The manner in which question No. 48 was sprung on Sri Chowdary, the long statement with all its legal nuances made by him and the manner in which the statement ended abruptly without any further questioning as to how the sum of Rs. 2,60,00,000 allegedly received by the company was hidden in the company's accounts or otherwise dealt with, leave much to be desired. While we are not subscribing to the view that Sri K.V.R. Chowdary was under intimidation or coercion or threat, we find some undercurrent of force in the arguments of the learned counsel for the assessee that the admission was made by Sri Chowdary in a state of tension in the late hours of 10-2-1988, especially when the search had commenced at 9 A.M. on that day and was extending beyond midnight. Question No. 48 is as follows:-
At this point of time may I invite your attention to Section 132(4) of the I.T. Act, which states that any disclosure made during the course of search operation voluntarily would not amount to concealment of income. Would you make any disclosure voluntarily ?
Such a question can be put only when any money, bullion or other valuable article or thing is found. In fact, the instructions issued by the Central Board of Direct Taxes (Instruction No. 1741 dated 29-12-1986) specially enjoins upon the Authorised Officers to invite the attention of the persons searched to Explanation 5 to Section 271 (1)(c) only when unaccounted assets are found in the course of the search. When nothing was found in the premises of Sri K.V.R. Chowdary, there was no need for phrasing the question in the manner in which it has been done. This has given a handle to the learned counsel for the assessee to complain of inducement and assail the voluntary nature of the statement. [In this regard see the letter dated 1-3-1988 by the Managing Director addressed to the Commissioner of Income-tax (Central), Karnataka, Bangalore.] Even if this statement is to be taken to be one made under Section 132(4), we fail to understand how in the absence of any assets worth the name having been seized or found disproportionate to the known sources of income either of the assessee or of the deponent, and in the context of subsequent denials and other material on record, the inference drawn by the Income-tax Officer to the effect that the money was ploughed back to the coffers of the company, is justified. Rather, by cogent evidence it should be shown that the commission was never intended to be passed on to the dealer-firms, or after having been passed on, was retrieved by the company in some manner or other. For reasons stated in the preceding paragraphs, we hold that this has not been done. The painstaking enquiries conducted by the Income-tax Officer at great length have not led him to the company.
23. The Income-tax Officer had disallowed the total amount of the commission paid by the company to the dealer-firms for the assessment year 1984-85. However, for the assessment year 1985-86, he accepted the contention of the assessee that if at all any commission is to be disallowed, it should be the net commission and not the gross commission, and on that basis, he made the disallowance for the assessment year 1985-86 as follows :-
(1) M/s Sri Bhanu Enterprises Rs. 32,55,485
(2) M/s Sri Bhaskara Auto Service Rs. 26,23,833
(3) M/s Sri Prabhakar Enterprises Rs. 17,96,683
(4) M/s Mehta Trading Company Rs. 20,91,299
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Rs. 97,67,300
Less : Incentive commission paid out of the above
to the customers of the assessee:
Bhanu Enterprises Rs. 18,03,911
Bhaskara Auto Service Rs. 12,16,753
Prabhakar Enterprises Rs. 10,26,059
Mehta Trading Co. Rs. 1,04,151
Rs. 41,50,874
--------------
Balance: Rs. 56,16,426
To a question from the Bench as to whether the Income-tax Officer had any material against the payment of commission to M/s Mehta Trading Co., Sri Rangabhashyam, after verifying the records, submitted that there was none. Therefore, there is no case, even according to the revenue, for disallowing any part of the commission paid to M/s Mehta Trading Co. In our view, for the reasons set out in the preceding paragraphs, there is no justification to disallow any part of the commission paid to the three firms of Kakinada. Hence, the additions for both the years are deleted.
24. The major issue in the departmental appeals is about the relief granted by the learned CIT (Appeals) in respect of the commission payments. For the detailed discussions made by us in the preceding paragraphs, we reject the department's contention.
