Income Tax Appellate Tribunal - Hyderabad
V.B.C. Industries Ltd. vs Deputy Commissioner Of Income-Tax on 23 August, 1993
Equivalent citations: [1994]48ITD292(HYD)
ORDER
T.V. Rajagopala Rao, Judicial Member
1. This is an assessee's appeal for assessment year 1989-90 directed against the order of CIT (Appeals), Visakhapatnam, dated 7-10-1992 confirming certain disallowances made by the ITO.
2. to 13. [These paras are not reproduced here as they involve minor issues.]
14. The next question at issue is the deductibility of the expenditure of Rs. 9,70,371 which was later revised to Rs. 14,83,931. The assessee claimed deduction of this expenditure. The assessee filed a written note dated 16-3-1992, inter alia explaining the deductibility of the expenditure. A copy of the said note is now furnished at pages 35 to 41 of the assessee's paper-book No. I.
15. The sum of Rs. 14,83,931 was part of the amount of Rs. 51,35,725 shown at page-17 of the published accounts of the assessee-company, a copy of which is furnished in the paper-book No. I of the assessee.
16. The assessee put forth the following contentions and urged that the amount of Rs. 14,83,931 is allowable as expenditure (a) Explaining the nature of the expenditure, it is stated by the assessee-company in its letter dated 16-3-1992 addressed to the Assessing Officer as follows:
During the previous year relevant to the assessment year, the assessee has made certain payments for acquisition of know-how relating to the manufacture of Ammonium Nitrate for use in its business. The relevant agreements were entered into on the following dates:
(i) UNDE, GmbH, dated 2-12-1987.
(ii) NORSK HYDRO, dated 2-12-1987.
(iii) ADOLOF PLINK SOHONE, dated 27-1-1988.
(iv) UHDE INDIA LIMITED, dated 2-12-1987.
(v) BHALLA SPECTRUM INDUSTIES LIMITED.
A statement showing the amounts paid during the relevant previous year and the receipts in respect thereof are enclosed. At the time of filing of original return, two amounts paid were inadvertently omitted to be claimed as a deduction and the same were included in the revised statement enclosed. The total amount paid shown in the enclosed statement tallies with the amount of Rs. 51,35,725 shown in Schedule 6 to the Balance Sheet appearing at page 17 of the published annual accounts.
At the time of assessment proceedings, the following contentions were raised on behalf of the assessee:
(1) Certain percentage of the amount paid by way of lump sum consideration for acquisition of know-how for use for the purpose of business was allowable as deduction from the business income.
(2) Though the assessee-company embarked upon the setting up of the plant for manufacture of Ammonium Nitrate, the same was during the course of carrying on the existing business, and any payments made for know-how for use, for the purposes of the said plant was for the purposes of the business of the assessee, even though the new plant has not started commercial production.
(3) The unit for manufacture of Ammonium Nitrate formed part of the same business which the assessee carried on during the relevant previous year, as there was one establishment to control both the units.
(4) Both the businesses were inter-connected. The initial capital required for the new plant came from the surplus funds of the existing unit and the transactions relating to both the units were incorporated in the same audited accounts. Thus, both the units were inter-laced and dovetailed into each other, as was held by the Supreme Court in Setabgary Sugar Mills Ltd. v. CIT [1961] 41 ITR 272.
(5) Assessee also relied upon the following decisions in support of its contentions:
(a) IAC v. Coromandel Fertilizers Ltd. [1989] 29 ITD 455 (Hyd.).
(b) CIT v. Prithvi Insurance Co. Ltd. [1967] 63 ITR 632 (SC).
(c) Produce Exchange Corpn. Ltd. v. CIT [1970] 77 ITR 739 (SC).
(d) Standard Refinery & Distillery Ltd. v. CIT [1971] 79 ITR 589 (SC).
(e) CIT v. Alembic Glass Industries Ltd. [1976] 103 ITR 715 (Guj.) (f) Prem Spg. & Wvg. Mills Co. Ltd. v. CIT [1975] 98 ITR 20 (All.).
17. After quoting the provisions of Section 35AB and the CBDT circular explaining the said provision, the ITO held that as per the language of the section and the explanatory note of the CBDT the deciding test for allowing deduction was "use for the purpose of business". Unless the know-how is used in the business, the deduction cannot be allowed to the assessee. The Assessing Officer held that the assessee was hitherto carrying on manufacture of soft drinks and aerated water only. No doubt, it intended to diversify its business to manufacture Ammonium Nitrate and Nitric Acid. The new line of business cannot be considered as the same business of the assessee. For acquiring the project report for the new business, certain expenditure was claimed as revenue expenditure and it was not allowed for assessment year 1988-89. The new line of business had not gone into commercial production in the accounting year in question, and therefore, the new line of business cannot be considered as the business of the assessee till the assessee goes into commercial production of Ammonium Nitrate and Nitric Acid. The new line of business, viz., manufacture of Nitric Acid, etc., is distinct and different from the existing business of manufacture of soft drinks and aerated water. Thus, with this reasoning, he disallowed the claim of the assessee under Section 35AB.
18. Having been aggrieved by the disallowance made by the Assessing Officer, the assessee came up in appeal before the CIT (Appeals). The same arguments, which were advanced before the Assessing Officer were reiterated before him. He also held that deduction under Section 35AB would be admissible only if the expenditure is laid out in connection with the business carried on during the previous year, and the expenditure under Section 35AB cannot be allowed, independent of the provisions of Sections 28 and 29 of the Income-tax Act. He further held that the new activity of manufacturing Ammonium Nitrate cannot be considered to be part of the existing business or same business of the assessee, which was bottling of soft drinks.
19. The claim of the assessee is based on Section 35AB, which was introduced in the statute book under Finance Act, 1985 with effect from 1-4-1986. From 1-4-1986, the amount spent on acquiring technical know-how would be allowed in six yearly instalments. In order to appreciate the assessee's contentions, a close reading of the provisions of Section 35AB are quite essential and hence they are extracted as under:-
35AB. (1) Subject to the provisions of Sub-section (2), where the assessee has paid in any previous year any lump sum consideration for acquiring any know-how for use for the purpose of his business, one-sixth of the amount so paid shall be deducted in computing the profits and gains of the business for that pervious year, and the balance amount shall be deducted in equal instalments for each of the five immediately succeeding previous years.
(2) Where the know-how referred to in Sub-section (1) is developed in a laboratory, university or institution referred to in Sub-section (2B) of Section 32A, one-third of the said lump sum consideration paid in the previous year by the assessee shall be deducted in computing the profits and gains of the business for that year, and the balance amount shall be deducted in equal instalments for each of the two immediately succeeding previous years.
Explanation: For the purposes of this section, 'know-how' means any industrial information or technique likely to assist in the manufacture or processing of goods or in the working of a mine, oil well or other sources of mineral deposits (including the searching for, discovery or testing of deposits or the winning of access thereto).
A fair reading of the section will reveal the following essential requirements for claiming deduction under the section:
(1) The assessee should pay some amount of lump sum consideration, in order to acquire the technical know-how.
(2) That technical know-how should be capable of being used for the purposes of business of the assessee.
(3) It is not necessary that the know-how is actually used for the purpose of the business of the assessee. It is enough If it is capable of being used for the purposes of business of the assessee. That means actual working of the manufacturing unit, using the technical know-how purchased was not essential. The lump sum paid for acquisition of know-how has to be allowed in instalments beginning from the assessment year in which the said know-how is purchased and in five other subsequent assessment years.
(4) The importance is being given to the purchase and not very much for use of it in business. More often than not, the use of know-how developed in Laboratories and Universities will take considerable time to be adopted for industrial use and adoption. In some cases, in order to put them to use, new machinery and new set up or factory may be required, which involves time.