25. The revenue raises an alternative plea that at least the commission paid to the Kakinada firms after deducting the expenditure by the Kakinada firms should be subjected to disallowance. Though this alternative ground is raised for the assessment year 1984-85, similar plea was made before us for the assessment year 1985-86. We have carefully considered the issue. We have already held that there was genuine need for dealership arrangements and the transactions with the firms are not sham or make-believe arrangements, nor are the dealership firms benamis of the assessee-company as none of the partners of these firms or the sub-partnerships is shown to be a director or shareholder or related to the directors or shareholders of the assessee-company. It is also relevant to point out that in spite of a massive search, no unaccounted money, unaccounted bullion or other valuable articles or things or unaccounted documents, duplicate set of accounts or diaries or any slips etc. were unearthed either from the premises of the company or from the premises of the Managing Director or other directors. There is also evidence to show that the dealer-firms were granted registration or continuation of registration as genuine firms by the Income-tax Officer in the post-search period in his orders dated 27-3-1989 in the case of two Kakinada firms, and in the case of another firm registration was refused as assessment was made under Section 144. Thus, taking into account the totality of the circumstances of the case, we hold that no part of the commission paid by the assessee-company to the dealership firms can be disallowed, and reject the alternative ground of the revenue.
26. We are supported in this view by the decision of the Bombay High Court in the case of CIT v. Bharat Barrel and Drum Mfg. Co. (P) Ltd. [1990] 182 ITR 21. In that case, the assessee claimed deduction of an amount of Rs. 7,32,260 in connection with the export of some steel drums to a foreign party. The amount was paid to J, one of the assessee's sister concerns, by way of forwarding and freight charges. (In the case before us, none of the authorised firms is a sister concern of the assessee-company.) The Income-tax Officer disallowed the claim for deduction on the ground that the payment was not verifiable and not connected with the business. The Appellate Assistant Commissioner restricted the disallowance to Rs. 2,75,110 as he found that J had actually incurred expenditure of Rs. 4,57,150 on this account. The Tribunal found that J had assisted the assessee in the export of drums, that J was not a benami concern of the assessee, that J had paid taxes on the income earned out of this transaction and that, therefore, the entire claim of the assessee was allowable as deduction. The following question was referred to the High Court:-
Whether the Tribunal was, on the facts and in the circumstances of the case and in law, justified in holding that the entire amount of Rs. 7,32,260 paid to Jalan Trading Co. Pvt. Ltd. as forwarding and freight charges was an expenditure laid out for the purposes of the assessee's business and in holding that the entire amount was an admissible deduction ?
The revenue contended that the amount that was actually expended in this behalf was only Rs. 4,57,150 which was much more than the amount that was paid by the assessee-company to J. Hence the difference should be taxed in the hands of the assessee-company as not having been incurred for the purposes of the business. The High Court held that the department's contention was devoid of merit and the entire sum was allowable as deduction in the hands of the assessee-company.
27. As for interest under Section 139(8) and Section 215 for the assessment year 1985-86, we direct the Income-tax Officer to grant consequential relief to the assessee in accordance with law.
28. There is one more ground for the assessment year 1984-85 in the departmental appeal and that is regarding the deletion of the disallowance under Section 43B of the Income-tax Act. The Income-tax Officer noted the following provisions :-
Provident Fund Rs. 1,08,773
ESI Contribution Rs. 73,621
Employees' Family Pension Fund Rs. 15,428
--------------
Rs. 1,97,822
--------------
He took the view that these amounts were hit by the provisions of Section 43B. The assessee's contention was that the provisions of Section 43B would be attracted only when the amount which has accrued due became due for payment but not otherwise, and in this connection, it relied on the following decisions of the Tribunal :-
(i) [IT Appeal No. 1485 (Bom.) of 1985, dated 25-8-1986] - 4th ITO v. Sanjay Sales Syndicate.
(ii) [IT Appeal No. 20 (Coch.) of 1986, dated 31-7-1986] - S. Govind Raja Reddiar v. ITO.
(iii) [IT Appeal No. 1320 (Ahd.) of 1985, dated 1-7-1986] - ITO v. T. Lakersi Babubhai & Co.
The learned CIT (Appeals) following the Tribunal decision upheld the claim of the assesee. In the light of the decision of the Andhra Pradesh High Court in Srikakollu Subba Rao & Co. v. Union of India [1988] 173 ITR 708, a liability which had not become due for payment as on the date of the balance-sheet is not hit by the provisions of Section 43B. In view of this, we reject the contention of the revenue.
29. In the result, the assessee's appeals are allowed and the departmental appeals are dismissed.
M.K. Chaturvedi, Judicial Member
30. I have carefully perused the order proposed by my learned brother Shri G. Santhanam. I respectfully differ with him on the issues discussed hereinafter. The proposed order gives all the relevant facts and rival submissions therefore I do not find it necessary to repeat the same. I also do not propose to deal in a detailed manner the submissions made by either of the parties. I now propose to consider and catalyse correctly the concerned issues.
31. First issue (Para. 12) concerns with the question whether allowing of discount or commission on sales up to 40 per cent depending on the nature of the spares is a well recognised TRADE PRACTICE in this line of business ?
In para. 12, Learned Accountant Member (hereinafter called Ld. A.M.) summed up the issue as under :
We are satisfied that allowing of discount or Sales up to 40 per cent depending on the nature of the spares, is a well recognised trade practice in this line of business.
I consider it proper to record reasons for which I disagree with the Ld. A.M.
(i) According to Black's Law Dictionary (Fifth Edition) page. 1339 A usage of trade is any practice or method of dealing having such regularity of observance in a place, vocation or trade as to justify an expectation that it will be observed with respect to the transaction in question. The existence and scope of such a usage are to be proved as facts.
(ii) According to Random House Dictionary, the term "practice" means habitual Or customary performance, etc.
(iii) In my opinion, in order to establish that a particular modus of dealing is in accordance with trade practice, it is, sine qua non, that there must be regularity of observance.
(iv) Regularity of observance is a continuous process. The existence and scope of such observance must be proved as facts.
(v) The following invoices from other manufacturers were produced before us at the time of hearing wherein a discount of 35 per cent to 40 percent is allowed on the spare pans.
S.No. Name Invoice No. 1. Swamy Motors 1298 2. Myco Manufacturers of India 4966 3. Trading Corporation, Delhi 9987 4. Goyal Transport & Scooter Spares 8642 5. Ananu Spares, Delhi 594 6. Jamuna Auto Industries 714
Coming now to the evidence, submitted subsequent upon the hearing, it appears from the order of Ld. A.M. that the following invoices were produced:
S.No. Name Date Invoice No. 1. Beant Automobiles, Delhi 27-2-1984 18 2. Rasana Enterprises, Delhi 3-3-1984 RD/155/83-84 3. Trading Corporation 3-1-1983 7549 4. Anand Spares 12-5-1983 291 5. Jamuna Auto Industries 14-5-1983 1894
These manufacturers also allowed discount mostly at 35 per cent to 40 per cent except on one item at 15 per cent (vide page 12 of the order).
In my opinion, on the basis of these invoices, it cannot be said that allowance of commission at the rate of 40 per cent is a well recognised trade practice in this line of business. The reasons are as under :-
(a) Invoices produced at the time of hearing do not relate to the impugned assessment years.
(b) Only some selected invoices from other manufacturers were produced. This does not prove regularity of observance so as to justify an expectation that it will be observed with respect to all the transactions,
(c) The practice of allowing discount vary from person to person whereas new entrants or lesser known organisations pay higher commission or discount, the old established business concerns dictate their own terms and conditions.
32. At page 14, para. 13, Ld.A.M. has observed :
that if the commission at 36.25 per cent on the gross invoice value is to be considered to be reasonable in the case of M/s Mehta Trading Co., we cannot hold a different view that the percentage are high in respect of Kakinada firms, especially when these payments are covered by similar agreements for similar services rendered. This conclusion we arrive at on the limited question of reasonableness of the commission payment not only based on the trade practice shown to exist in the line of the trade but also on the basis of revenue's admission that there was no case against Mehta Trading Co., to whom a similar payment was made.
In my opinion this issue can be decided with reference to the acceptability of statement of Shri K.V.R. Chowdary recorded on 10-2-1988 and 11-2-1988 under Section 132(4) of the Income-tax Act, 1961. I therefore do not propose to make it a separate issue.
33. Second issue (Para. 19) deals mainly with the following two questions :-
(1) Whether Explanation to Section 132(4) which begins with the words - "For the removal of doubts", is only prospective in operation or it does have any restrospective effect ?
(2) Whether the statements recorded on 10-2-1988 and 11-2-1988 by the authorised officer from Shri K.V.R. Chowdary can be used in evidence against the assessee ?
In para. 19.8 Ld.A.M. summed up the issue as under :
The Explanation takes effect from 1 -4-1989. It was not in force at the time when the search was conducted on 10-2-1988 and 11-2-1988. This is only prospective in operation and does not have any retrospective effect.
In arriving at this conclusion Ld.A.M. adumbrated on the following reasonings :-
(a) Section 132 of the Income-tax Act, 1961 (hereinafter called the Act) is a substantive provision and deals with the substantive rights, no retrospective effect can be inferred from a provision unless stated expressly. (Page. 36 Para. 19.8)
(b) The purpose of an Explanation is to remove any ambiguity in or to explain the meaning of the words or expression used in the section preceding it. Explanation to Section 132(4) docs not deal with any ambiguity in relation to the words or expression found in the section. (Page 36 Para. 19.9).