It was the intention of the Legislature to allow the deduction if only one condition is fulfilled. That is, the know-how is acquired for business purposes, and it was never the intention of the Legislature that it should also be put to use in business in the first year of purchase itself, though deduction is to be granted in the year of purchase itself. In the considered opinion of this Tribunal, the intention of the Legislature is to encourage the scientific methods for the industrial use, so as to further encourage adoption of scientiiic trends in industrialisation, in India. Encouraging research, the results obtained in which can usefully be put to use for modernisation of Indian industry was the only objective. The first instalment is to be allowed in the year of acquisition and the next instalments to follow in the next five years. However, if grant of deduction is delayed till the factory is set up and till the unit starts manufacturing, the impetus to invest and acquire the know-how would be dampened, and the objective would be frustrated. No businessman would like to see that substantial lump sum, which he invests in purchasing the know-how is locked up for considerable time, and always desires that the same in recouped immediately beginning from the year of lump sum payment and the Legislature assented for the same and framed Section 35AB.
2O. Keeping in mind the object sought to be achieved, it is unthinkable that the Legislature wanted to allow deduction only after the business commenced or production started. A fair reading of Sub-section (1) of Section 35AB does not spell out any such requirement. The only requirement before claiming the deduction apart from the conditions considered above, is that the deduction under Section is allowable only from out of the profits and gains in the business carried on by the assessee. The said business in which profits and gains were obtained need not necessarily be one in which the know-how is used. It is enough if the person claiming the fractional deduction carries on some business from which it derived profits and gains. A single person, like a company, may be manufacturing different products, which may be at great variance from one another. Diversification of activities is the order of the day for all thriving companies.
21. There are certain circumstances when a person who was running different manufacturing units may be considered to be carrying on a single business. If there is a common Board of Directors in overall control of all the businesses, if there is common fund from which the capital and the working fund is supplied to various units, if the ultimate gain or loss of several units is worked out by consolidated P&L Account and balance sheet, if there is common management and administration, if the ultimate control of the manufacturing units is done by a common registered office, if there is complete inter-connection, inter-lacing and inter-dependence and dovetailing of different business activities, then there are a number of decisions which held that the activity of running multiple units constitute one and single business only. Thus, the question in this case is whether the assessee who has been manufacturing soft drinks deriving profits in that venture, as a measure of diversification of its activities, started setting up of a factory for manufacture of Ammonium Nitrate and Nitric Acid, is entitled to the deduction under Section 35AB. Though the said factory has not yet started manufacture or business by virtue of the fact that the same assessee has been running the other unit of manufacturing soft drinks, etc., can it be considered to be carrying on the same business, or not.
22. In this connection, attention of this Tribunal is invited to the following decisions:
(1) Commanded Fertilizers Ltd.'s case (supra) (2) Prithvi Insurance Co. Ltd.'s case (supra) (3) Produce Exchange Corpn. Ltd.'s case (supra) (4) India Cements Ltd. v. CIT [1966] 60 ITR 52 (SC) (5) Setabganj Sugar Mills Ltd.'s case (supra) (6) Standard Refinery & Distillery Ltd. 's case (supra) (7) Alembic Glass Industries Ltd. 's case (supra) (8) Prem Spg. & Wvg. Mills Co. Ltd. 's case (supra).
We have also come across a later decision of the Gujarat High Court elucidating the point thoroughly in the case of Bansidhar (P.) Ltd. v. CIT [1981] 127 ITR 65.
23. In the last cited Gujarat High Court case, the facts are that the assessee is a private limited company carrying on different activities at different points of time, viz., (1) Purchase and sale of cloth (business continued upto the relevant year of account and even there after); (2) Processing of cloth and manufacture of chemicals and dyes (business closed in the relevant year of account 1966-67); (3) Manufacture of machinery (business closed in August 1961); (4) Steel Plant and rolling mills (business closed on 30-9-1961). Upon the closure of the business in the relevant accounting year, ie., 1967-68, the total amount paid by way of retrenchment compensation was Rs. 9,603. In respect of the two other businesses, namely, manufacture of machinery and steel plant and rolling mills, which were closed earlier, the assessee was not able to recover outstanding dues in a sum of Rs. 34,617, and the amounts were written off as bad debts in the relevant year of account. The earlier payment of Rs. 9,603 was claimed as deduction under Section 37 and the latter amount of Rs. 34,617 was claimed as deduction under Section 36(l)(vii). In order to butress its case, the assessee advanced the plea that though some business has to close either in the year of account, or in the earlier years, all the businesses enumerated above constituted a common business, and therefore, profits and gains of the said business is to be ascertained in the year of account viz. 1967-68 and the expenditure should be allowed in the hands of the assessee. In that connection, the Gujarat High Court, having regard to the facts and circumstances under which each of the businesses were run and managed etc. ultimately held that there was complete inter-connection, inter-lacing, inter-dependence and dovetailing of the different business activities carried on by the assessee and all the activities constituted one and the same business, and deduction on account of retrenchment compensation paid by the assessee upon the closure of one of its units, and the bad debts written off in the other two units were allowable deductions under Section 37 and Section 36(l)(vii), respectively. The factors or the basis of evidence which were duly taken into consideration in coming to the conclusion that several businesses which were noted above, constituted a single business are the following as per the head note of the decision at pages 66 and 67:
Held, that the board of directors of the assessee, which was a private company, was in overall control of all the five business activities which were owned and carried on by the assessee. There was a common fund from which the necessary capital and working funds were supplied to the various business activities. The ultimate gain or loss of the business was also worked out. by a consolidated profit and loss account and balance sheet. The source of finance for running the various businesses was thus one and the same and there was consolidation of accounts for the purpose of ascertaining the ultimate working result of the business carried on by the assessee. Merely because there was a separate staff, which was not inter-transferable, the unity of control was not affected since, at the apex, there was common management and administration with an overall control of the various businesses vesting in the board of directors of the assessee-company. Though some or most of the businesses were carried on at different places, the ultimate control was exercised at the registered office of the assessee-cornpany and that circumstance also did not detract from the unity of control. The emphasis on the widely different nature of the business activities, though not altogether irrelevant, was not by itself decisive. The fact that manufacturing business was combined with trading activities was again a matter of no consequence because that by itself, or coupled with other circumstances, would not lead to the conclusion that there was no interlacing or interdependence, since there was unity of control. Even if different books of account were maintained and the transactions inter se between the different business units were recorded in those books of account, that circumstance would pale into insignificance once it was found that ultimately there was a common profit and loss account and balance-sheet. The fact that the closure of one business did not affect or lead to the closure of the other businesses was also not of much consequence because no decisive inference can be drawn therefrom.
The facts of the case before us are virtually the same as were obtaining before the Gujarat High Court. There was a common profit and loss account prepared for both the units run by the assessee. There was common management, the source of finance for running the business was one and the same.
24. We have already discussed that in the general meeting dated 10-2-1987 of the assessee-company, the scheme of diversification and desire to manufacture Ammonium Nitrate and Nitric Acid was placed before the General Body. The estimated cost of that project was Rs. 3,387 lakhs. The sources from which the resources are sought to be raised were also given at page 55 of the paper-book, which is appended to the notice of the Annual General Meeting dated 10-2-1987, and in that it is clearly stated that a sum of Rs. 115 lakhs out of the total estimated outlay of Rs. 3,386 lakhs is sought to be invested from internal accruals. Thus, it is clearly established that the Ammonium Nitrate plant was sought to be set up with the common funds of the assessee company. It is no doubt true that it is desired to manufacture Ammonium Nitrate in the factory set up in a village in Srikakulam District, whereas the unit manufacturing the soft drinks and aerated water was situated in Vizag. However, according to the decision quoted above, it is not a matter of any consequence and that factor does not run counter to inter-lacing inter-dependence, unity of control, management, etc. So also, the maintenance of different accounts or maintenance of different staff for two separate units cannot also have any significant consequence.