(c) Even if certain materials gathered in the course of an illegal search the same can be used against the assessee in view of the decision of the Hon'ble Supreme Court in Pooran Mal v. Director of Inspection, [ 1974] 93 ITR 505. Here since the search was properly authorised and was conducted in a smooth manner, the question of using any material collected in the course of an illegal search does not arise in this case.
(Page 38 Para. 19.11)
34. Section 132(4) of the Act, as it stood at the relevant point of time, is reproduced here as under :-
Section 132(4). The authorised Officer may during the course of the search or seizure, examine on oath any person who is found to be in possession or control of any books of account, documents, money, bullion, jewellery or other valuable article or thing and any statement made by such person during such examination may thereafter be used in evidence in any proceeding under the Indian Income-tax Act, 1922 (11 of 1922), or under this Act.
35. The Direct Tax Laws (Amendment) Act, 1987 (4 of 1988) inserted the following Explanation to Section 132(4) w.e.f. 1-4-1989:-
Explanation.- For the removal of doubts, it is hereby declared that the examination of any person under this sub-section may be not merely in respect of any books of accounts, other documents or assets found as a result of the search, but also in respect of all matters relevant for the purposes of any investigation connected with any proceeding under the Indian Income-tax Act, 1922 (11 of 1922) or under this Act.
36. The Memorandum explaining the provision stated [168 ITR (Statutes) 320]-
Clause 37 seeks to amend Section 132 of the Act relating to search and seizure. Sub-clause (d) seeks to insert an Explanation in Sub-section (4) to clarify that examination on oath mentioned therein need not be confined to things, etc. found during the search but can also be for the purpose of general investigation.
37. Corning now to the nature of rights dealt by Section 132(4) read with Explanation, we find that this prescribes, inter alia, that an answer given by a person may be used in evidence subject to the prescription laid down in the section. Whether Explanation appended to the section is substantive in nature or merely procedural could be decided with reference to the language used in the section.
38. This aspect is illustrated in the Maxwell's Book on Interpretation of Statutes (12th Edition) at page 223 :
Section 50 of the Companies Act, 1967 provides that an answer given by a person in reply to a question put to him during an inspection of the affairs of a company under Section 167 of the 1948 Company Act, may be used in evidence against him. This is a procedural provision providing for the admissibility of an evidence before a Court when it comes to hear a case and deal with the evidence. It applies to future hearings after the Act of 1967 comes into operation; but it then applies even though the hearing be in respect of matters which arose before that Act was passed. [Selangor United Rubber Estate Ltd. v. Cradock (No. 2) 1968 1 WLR 319, per Ungoed Thomas J. at page 321].
In view of the above, it can be said that Section 132(4) is procedural in nature.
39. As stated in CRATES (Statute Law, 7th Edition, Page 58), and approved by the Hon'ble Supreme Court in Central Bank of India v. Their Workmen AIR 1960 SC 12, p. 27:
For modern purposes a declaratory Act may be defined an Act to remove doubts existing as to common law, or the meaning of effect of any Statute. Such Acts are usually held to be retrospective. The usual reason for passing a declaratory Act is to set aside what Parliament deems to have been a judicial error, whether in the statement of the common law or in the interpretation of Statutes.
40. The Explanation introduced to this section is in the nature of a declaratory Act. Balckstone, J. in Nicol v. Verelst [1779] 26 ER 751 said "declaratory statutes do not prove the law was otherwise before, out rather the reverse". Coleridge, CJ. said in Jones v. Bennet [1890] 63 LT 705 that a declaratory "Act means to declare the law or to declare" that which has always been the law, and there having been doubts which have arisen, Parliament declares what the law is and enacts that it shall continue what it then is.
41. Thus under the well known principles of construction of statutes when an Act is passed for the express purpose explaining or clearing up issues the presumption is that such an Explanatory Act is retrospective. See CIT v. Bejoy Kumar Almal [1977] 106 ITR 743 (Cal.).
42. Therefore, even though it is staled that the Explanation will take effect from 1-4-1989, it only means that the Explanation may be the part of the Statute from that date but its effect will be to clarify the meaning of the term from the very inception and make explicit what was implicit in the section even before.
In taking this view, I have respectfully followed the decision of IT AT Madras Bench in Kwality Textile Associates (P.) Ltd. v. ITO [1988] 24 ITD 454.
43. It has long been held that the admissibility of evidence is not affected by the illegality of the means by which the evidence has been obtained, though a person taking resource to illegality may be accountable under the law. In Kurma V. R. 1955 1 All ER 326 PC, it was held that if evidence is relevant the court is not concerned by the method by which it was obtained or with the question whether that method was tortious but excusable. This principle of law propounded by the Privy Council was followed by the Supreme Court in Magraj Patodia v. R.K. Birla AIR 1971 SC 1295. It was held that the fact that a document was procured by improper or even illegal means will not be a bar to its admissibility if it is relevant and its genuineness is proved. In the case of Dr. Partap Singh v. Director of Enforcement [1988] 155 ITR 166 (SC), it was held that illegality does not vitiate evidence collected during search. Similar view was expressed in the case of Pooran Mal (supra). In my opinion evidence collected during the search can be utilised against the assessee even if the search is illegal. It does not mean that such evidence collected during legal search cannot be utilised against the assessee. We are here concerned with the evidence which was collected during the properly authorised search operation conducted in a smooth manner. The findings of Ld.A.M. at para. 19.4 are pertinent. I agree with the same. It cannot be said that the statements were taken under threat or intimidation or under coercion. There is no presumption of illegality or wrong-doing when an authority is exercising its statutory functions. It has to be proved, if there had been any. No such proof came forth except bare assertions. In these circumstances acceptability of statements recorded under Section 132(4) cannot be questioned. Since the statements are relevant and the genuineness is proved, I do not think there is any bar as to its admissibility.
44. In view of the above, I am of the opinion that statements recorded on 10-2-1988 and 11-2-1988 by the authorised officer (reproduced at para. 19.2) from Shri K. V.R. Chowdary can be used in evidence against the assessee.
45. Third issue at para. 22 concerns with the question whether the company had received back the commissions paid to the authorised dealer firms?
It was contended on behalf of the revenue (para. 21) that there was no need for such selling arrangements except as conduits as is obvious from the fact that these firms have disappeared by 1989. Learned counsel for assessee submitted that in view of the grave doubts entertained by the revenue about the bonafide of the company in having dealings with these firms, the company decided to terminate their appointments.
In para. 22 Ld. A.M. summed up the issue as under:-
Having regard to the materials collected by the revenue, and having heard rival submissions, we hold that it had not been established that the company had received back the commission paid to the authorised dealer-firms. Sri K.V.R. Ghowdary's statement, we have already held, is not a statement under Section 132(4).
I record reasons for which I disagree with Ld.A.M.:-
(i) The statement of Shri K.V.R. Chowdary can be used in evidence against the assessee.
(ii) Certain cheques issued by some of the partners of the dealer-firms were alleged to have been encashed by the persons in the employment of the assessee company or its sister concerns (para. 20.1). Viewing this aspect in the light of statement of Sri Chowdary, I find that my conclusion apropos the same differs from my Ld. brother.
(iii) In the case of Workmen of Associated Rubber Industry Ltd. v. Associated Rubber Industry Ltd. [1986] 157 ITR 77, the Hon'ble Supreme Court has held that it is the duty of the court, in every case, where ingenuity is expended to avoid taxing and welfare legislations, to get behind the smoke-screen and discover the true state of affairs. The court is not to be satisfied with the firm and leave well alone the substance of a transaction.
(iv) Having regard to the statement recorded under Section 132(4) of Sri K.V.R. Chowdary and other material evidence, and in view of the fact that as regards the payment of commission no such trade practice existed as alleged by the assessee I am of the opinion that the company has received back the commission paid to the authorised dealer-firms.
46. In the final analysis on the above counts, the appeals of the assessee are dismissed and appeals of the revenue are allowed.
REFERENCE UNDER SECTION 255(4) OF THE INCOME-TAX ACT, 1961 We, the Members of the Hyderabad Bench 'A' of the Tribunal have differed in respect of appeals in I.T.A. Nos. 2000/Hyd./1987, 1502/Hyd/1989, 2471/Hyd/1987 and 1622/Hyd/1989.
2. The questions on which we have differed are referred to the Honourable President under Section 255(4) of the Income-tax Act, 1961. The questions on which there is difference between the Members of the Bench are as under: -
(1) Whether in the facts and circumstances of the case allowing of discount or commission on sales up to 40% depending on the nature of the spares is a well-recognised Trade Practice in assessee's line of business?