25. In Coromandal Fertilizers Ltd.'s case (supra) the facts which came up for consideration before the Tribunal are that the assessee initially incorporated in 1961 for manufacture and sale of fertilisers. In 1979, its objects clause was amended and the assessee was authorised to start a cement plant. The assessee raised capital from the financial institutions, several works of the plant were started in 1981 and the first batch of machinery arrived in January 1982. For assessment year 1982-83, assessee claimed deduction in respect of amounts spent towards interest and commitment charges payable to financial institutions, even though the amounts were not debited to the Profit & Loss Account. The question is whether the assessee is entitled to claim deduction. Ultimately, we held the following, as per the head note obtaining at page 455 of the Reports (29 ITD):
'There is only one profit and loss account and one balance sheet covering the entire operations of the assessee and the Revenue had not brought on record anything to show that the deposits were diverted for the cement plant. Even if such a diversion had in fact taken place, inasmuch as the fertiliser activity and the cement activity were one and the same business and there was unity of control and management, and inter-lacing and inter-dependence of these activities, the assessee's claim could not be allowed.
While deciding the said case, we have followed the Supreme Court decision in Setabganj Sugar Mills Ltd.'s case (supra) to hold that in order to determine whether different ventures can be said to constitute one business, what one has to see is whether there is common interconnection, inter-lacing, inter-dependence or unity of control, embracing the ventures, whether the different ventures were so inter-laced and so dovetailed into each other so as to make them into the same business of the assessee.
26. Another decision of somewhat recent period cited on behalf of the assessee was CITv. Hindustan Machine Tools (No.2) [1989] 175 ITR 216 (Kar.). The question in that case is that in connection with the commissioning of its new divisions, the assessee entered into collaboration agreements with certain parties and paid technical assistance fees during the previous year ending with 31-3-1971, relevant to assessment year 1971-72. Assessee claimed deduction of the amount paid as business expenditure. The ITO disallowed it, whereas the AAC allowed it. Tribunal held that the entire business activity of the assessee was one and the same and there was no question of starting a new business and, therefore, the AAC was right in allowing the assessee's claim with regard to technical fees. The Karnatka High Court held on a reference that the only ground on which the Income-tax Officer disallowed the deduction was that production has not commenced during the previous year. However, since the new units were only a continuation of the existing business, the technical assistance fees paid by the assessee in connection with the setting up of the six new divisions were allowable as business expenditure. Following its own earlier decision in CITv. Hindustan Machine Tools Ltd. (No. 1) [1989] 175 ITR 212 (Kar.) the High Court held that the Tribunal was correct in holding that the expenditure incurred by the assessee in connection with its new divisions was deductible as business expenditure.
27. Having regard to the facts and circumstances of the case, and also having regard to the innumerable decisions, we are of the opinion that the business of manufacture of soft drinks and aerated water, as well as the business of manufacture of Ammonium Nitrate and Nitric Acid should be considered as one and the same business carried on by the assessee.
28. It is further contended that the provisions of Section 35AB were intended to give special deduction as special incentive to persons who are already in business. This provision was introduced under Finance Act, 1985. Memorandum explaining the provisions of the Finance Bill, 1985 are found given in 152 ITR, and the relevant provision, namely Section 35AB were explained at page 166 (St.) and it reads as follows:
44. It is proposed to insert a new Section 35AB in the Income-tax Act to provide that any lump sum consideration paid by a taxpayer for acquiring any know-how for use for the purposes of his business will be allowed as deduction by spreading it equally over six years, namely the year in which the lump sum consideration is paid and the five immediately succeeding years. Where the know-how is developed in a laboratory, university or institution referred to in Sub-section (2B) of Section 32A, the consideration shall be spread equally over three years.
Therefore, it was argued that this deduction is allowable in the year of account, irrespective of commencement of new business. It is enough if the assessee carries on business and derives profits and gains therefrom. So, the acquisition of know-how must be for the ultimate adoption of the same in business. However, the deduction is allowable in six or three yearly instalments beginning from the year of payment. The deduction should be allowed from profits and gains of business of the assessee. The learned Counsel, Shri C.V.K. Prasad made a comparison of provisions of Section 35AB with the provisions of Section 35A, in order to show that wherever the Legislature intended to allow deduction, only after acquisition of patent right or copyright is being used for the purposes of business, it had explicitly stated so in the wording of the section itself. For example, Section 35A reads as follows-
In respect of any expenditure of a capital nature incurred after 28-2-1966, on the acquisition of patent rights or copyrights (hereafter in this section referred to as rights) used for the purpose of the business, there shall, subject to and in accordance with the provisions of this section, be allowed for each of the relevant previous years, a deduction equal to the appropriate fraction of the amount of such expenditure.
However, in the language used in Section 35AB, this requirement was not insisted upon. Therefore, the intention of Legislature is very clear from the omission to insert the words that, the know-how should also be used for the business, before granting deduction.
29. The learned Departmental Representative, on the other hand, relied upon the decision of the learned CIT (Appeals) and submitted that the business of manufacture of Nitric Acid and Ammonium Nitrate did not commence, and since the know-how is only used in that business and not in any other business carried on by the assessee, it should not be allowed as deduction.
30. The caution given by the Supreme Court while following its judgments and "applying the ratio of the judgments to the cases arising before the lower authorities, is apt to be noted at. this juncture. The said caution is administered in a recent decision of Supreme Court in CITv. Sun Engg. Works (P.) Ltd. [1992] 198 ITR 297:
It is not proper to regard a word, a clause or a sentence occurring in a judgment of the Supreme Court divorced from its context as containing a full exposition of the law on a question when the question did not even fall to be answered in that judgment.
It is further stated as follows:
It is neither desirable nor permissible to pick a word or a sentence from the judgment of the Supreme Court divorced from the context of the question under consideration and treat it to be the complete law declared by the Court. The judgment must be read as a whole and the observations from the judgment have to be considered in the light of the questions which were before the court. A decision of the Supreme Court takes its colour from the questions involved in the case in which it is rendered and while applying the decision to a later case, courts must carefully try to ascertain the true principles laid down by the decision.
We are of the opinion that this caution administered by the Hon'ble Supreme Court was not properly kept in mind-while determining the applicability of the ratio of the following decisions either by the earlier Tribunal or by the lower authorities:-
(1) Scientific Engg. House (P.) Ltd. v. CIT [1986] 157 ITR 86 (SC).
(2) CITv, Barium Chemicals Ltd. [1987] 168 ITR 164 (AP).
(3) CITv. Sri Krishna Bottlers (P.) Ltd. [1989] 175 ITR 154 (AP).