(2) (i) Whether Explanation to Section 132(4), which begins with the words "For the removal of doubts", is only prospective in operation or does it have any retrospective effect?
(ii) Whether the statements recorded on 10-2-1988 and 11-2-1988 by the Authorised Officer from Sri K.V.R. Chowdary can be used in evidence against the assessee?
(3) Whether in the facts and circumstances of the case the company had received back the commissions paid to the authorised dealer firms?
THIRD MEMBER ORDER This case has been referred under Section 255(4) of the Income-tax Act, 1961 on a difference of opinion between two Members who have heard the case.
2. The facts in brief giving rise to the reference are as follows. The assessee is a Public Limited Company carrying on business as dealers of Trucks and Voltas' Products as well as in manufacture and sale of automobile spares besides running a lorry service. For the assessment year 1984-85 corresponding to the previous year ended on 31-12-1983, the assessee filed return based on its audited and published accounts wherein there was claim for deduction of Rs. 86,76,463 as payment of commission on sales of spare parts. The Income-tax Officer was of the opinion that this expenditure was not wholly laid out for the purpose of business inasmuch as it was prohibited by the Companies Act, the agents had not discharged any functions to earn the commission and the amounts given have been received back. On appeal, the Commissioner of Income-tax (Appeals) came to the conclusion that the payment was legal and for services rendered but sustained an addition of Rs. 10,00,000 for possible diversion of part of the profits through the agencies. For the assessment year 1985-86, corresponding to the previous year ended on 31-12-1984, the deduction claimed was Rs. 97,67,302. This included payment of Rs. 20,91,300 to Mehta Trading Co., which was allowed without question. Of the balance, in addition to the reasons given in the assessment order for the earlier year, the Income-tax Officer relied upon a statement given by the Managing Director of the Company as well as a partner of the agency firm and disallowed Rs. 56,16,426. The incentive commission paid to the customers out of the commission paid to the agents was, however, allowed.
3. Both the assessee and the Revenue appealed in respect of the orders for both the assessment years. The learned Accountant Member came to the conclusion that the entire claim for deduction must be allowed. The reasoning adopted was that apart from the statement of the Managing Director Shri K.V.R. Chowdary, there was no evidence of any unaccounted funds or investments, that the statement of Shri KVR Chowdary was not admissible in evidence because the question put to him was in excess of the power granted to the income-tax Officer under Section 132(4) inasmuch as the Explanation enlarging the scope of that section was not retrospective, that his statement cannot be used in evidence against the assessee because he was not a person in control of the affairs of the assessee and his statement was also not proved with any corroborative evidence, that there was no evidence to establish the inference that the commission paid had been received back by the Company and that the amount of commission was neither unreasonable or excessive considering the trade practice of allowing such commission. On the other hand, the learned Judicial Member restored the additions made by the Income-lax Officer by allowing the appeals of the Revenue. He differed from the reasoning adopted by the learned Accountant Member inasmuch as he was of the view that the questions put to Shri K.V.R. Chowdary were within the powers granted to the Income-tax Officer and that his statement was admissible in evidence against the assessee which itself proved that the commissions have been received back inasmuch as trade practice of payment of commission had not been established.
4. In these circumstances, the following questions have been referred :
(1) Whether in the facts and circumstances of the case allowing of discount or commission on sales up to 40% depending on the nature of the spares is a well-recognised Trade Practice in assessee's line of business?
(2) (i) Whether Explanation to Section 132(4), which begins with the words "For the removal of doubts", is only prospective in operation or does it have any retrospective effect?
(ii) Whether the statements recorded on 10-2-1988 and 11-2-1988 by the Authorised Officer from Sri K.V.R. Chowdary can be used in evidence against the assessee?
(3) Whether in the facts and circumstances of the case the company had received back the commissions paid to the authorised dealer firms?
5. In this reference it was pointed out on behalf of the assessee that while differing on certain points of reasoning, the learned Judicial Member had by his silence accepted certain other points made by the learned Accountant Member such as his finding that Sri K.V.R. Chowdary was not a person in control of the affairs of the assessee and his statement could not bind the assessee company. It was also submitted that his decision was inconsistent with the assessment order itself where the payment of incentive commission paid to the customers was accepted, thus showing that the transactions had taken place and were genuine and consequently the claim of Sri K.V.R. Chowdary that his statement was not made voluntarily and did not represent the truth was required to be accepted. It was argued that since the entire case of the revenue rested with the statement of Shri K.V.R. Chowdary, the disallowance made cannot be sustained as long as that statement remains uncorroborated.
6. On the other hand, it was contended on behalf of the Revenue that the statement of Shri K.V.R. Chowdary should be taken along with the statement of the partner of the agency firm that (here was a scheme to siphon off the money and the attempt of the Income-tax Officer to get behind the smoke-screen and discover the true state of affairs should be appreciated. It was further submitted that as long as it was not proved that expenditure was wholly and exclusively laid out for the purpose of business, the disallowances made should be restored on the reasonings adopted by the learned Judicial Member.
7. On a consideration of the rival submissions, it is clear that the main point of dispute is whether the disallowance made by the Income-tax Officer should be restored or not. The questions framed are only the stages in the process of reasoning to arrive at an inference on the facts on record as to whether the expenditure laid out by the assessee was genuine or not. Therefore, while proceeding to discus the points of difference, it is well to bear in mind that there is no difference of opinion between the Members with regard to the basic facts, namely, that the accounts of the assessee have been audited and that there is no evidence of any unaccounted funds or investments in the name of the assessee company. The case of the Revenue rests upon three pieces of evidence which were actually gathered subsequent to me making of the assessment for the assessment year 1984-85 but allowed to be brought in as additional evidence for that year also. They arc the statement of Shri K.V.R. Chowdary on 11-2-1988, the statement of Shri B. Nageshwara Rao on 10-2-1988 and the statement of Shri K. Muralidhar on 10-2-1988, The learned Accountant Member has in his elaborate order given the background to the statement of Shri K.V.R. Chowdary in para 19.2 of his order. In answer to question 48 at the time of enquiry under Section 132(4), Shri K.V.R. Chowdary, Managing Director of the assessee, staled that the net income of the three firms who are acting as selling agents was really the income of the assessee company and would amount to about Rs. 2,60,00,000.
8. The first point in dispute is with regard to the admissibility of that statement as evidence. The Explanation to Section 132(4) was introduced with effect from 1-4-1989 which stated that the examination of any person may extend to all matters relevant for the purpose of investigation and not merely in respect of materials found at the time of search Therefore, the difference has arisen as to whether this Explanation would apply to the examination made on 11-2-1988 prior to the introduction of this Explanation. To my mind, it is inappropriate to think of a retrospective operation of this Explanation. It is perhaps because the Income-tax Act is often amended with retrospective effect that a question is raised with reference to every amendment as to whether it is prospective or retrospective. But in a case of exercise of power granted to an authority under the Act, such a question is of no relevance because, obviously the power can be exercised only from the date it is granted and could not have been exercised before it was granted. However, if such a power had been already exercised even before it was granted, the only question that will remain is what is the consequence of such an exercise of power before the date on which ii was granted. In other words, the question will be whether the material gathered by the Income-tax Officer in exercise of the power which was enlarged subsequently could be used as valid material for the purpose of investigation. This question itself has been posed by both the Members and they have both answered it in the affirmative in para 19.11 and para 43. Thus this question is really academic and does not in any way affect the ultimate decision.
9. Having agreed with both the Members that the statement of Shri K. V.R. Chowdary should be looked into, the next question that arises is on the evidentiary value thereof. The learned Accountant Member has rejected this evidence on two grounds, namely, that Shri K.V.R. Chowdary was not a person in control of the books of accounts of the Company so as to make any statement binding on the assessee in an examination under Section 132(4) of the Act, and that though it need not be doubted whether the statement was voluntary, the statement itself was not proved to be true. The learned Judicial Member is silent on the first link of this reasoning. It is not in dispute that no books of account or valuable thing belonging to the assessee was found at the time of search and the Managing Director was also not a person in control of the affairs of the company. His statement cannot, therefore, bind the company without corroborative evidence.
10. The learned Judicial Member appears to have accepted the treatment by the Revenue of the statement of Sri K.V.R. Chowdary as a confession of concealment of income. Even though the Evidence Act does not directly apply to income-tax proceedings, well settled principles as to admission of evidence have to be followed in evaluating the evidence. When the statement of Sri K.V.R. Chowdary is seen as a confession, the underlying emphasis is of concealment of income leading to penalty proceedings and even prosecution. Therefore, it has to be considered in all seriousness and with utmost caution. Prudence demands that the evaluation of such a statement is based on the questions whether it was made voluntarily, whether it was made by a person who was a party to that transaction and whether it was true. As to the first question, the learned Accountant Member has rejected the claim of the assessee that the statement was not voluntary and since the learned Judicial Member has not differed from that it is not necessary to express any opinion. As regards the second question, the learned Judicial Member has not disagreed with the finding of the learned Accountant Member that the Managing Director had no control over the affairs of the Company. Moreover, there is no evidence to indicate that the Managing Director himself was a party to receipt of the amounts paid as commission to the selling agents.