Thus, after hearing both sides, we are of the view firstly that this matter was not covered by the earlier decision of the Tribunal adverted to above. We also hold that none of the lower authorities had tried to find out the essentials of Section 35AB before dwelling on the subject. We further feel that the decision of the CIT (Appeals) confirming that the deduction claimed under Section 35AB could be admissible only if the expenditure was laid out in connection with the business carried on during the previous year, the profits and gains of which alone are subject to tax, and Section 35AB would not operate independent of the provisions of Sections 28 and 29 of the Income-tax Act, is neither here, nor there, and does not provide a pointed answer to the question which comes up for determination. The real question is whether it is essential that know-how should be used in the business carried on by the assessee, before any portion of the lump sum for acquisition of such know-how is to be allowed as a deduction. This question was never taken up for consideration by either of the lower authorities, and therefore, their orders are vitiated by error of law and non-appreciation. We hold that since the assessee has two units, one for manufacture of soft drinks and aerated water and another new venture for manufacture of Ammonium Nitrate and Nitric Acid, for setting up of which business, it had paid a lump sum consideration, for acquisition of know-how in the accounting year in question, though the said unit did not commence production or business, since the assessee has to be considered, according to the above decisions, to have carried on business, and since both the units are to be considered as one business because of unity of management, etc., and since the assessee has been deriving profits and gains from its unit manufacturing aerated water and soft drinks, the assessee is entitled to claim the deduction contemplated under Section 35AB and thus, it is entitled to Rs. 14,55,556 as deduction. We reverse the orders of the lower authorities in this regard and direct the Assessing Officer to grant deduction of Rs.14,55,556.
31. to 37. [These paras are not reproduced here as they involve minor issues.]
38. The last of the issues that remains for consideration is the deduction claimed under S. 80HHC. The amount of deduction claimed is Rs. 5,17,695. The assessee also claimed a sum of Rs. 2,24,679 towards service charges paid to V.B.C. Exports Ltd. as deduction. However, both the claims were denied by the Income-tax Officer. The brief facts with regard to the claim of the assessee under Section 80HHC may be stated as follows:
(a) V.B.C. Exports Ltd. is a sister concern of the assessee and it is engaged in the processing as well as export of shrimps. The assessee claimed to have exported 47.1 metric tons of Shrimps worth Rs. 54.88 lakhs to several countries including Japan. The assessee entered into an agreement with V.B.C. Exports on 4-3-1989. Copy of the agreement is provided at page 1 of 2nd paper-book filed by the assessee. We shall discuss the clauses of the agreement later. For the present, it is enough to note that the claim of the assessee was that V.B.C. Exports Ltd. acted as its agent both in processing shrimps, as well as exporting shrimps on behalf of the assessee. The assessing authority held that this agreement is a sham agreement and the assessee had resorted to this device to evade tax and applying the principle in McDowell's case, the assessee is not entitled to deduction claimed under Section 80HHC. Since the transaction itself is to be disbelieved, the assessee is also not entitled to claim of Rs. 2,24,679 towards service charges said to have been paid to its sister concern, namely, VBC Exports Ltd.
39. Thus, this Tribunal has to examine in this second appeal whether the agreement between the assessee and its sister concern dated 4-3-1989 is true, whether the assessee in fact exported shrimps either 47.1 Metric Tons or any other quantity worth Rs. 54.88 lakhs or any lesser amount. In this regard the assessee had produced bulky documentary evidence to show that in fact it had secured export licence and that the agreement is true, export orders were secured by it and in execution of those export orders, exports were made to an extent of Rs. 54.88 lakhs. The assessee filed the following documents.
40. At page 9 of the paper-book No. II, it had provided the purchase order. In that order, the purchaser was stated to be M/s. Mitsubishi Corporation, Tokyo, Japan. The quantity that is required and the price at which it was required were all noted. In this connection, the invoice prepared by VBC Exports Ltd. for and on behalf of the assessee-company was provided at page 11, dated 25-3-1989. So also, at page 13, copy of another invoice was provided. At page 15 copy of the Bill of Lading was furnished and it is dated 26-3-1989. At page 17, the certificate of Government Veterinary Doctor certifying that the shrimps exported by the assessee-company from Vizag on board the Steamer M.V. Indian Courier destined for Yokohama represent the catch from Government approved waters and they are certified to be processed and packed under hygienic conditions. The certificate is dated 30-3-1989. At page 19 the certificate of origin was provided. At page 21 copy of allotment of Importer-Exporter Code (IEC) to the assessee-cornpany by the office of Assistant Chief. Controller of Imports and Exports dated 30-3-1988 was provided. It discloses that the assessee was given Importer-Exporter Code No. (IEC) 2688000195. At page 23 copy of the allotment of Exporter Code No. HV 000085 dated 8-3-1989 was assigned to the assessee at page 25 of the paper-book the provisional certificate as exporter was given to the assessee by the Marine Products Export Development Authority (MPEDA), dated 7-11-1991 was provided. The said authority certified Invoice No., its date, the quantity exported and the FOB value of the said consignments. Therefore, it is extracted:
To whomsoever it may concern-
M/s. V.B. C. Industries Ltd., A- 4 Unit, Industrial Estate Visakhapatnam-530007 is a Registered Exporter with the Authority. The Registration Number assigned to them is 2022/MPEDA/REGN/VSRO/V-2/89, dated 5-7-1989. Prior to the issual of permanent Registration as an Exporter with the Authority, the party has exported 39,940 Kgs. of Frozen Shrimp worth Rs. 56.17 lakhs on the basis of ad hoc permits issued by the authority, the details of which is given below:
1. Invoice dated 10-3-1989 9120 Kgs. Rs. 20,88,121.48
2. Invoice dated 10-3-1989 8480 Kgs. Rs. 6,50,085.03
3. Invoice dated 25-3-1989 6460 Kgs. Rs. 14.,90,054.97
4. Invoice dated 28-3-1989 980 Kgs. Rs. 1,43,454.69
5. Invoice dated 28-3-1989 14,900 Kgs. Rs. 12,45,270.65 Total 39,940 Kgs. Rs. 56,16,985,.82 At page 27, a copy of the certificate of registration recognising the assessee as an exporter was given and it is dated 5-7-1989. It was given in Form X under the Marine Products Export Development Authority Rules, 1972. The names of marine products allowed to be exported was stated to be 'frozen shrimps'. The number and date of certificate of registration was also mentioned. At page 29 another invoice prepared by the assessee itself on 25-3-1989 was provided while exporting shrimps. At page 31, another invoice was found as having been prepared by the assessee-company and it is dated 25-3-1989. At page 33 was provided packing list which shows the different varieties of shrimps packed, number of packages and the total quantity of those packages of each variety. This was prepared by the assessee-company itself. At page 35, copy of the draft was provided for US $ 96910 and it is dated 30-3-1989. At page 37 a letter (shipping advice) written by the assessee-company to the State Bank of India, Main Branch, Visakhapatnam is provided. It is dated 30-3-1989 and it is stated that 323 cartons of fresh frozen shrimps were shipped on 25-3-1989 in MV Indian Courier to M/s. Mitsubishi Corporation, Tokyo, Japan. They have enclosed all documents duly signed and the SBI was requested to negotiate the documents and credit the sale proceeds to VBC Industries Limited, Packing Credit Account No. CC/2/166, for and on behalf of VBC Industries Ltd. At page 39, a copy of the Bank credit advice was provided. At page 41, a certificate of Exports issued by the State Bank of India was provided. At page 43, copy of the Debit Note sent by VBC Exports Limited to the assessee-company claiming service charges and compensation calculated at 4% FOB value of exports of marine products was given. This would show that they have been claiming charges and compensation at 4% on Rs. 14,90,054.97 which comes to Rs. 59,602.20 from the assessee-company. The Debit Note is dated 30-3-1989. At page 45 is the statement of exports made by the assessee-company during the years 1988-89 and 1989-90 as also 1990-91. This would show that whichever exports were made by the assessee-company for the financial years 1988-89 and 1989-90 were made only through its sister concern, M/s. VBC Exports Ltd. However, in the financial year 1990-91 all the exports were shown to have been made through others and not through VBC Exports. The C&F Value as well as the FOB value of the exports made in the financial years of 1988-89 and 1989-90 were provided in a tabular form. For financial year 1988-89 with which we are concerned, the C&F Value of exports was stated to be Rs. 57,70,600 and the FOB value of the exports was stated to be Rs. 56,16,986. Details of exports which the sister concern (VBC Exports) made during the financial years 1988-89, 1989-90 and 1990-91 were shown at page 49. In the financial years 1988-89 and 1989-90, VBC Exports Limited was shown to have made direct exports as well as exports made on behalf of others. The exports made for others were titled as 'route through exports' in the tabular form given at page 49. Both the C&F and FOB values of such exports made for others were mentioned. They represent no other than the same figures which were shown to be the value of export made by the assessee-company in those respective years. However, apart from the exports made for others, the sister concern of the assessee, namely, M/s. VBC Exports Limited made its own direct exports, the C&F Value of such exports made directly for the financial year 1988-89 was of the value of Rs. 8,04,08,614 and for the financial year 1988-89 the C&F Value of the direct exports made by it was Rs. 2,36,19,288. At page 57, the eligibility conditions for grant of export house status and how far such conditions were fulfilled by the assessee were shown. The Assessing Officer summoned the sister concern M/s. VBC Exports limited in order to find out the cost of production of material relating to the exports made by the assessee. The sister concern M/s, VBC Exports Limited had submitted necessary details to the Assessing Officer. The cost of material exported according to the material submitted was Rs.54.88 lakhs. According to the calculation furnished by the sister concern, the cost of average yield of finished products from the raw material was about 85% during the accounting year in question. On this basis, the raw meterial used for processing was taken at 47.1 metric tons. At the same ratio, material used for processing exported quantity would be 47,988.235 Kgs. On this basis, cost of production in the hands of the sister concern was calculated at Rs. 54,76,920 as against Rs. 54.88 lakhs shown as the cost of material exported. Thus, the sister concern was found out to have earned profit of Rs. 2,93,689 (Rs, 57,70,609 - Cost of material Exported (-) Rs. 54.76,920 - Cost of production). Before the Assessing Officer, the resolution passed at the Extra Ordinary General Body Meeting of the assessee-company, on 4-3-1989 was submitted in which in the objects Under Clause III Sub-Clause 58 in the memorandum of Association of the assessee-company, export offish and prawns were added as objects of the assessee-company. The Assessing Officer stated that in the accounting year relevant to assessment year 1989-90, the sister concern of the assessee incurred huge losses amounting to Rs. 1,21,91,355 was accepted by the Revenue under Section 143(l)(a) vide his order dated 21 -3-1990. According to the Assessing Officer, since it has incurred losses during the year, there is no scope for the sister concern of the assessee to claim deduction under Section 80HHC. Therefore, a colourable device of tax avoidance was evolved by the assessee with the help of its sister concern. The reasons for coming to the said conclusion were stated to be as under:
41. The terms and conditions contained in the agreement dated 4-3-1989 were not strictly adhered to by the parties to the agreement. Deviation from the terms and conditions were freely resorted to. According to clause 6 of the agreement, sister concern had the right to enjoyment of incentives like REP, duty draw back and the assessee was left only with the deduction which can be claimed under Section 80HHC. According to clause 12 of the agreement the date from which it would come into force was left blank. Clause 14 of the agreement states that the agreement should terminate after exporting products worth Rs. 50 lakhs and on completion of connected formalities. No renewal of the agreement was contemplated. The assessee had in fact effected exports exceeding Rs. 50 lakhs in contravention of the agreement. However, the oral contention of the assessee's authorised representative remained that the assessee had renewed the agreement. The Assessing Officer deduced that the conduct of the assessee was not in full conformity with the provisions of the agreement, and the main intention was to make the claim for reduction of tax burden by claiming benefits under Section 80HHC. The other bulky documentary evidence secured by the assessee was only to prop up the claim for deduction under Section 80HHC. The Assessing Officer also stated that upto assessment year 1989-90, the assessee did not indulge in export of shrimps. The export orders which were in fact received by the assessee's sister concern was stated to have been diverted to the assessee, with an intention to reduce its tax burden for the assessment year 1989-90. The difference between the value of export and cost of production in the hands of the sister concern was found to be Rs. 2,93,689. Ordinarily this would have been disallowed under Section 40A(2)(b) but for the Assessing Officer's conclusion that the entire transaction is a colourable device and that the agreement is sham. The purchase value of the exported goods was identical to the export sale value. Thus, there was no profit out of exports. Further, there was a loss in the export transaction inasmuch as the assessee has suffered payment of service charges and compensation of Rs. 2,24,679 to the sister concern. Further, the assessee had disallowed as profit of 2,93,689 while purchasing the exported goods from the sister concern. The Assessing Officer concluded that by this mere agreement, the assessee raised a facade of export sales. He held that the export agreement dated 4-3-1989 is a sham one, intended only to reduce the business profit by paying the excess of Rs. 2,93,689 towards purchase and Rs. 2,24,679 towards service charges and compensation to the sister concern with the ulterior motive of staking claim for deduction under Section 80HHC and in a bid to reduce its total income by Rs. 5,17,695. He held that the principle laid down by the Supreme Court in McDowell & Co. Ltd. v. CTO [1985] 154 ITR 148 is to be applied to the facts of this case. Ultimately, while refusing deduction under Section 80HHC the ITO also added the total sum of Rs. 5,17,695 (Rs. 2,93,689 + Rs. 2,24,679) to the total income computed.
42. The learned Commissioner of Income-tax (Appeals) had in fact confirmed the order of the Assessing Officer. The reasons given by him at para 12 of his order are the following:
(1) The agreement does not bring into existence a buyer/seller relationship between the assessee and the sister concern.
(2) It does not specify the cost of the goods transacted.
(3) As per articles (3) and (5) of the agreement the entire cost of export is borne by assessee's sister concern and the entire export proceeds also are to be appropriated by the sister concern.
(4) In the process, the sister concern may earn some profits but if it incurs some loss, the assessee could not be careless.
(5) The assessee was only aiming at getting recognition as export house and would of course get the benefit of deduction under Section 80HHC.
(6) The assessee did not take any risk of buying or selling. Its name only was to be used. For the benefit to be gained by it (recognition as Export House and 80HHC deduction) it agreed to pay service charges at 4%.
He held that this is an unusual agreement and it cannot be termed as commercial arrangement since it had no scope for any commercial risk by any of the parties to it. For gaining benefit under Section 80HHC, he held that the assessee had paid an unusual consideration and that too, to a sister concern. He also held that for depriving the Government, part of its tax dues, the assessee had entered into an arrangement for giving largesse to one of its sister concerns and such arrangement could in nobody's book be described as bonafide tax saving arrangement. The arrangement was intended to reduce tax liability on two different counts:
(i) The claim for deduction under Section 80HHC.
(ii) The claim for deduction for payment of service charges to sister concern.
Ultimately, he had confirmed the action of the Assessing Officer in denying deduction under Section 80HHC. However, as regards the profit earned by the sister concern, he deleted the addition of Rs. 2,93,689 and confirmed the other addition of Rs. 2,24,679, which represents the service charges paid to the sister concern. Thus, the deduction under Section 80HHC and the disallowance of payment of service charges to the sister concern are the two grounds for consideration of this Tribunal.
43. The question at issue before this Tribunal broadly stated is whether deduction under Section 80HHC is allowable to the assessee. We feel that it is in fitness of things to consider this aspect in two ways. First is to find out whether the agreement dated 4-3-1989 is genuine or whether it is to be discarded and secondly, whether the exemption under Section 80HHC is available to the assessee.