11. The third question is vital and is reflected by the point of difference in question 2 (ii) A close scrutiny of the statement of Shri K.V.R. Chowdary (which was also disclaimed later) shows it does not stand the test of truth. This is because his statement did not lead to any discovery of amounts received back by the assessee company. I have to keep in mind the fact that the assessee company is an independent legal entity and also a taxable entity. Even though the Managing Director said that the commission paid to the agencies represented the income of the company, it remained uncorroborated by any evidence of the amount flowing back to the company's coffers. In this context, it is seen that there were four agents one in Bombay and three in Kakinada. The revenue has accepted that the Bombay agency has been fully paid and there is no evidence of any kickback. It is only with reference to the Kakinada firms that doubts have been raised. Again the method of invoicing by the assessee was, on receipt of the orders booked of the agency, to bill customers for the price less 25% as commission and credit the agency with a further commission of 15% of the net amount. In the course of the year, as an incentive in respect of customers who have exceeded a targeted turnover, a further commission was given to them debiting the accounts of the agents. This has been accepted in the assessment for 1985-86 by the Income-tax Officer himself who has allowed. The deduction of the amounts paid as commission to the customers, thus limiting the dispute to the amounts credited to the accounts of the three agency firms. These firms have been registered as genuine firms and it is not in dispute that their assessments have been completed on the amounts paid to them. The only further information given by the Managing Director was his explanation that to the best of his knowledge Rs. 30 to 40 lakhs remained in the books of S RMT Ltd., out of the disclosed amount of Rs. 260 lakhs and the remaining amount was distributed to the respective dealers. The only link we can find is the amount of Rs. 20 lakhs given by the agency firms as interest free deposits in addition to the outstanding interest free credit balances of about Rs. 27 lakhs of the assessment year 1983-84 and Rs. 34 lakhs of the assessment year 1984-85. But then the interest free deposits were a condition precedent for the agency agreement and the credit balances were in a running current account and naturally did not carry interest as the agency firms were to draw it at any time. As long as these liabilities remain unchallenged, they cannot be treated as the income of the assessee nor can they offset the commission payable to the agency firms. Thus the conclusion is inescapable that the statement of Shri Chowdary has not been proved to be true and cannot, therefore, by itself form the basis of any assessment of an undisclosed income attributable to the asscssee-company.
12. This leads to the next question whether the assessee-company had received back the commission paid to the authorised dealer firms. A perusal of the material recorded indicates that there was no material establishing any nexus between the company and any amounts flowing from the agency firms. Reference has been made to certain cheques issued by the partners of certain firms, in which partners of the agency firms were partners. It was suited mat such cheques were encashed by certain employees of the assessee-company who had stated that the amount so encashed was given to one of the directors of the company. This is with reference to the statement of Shri Nageswara Rao and Muralidhar both of whom subsequently retracted from their statements. The assessee had no opportunity to cross-examine them. Further apart from stating that the money was paid to the director nothing has been stated as to the nature of the transaction or as to why the money was paid to the director at all. In any event payment of money to a director is not payment of the money to the company unless he acknowledges the receipt on behalf of the company. Since such an acknowledgment has not been established, I agree with the learned Accountant Member that the leads have not taken the Revenue anywhere near the assessee-company.
13. Now I am left with the last question which is posed as the first question in the reference, namely, whether there was a well-recognised trade practice of payment of commission. This is only to test whether the commission paid could be considered to be unreasonable or excessive. The learned Accountant Member has found material in the books of the assessee itself indicating that similar commission has been paid to the Bombay Agency which remains undisputed and the assessee had received such commission on purchases from other manufacturers in respect of its transport business. The learned Judicial Member has rejected this practice only with reference to the statement of Shri K.V.R. Chowdhary and has not made it a separate issue. However, since a question has been posed, I agree with the learned Accountant Member that there is evidence on record to establish the trade practice of giving large commissions and in the light of the evidence on record, the amount paid by the assessee-company to the agency firms could not be considered to be unreasonable or excessive. I, therefore agree with him that the assessee's appeals should be allowed and the departmental appeals should be dismissed.