44. The important terms of the agreement dated 4-3-1989 were already extracted in the orders of the learned Commissioner of Income-tax (Appeals) and therefore, we do not want to burden the record further, extracting them once again.
45. The learned Commissioner (Appeals) held in his impugned orders that:
(1) The agreement does not bring into existence a buyer / seller relationship between the assessee and VBCE.
(2) The agreement does not specify the cost of the goods transacted.
(3) As per articles 3 & 5 of the agreement the entire cost of exports is borne by VBCE and the entire export proceeds is also to be appropriated by VBCE.
(4) The whole aim of the agreement appears to be to get recognition as an Export House and to get the benefit of deduction under Section 80HHC of the Income-tax Act.
(5) The assessee did not take any risk in buying and selling. Its name only was used and for the benefit of getting recognised as an export house and for getting benefits under Section 80HHC, it had agreed to pay service charges to the VBCE at 4% FOB. According to the learned Commissioner of Income-tax (Appeals), the whole commercial risk of exporting marine products was on VBCE and at the same time it was divested of a legal benefit of deduction which it would have otherwise availed. He also opined that for getting the benefit of being recognised as export house besides getting benefits under Section 80HHC, the assessee paid an unusual consideration that too to a sister concern. He' also held that for depriving the Government of India part of its tax due, the assessee had entered into an arrangement for giving largesse to one of its sister concerns. He came to the conclusion that the arrangement was designed only for escaping tax liability on two counts by claiming deduction under Section 80HHC and by claiming deduction for payment of service charges to VBCE.
46. After hearing both sides, we are unable to agree with the fidnings of the lower authorities that under the agreement the assessee did not stand to gain anything, and the assessee could not derive any commercial profit from the said agreement. The amount of benefit under Section 80HHC is to the tune of Rs. 5,17,695. But for the agreement the claim for deduction under Section 80HHC cannot be made by the assessee. Thus, as against the advantage of Rs. 5,17,695, the assessee is obliged to pay only 4% of the FOB value towards service charges. Further, there is likelihood of enhancing exports by which the assessee may get recognition as an 'export house'. Therefore, incurring an expenditure of Rs. 2,24,679 towards service charges and getting the benefit of Rs. 5 lakhs towards deduction under Section 80HHC is clearly beneficial to the assessee, and therefore, the finding of the lower authorities that the agreement does not bring in any advantage to the assessee cannot be accepted. Further, the assessee had expanded its manufacturing activity to manufacturing other products like Ammonium Nitrate and Nitric Acid for which the assessee set up a factory in Srikakulam District. The estimated expenditure of that project was Rs. 3,386 lakhs. Plant and machinery worth lakhs or crores of rupees were to be imported and in these circumstances, the assessee stands to gain if it gets recognition as an 'export house'. At page 55 of the second paper-book filed by the assessee, one extract from the rules of Import and Export Policy prevailing for the period from April 1988 to March 1991 was given. In para 214 of the policy, it is stated what are all the import facilities available to export houses. They are as follows:
(i) Additional licences as provided hereunder;
(ii) IRMAC (Industrial Raw Materials Assistance Centre) facilities for import of raw materials and components (Non-canalised items only) for supply to Actual users off-the-shelf, as per the provisions contained in para 121 of this Policy;
(iii) Import of one PBX/PABX (including electronically operated) in ayear for use in its office(s);
(iv) Import of office machines as provided in para 118 of this policy; and
(v) Issue of Advance licences and Import-Export Pass Books against legal undertaking in lieu of bank guarantee and exports against such licences issued to other manufacturer-exporters.
Now to get eligibility to get recognised as export house, is given at para 212 of the Policy, an extract of which was given at page 53 of the second paper-book which is as follows:
212(1). The eligibility for the grant of Export house/Trading House certificate shall be determined on the basis of the Net Foreign Exchange Earnings (NFE earnings) from the exports actually made in the preceding three licensing years termed as the 'Base Period'. The earnings from (i) the exports of products specified in Appendix-12, (ii) re-exports as defined in para-174(1) of this policy, (iii) 'Deemed Exports' as defined in Chapter (XVI), and (iv) exports from Free Trade/Export Processing Zone and 100% EOUs, shall not qualify for this purpose.
(2) The eligibility will be considered subject to the following conditions:
(a) The annual average NFE earnings in the prescribed base period should not be less than Rs. 2 crores in the case of Export Houses, and Rs. 10 crores in the casa of Trading Houses.
There are certain requirements to be fulfilled before being recognised as Export House status. They are:
(1) The annual average Net Foreign Exchange (NFE) earnings during the preceding three licensing years should not be less than Rs. 2 crores;
(2) However, NFE earnings in none of the preceding three years should be less than 25 per cent of the minimum average NFE earnings (25% of Rs. 2 crores comes to Rs. 50 lakhs).
The assessee-company exported goods, ie., marine products over the three assessment years beginning from 1987-88 onwards as follows:
Sl. No. Base Period FOB Value of Exports 1. 1987-88 Nil 2. 1988-89 Rs. 56. 17 lakhs 3. 1989-90 Rs. 331. 86 lakhs
The average during the base period is Rs. 129.34 lakhs. Thus, the assessee has to export at least 2 crores worth of marine products in order to get the status of an 'Export House'. Thus, one of the main object and aims in entering into contract dated 4-3-1989 with VBCE is to get recognised as an Export House besides getting deduction under Section 80HHC. As regards criticism that it is not profitable to enter into an agreement at all though there may be chances for VBC to get some profits, we are unable to agree with the lower authorities. When the profits under Section 80HHC is to the tune of Rs. 5,17,000 as against the payment of Rs. 2,24,679 towards service charges payable to VBCE anybody can clearly see whether it is advantageous to the assessee or not. Thus, we hold that entering into an agreement, the assessee in fact, stood to gain rather than lose anything. Another criticism is that the assessee did not undertake any business risk and the whole risk is to be borne by the VBCE, its sister concern. This, in our opinion is also not well founded. Clause 12 of the agreement contemplates that the assessee should purchase marine products in the course of the export on board the ship outside the custom frontiers of India at C&F prices obtained by the assessee against export orders. Thus, sale would be complete and title of the goods exported shall pass to the assessee. By the time the gpods are exported, the owner of the goods exported would be the assessee only and not VBCE. After the custom frontiers of India were crossed and after the sale of the marine products takes place on C&F prices, risk of shipment would be only that of the assessee. As per clause 11 of the agreement, the claims of the buyer either in India or abroad ... due to lapse, defects, shortage, defective quality or packing or for any other reason whatsoever in respect of the shipments are to be met by VBCE. However, in the first instance, the assessee-company only has to meet those claims. The assessee was only given the right to claim indemnity from VBCE for such claims. On behalf of the assessee several other such instances where the sister concerns acted as agents for exports and where service charges were paid in between two to 5% for the agents helping the assessee in exports were furnished before the Commissioner of Income-tax (Appeals). Similar contracts entered into by the assessee with other concerns were furnished before the learned Commissioner (Appeals). At page 1 of the written arguments, the following is what is stated:
Among others, the assessee had entered into the following contracts, with agents other than the assessee's sister concern, for the export of goods (copies of agreements annexed):-
(a) Agreement with Pacific Export dated 11-12-1985 - Import Entitlements to Processor, 80HHC benefit to the exporter; commission 2%.
(b) Agreement with Chinar Exports dated 25-9-1984-Minimum turnover Rs. 20 lakhs, to be completed before 31 -12-1984, Import Entitlements to processor, 80HHC benefit to Exporter and commission 2.75%.
(c) Agreement with Shaw Wallace Limited dated 8-11-1989 - Import entitlements to exporter, Minimum Turnover Rs. 100 lakhs, to be completed before 31-1-1990, 80HHC benefit to Exporter and commission 5%.
(d) Agreement with Multi Weld, dated 14-8-1985-Import Entitlements to processor, 80HHC benefit to exporter, Minimum turnover Rs. 0.50 lakhs to be completed before 31-1.0-1985 and commission 2.5%.
The learned Commissioner (Appeals) while adverting to these agreements at para 12.4 of his impugned orders held that he does not feel obliged to discuss the propriety of these agreements. He also found that he did not find any rationale in the argument that similar agreements have been independently entered into by both the assessee and VBCE. The agreement under consideration has the stamp of genuineness. The argument that the agreement dated 4-3-1989 is not genuine but only sham and colourable transaction cannot be countenanced for the simple reason that if at all it is a clandestine arrangement made only to evade tax, then VBCE would have shown anxiety to show all the exports it had made or majority of the exports which it had made during the relevant accounting year in the name of its sister concern only. In the financial year 1988-89, VBC Exports had directly made exports whose C'F value was Rs. 8,04,08,614. In the total exports, only a paltry amount of Rs. 57,70,607 represents value of exports made by VBC on behalf of others which is described as,(route through exports). The value of the exports through VBCE as well as route through exports were given at page 49 of the second paper-book. Thus the theory that the agreement dated 4-3-1989 must have been designed only to see that the claim of 80HHC should be made successfully by the assessee in respect of VBCE does not appear to be true or correct. This circumstance adds to the genuineness of the agreement, rather than its being considered as sham. Another criticism levelled against the agreement was that because VBCE was incurring losses in the year of account there was no scope for it to claim deduction under Section 80HHC and therefore, the agreement is a device in order to secure the deduction to tha assessee. This argument also does not appear to be sound under law. In this connection, Sub-Section (3) of Section 80HHC as applicable to assessment year 1989-90 reads as follows:
(3) For the purposes of Sub-Section (1), profits derived from the export of goods or merchandise out of India shall be the amount which bears to the profits of the business (as computed under the head 'Profits and gains of business or profession'), the same proportion as the export turnover bears to the total turnover of the business carried on by the assessee.
The Press Note of the CBDT dated 21-6-1983 now found at page 3232 of Sampath lyengar's Law of Income-tax (8th Edition) is to the following effect:
4. Sub-Section (3) of Section 80HHC statutorily fixes the quantum of deduction on the basis of a proportion of the profits of business under the head 'Profits and Gains of Business or Profession' irrespective of what could strictly be described as 'profits derived from the export of goods or merchandise out of India'. The deduction is computed in the following manner:
Export Turnover Profits of the Business x ---------------------
Total Turnover...
Another criticism levelled against the arrangement between the assessee and VBCE was that the date of commencement of the agreement was not filled up in the agreement, and it is clear indicia to show that it is sham and not intended to be acted upon. We are of the opinion that this argument is not well founded. We should first know whether such term is an essential term of the contract, the absence of which would invalidate the agreement itself. All other terms which are not essential terms are formal terms of the contract and when there is any omission with regard to any of them, the evidence with regard to the same may be supplied by parol evidence. In this connection, we came across at page 813 of Sarkar's Law of Evidence as follows:
Though parol evidence is inadmissible to contradict a written agreement, it may be offered to ascertain an independent collateral fact explanatory of the instrument. Indeed, it appears that the rule will not be infringed by adducing extrinsic evidence even to contradict a deed or other writing, provided the contradiction be confined to the details of formal matter, which may well be presumed not to have been stated with careful precision. For instance, parol evidence has on several occasions been admitted to contradict the recited date of a deed, order or other instrument. In Refell V.R. 35 IJP&M 121, the court of probate admitted parol evidence to prove that a will bearing date 27-2-1855, was in fact executed in 1865 and had consequently invoked another will that was made in 1855 (Tays 1150 Ros N P p 21). Thus the date of execution of a deed may be contradicted (Exp. Slater, 76 LT 529, Jayne v. Hughes, 10 EX 430 or if omitted, supplied (Labb v. Stanley, 5QB574; Phip 11th Ed., p. 809. Dates of documents are therefore regarded as formal parts and it may be shown that dates given are incorrect through mistake or collusion.
Thus, the omission to menion the effective date from which the agreement operates does not invalidate the agreement. It only permits parol evidence to be let in to supply the date from which the contract became effective or binding between the parties. In this case, it was argued from the very beginning that the date of first shipment of marine products by VBCE on behalf of the assessee is the date of the contract (e.g. 30-3-1989). There is no contrary evidence let in by the Revenue and in the absence of such contrary evidence there is no reason why we should not accept the assessee's version that the date of first shipment of marine products is the effective date from which the contractual terms came into operation. Next, it is contended that the determination of the contract did not take place as contemplated by the terms of the contract. Under the terms of the contract, it was contended that Rs. 50 lakhs is the upper limit of the value of the exports and as soon as that target is reached, the agreement automatically comes to an end. However, in this case, the value of exports exceeded the maximum limit prescribed. However, in this year, the total value of the exports were stated to be of Rs. 57,70,669 which is much more than the exports contemplated under the agreement in question. The question is whether if some exports are made over and above the maximum prescribed under the contract, can it be said that the extra exports are to be governed by any terms whatsoever. There are terms called quantum meruit and quantum valebant under the Contract Act under which if services are rendered over and above maximum what is prescribed under the contract, the person who rendered the services is entitled to get reasonable rate for goods supplied or services rendered. In all such cases, it is no doubt true that there is no binding contract between the parties as to how much one is obliged to pay for the goods supplied or for the services rendered for the extra work that is rendered under the contract. However, the services thus rendered over and above maximum cannot be taken or intended to be gratuitous. In such a case the person who performed the services or sold the goods is entitled to get a reasonable remuneration. The law on the subject is found dealt with in Law of Income-tax by Venkatesa Iyer, 4th Edition, Vol. I at pages 388 and 389. The learned author had dealt with the English Law and then came to discuss the Indian Law at both the pages as follows:
Greer L. J., also observed: The obligation to pay reasonable remuneration for the work done when there is no binding contract between the parties is imposed by a rule of law and not by an inference of fact from the acceptance of services or goods'.
Similarly, where there is no concluded contract but services rendered are not intended to be gratuitous, a claim on the basis of quantum meruit may be sustained. In Way v. Latilla, where the arrangement was to share in the profits, the House of Lords upheld the right to quantum meruit and Lord Atkin said:
'While there is no concluded contract as to the remuneration it is plain there existed between the parties a contract of employment under which Mr. Way was engaged to do work for Mr. Latilla in circumstances which clearly indicated that the work was not to be gratuitou s. Mr. Way was therefore entitled to a reasonable remuneration on the implied contract to pay him quantum meruit.' The law In India is similar. In Alopsi Porshod & Sons Ltd. v. Union of India, the Supreme Court recognised that 'quantum meruit is but reasonable compensation awarded and implication of a contract to remunerate, and an express stipulation between the parties under a contract cannot be displaced by assuming that the stipulation is not reasonable'. In Pannalal v. Dy. Commissioner, Bhandara, contracts were made for effecting certain additions and alterations to three hospitals with the Deputy Commissioner, who was not authorised by the Government to enter into contracts. The terms were in the standard P.W.D. form and the rates were the P.W.D. rates as and when revised. The revised rates had been sanctioned by the Deputy Commissioner. The buildings and hospitals were taken over on construction and accepted by the concerned authorities. It was held that even apart from the contract which was not enforceable liability to pay clearly arose under Section 70 of the Contract Act.
47. Therefore, what are the terms which apply for the extra services rendered by VBCE in exporting more than what is liable to be exported under the terms of the contract dated 4-3-1989 can easily be determined by applying the rule of Quantum Valebant as stated above and the fact that there was excess export than what is contemplated under the contract does not invalidate the contract in any way and also does not make the contract sham or make it only a colourable device to evade tax or one not intended to be acted upon. The next argument of the Revenue is that ratio of McDowell & Co. Ltd.'s case (supra) applies and renders the agreement dated 4-3-1989 as sham and a colourable device to evade tax. Even in the case of McDowell & Co. Ltd.'s (supra) the Supreme Court had held that tax planning may be legitimate provided it is within the frame work of the law. Can it be said that when the quantum of benefit derived by the assessee is of the order of Rs. 5,17,000 incurring an expenditure of about Rs. 2,24,679 towards service charges to a sister concern can be called tax avoidance measure, especially when similar agreements were cited before the learned Commissioner of Income-tax (Appeals) which would show that similar agreements with outsiders or sister concerns are of daily occurrence. All other advantages that flow from the exports would go only to the agent. But the assessee as well as VBCE are under the same management. The annual report of the assessee for this assessment year is filed along with the paper-book. At page 7 giving an account of the activities of the assessee to the general body of the share-holders, the assessee had stated as follows:
During the period under reviewyour company has taken up the business of exports of shrimp and exported shrimps to the tune of Rs. 57.70 lakhs.
In Schedule 19 which is appended to the Profit & Loss Account, a sum of Rs. 57.70 lakhs was stated to have been incurred for purchase of finished goods (shrimps) and the quantum of shrimps purchased was stated to be 39,940 Kgs..Therefore, either the quantity of exports or the exports were really made can never be doubted in view of the bulky evidence on record which clearly proves that the assessee is a genuine exporter in that year, secured orders for export but the'exports were got made through its sister concern VBCE after paying 4% FOB value. The document filed on behalf of the assessee is replete with evidences which establishes the factum of exports by the assessee. Therefore, when the payment of consideration is correct, we fail to understand how such an agreement can be termed as sham and collusive brought out only for the purpose of avoidance of tax. In this connection, it is sought to be argued before us by the learned Counsel for the assessee that engaging a sister concern as export agent to the assessee and paying reasonable remuneration towards service charges cannot be termed as illegal, is borne out by few decided cases of the Tribunal. First in the series was the Madras Bench decision reported in S.I. Property Development (P.) Ltd. v. IAC [1992] 40 ITD 494. The facts of that case as regards deduction under Section 80HHC and the decision of the Tribunal thereon are correctly given in the head-note of the decision at pages 497 and 498:
During the accounting year relevant to the assessment year 1984-85, the assessee-company entered into the business of sale of fish foods. The assessee had incurred expenses and commission on export sales and claimed deduction under Section 80HHC. The Assessing Officer found that the assessee had entered into an agreement with a sister concern and since the sister concern had directly exported the goods contracted by the assessee this was only an arrangement to avoid tax payment and accordingly disallowed the deduction under Section 80HHC. On appeal, the Commissioner (Appeals) upheld the disallowance.
On second appeal, it was contended by the revenue that the deduction under Section 80HHC was not available where there were no profits from export business.
HELD In the instant case, the assessee had procured orders abroad for export of certain marine products and the sister concern was to arrange the export of the marine products in the name of the assessee. The RBI had allotted a code number to the assessee as an exporter and it was not in dispute that one of the objects of the assessee was to enter into the marine foods exports trade. The Marine Products Export Development Authority had also registered the assessee as an exporter. The shipping documents clearly indicated that the assessee was the exporter and the packing credit account was negotiated in the Bank of America in the name of the assessee. The telex message in regard to the contract were also in the name of the assessee as well as the contracts themselves with the foreign buyers. The entire documentation thus established that this export business was done only by the assessee and the sister concern acted as an agent of the assessee.
The other objection that the deduction under Section 80HHC is not available where there is no profit from the export business was also untenable because the reference in Section 80AB is only to the gross total income and not to the profit from the export business alone. This is self-evident from a reading of Section 80AB and it has been so held by the Delhi Bench of the Tribunal in the case of Expo Machinery Ltd. v. IAC [1989]31 ITD 41. Thus accordingly, the expenses incurred for the export business as well as the deduction claimed under Section 80HHC had to be allowed to the assessee company in computing the total income.
It is argued that the facts of that case are very near to the facts of the present case before us. As can be seen from the extract given above, the disallowance of deduction under Section 80HHC was on the ground that the exports were made through the sister concern and it was only an arrangement to avoid tax payment. Having regard to the bulky evidence on record there also, the Tribunal held that the entire documentation establish that the export business was done by the assessee and the sister concern acted as an agent of the assessee. Another contention taken was that deduction under Section 80HHC cannot be allowed when there are no profits earned in export business. That argument was rejected by the Madras Bench, following the Delhi Bench decision in Expo Machinery Ltd. v. IAC [1989] 31 ITD 41. The Delhi Bench in that case made comparison of the deductions available under Section 80HHA, 80HHB and 80HHC. The learned Members held that as regards the deduction under Section 80HHA and 80HHB are concerned, the deductions depended upon the profits earned from the particular activity and in case there are no profits from that activity no deduction can be allowed. Section 80HHC, on the other hand, does not make the income from export of goods as the basis for deduction. Under the said section, the admissible deduction is to be calculated as a percentage of the export turnover and the deduction is permissible not from the income from export business but from the total income of the assessee. They further held that Section 80HHC would be attracted even if there are no profits from export business and the assessee has merely qualified the export turnover. Even if the assessee has not earned any profit, in the export business, yet, if he has other business income which constitute the total income, then a deduction calculated on the basis of the formula given in the CBDT press note adverted to above had to be given, namely:
Profits of the business x Export Turnover Total Turnover Thus, it can be seen that even if the ultimate result of export business carried on by the assessee was loss, if only the assessee carries on other businesses and earns income, then, the assessee is entitled to deduction under Section 80HHC as per the formula quoted above.
48. Learned Counsel for the assessee brought to our notice the decision of the Cochin Bench reported in Sea Pearl Industries v. ITO [ 1988] 26 ITD 380. In that case, the assessee's claim for deduction under Section 80HHC was rejected by the Income-tax Officer, on the ground that exports were undertaken through export house which was not entitled for deduction. After going through the evidence put on record on behalf of the assessee, the Tribunal came to the conclusion that the assessee is the real exporter and the export house was a mere agent. The facts of that case are found to be different from the facts on hand and therefore, the said decision may not be of much help to the assessee except to the extent that some of the agreement terms are similar to the agreement terms under consideration. The learned Counsel for the assessee had brought to our notice the Madras High Court's decision reported in Addl. CITv. Gordon Woodrqffe & Co. (Madras) (P.) Ltd. [1977] 110 ITR 880. In that case the assessee was an exporter of tanned hides and skins, It had entered into an agreement with foreign firms to represent it as agents in the foreign markets' on 2% commission. Foreign agents placed orders on the assessee. The assessee in its turn was purchasing the goods locally. The local businessmen only despatch goods directly to foreign agent, and the assessee was getting 1% discount from the local dealer. The question was. whether the commission earned by the assessee represent export profits and whether it was entitld to rebate under Section 2(5}(i) of Finance Act, 1963 and under Section 2(5)(a)(i) of Finance Acts of 1964, 1965, 1966 and 1967. The claim of the assessee was disallowed by the Income-tax Officer but accepted by the Appellate Assistant Commissioner and the Tribunal. On reference to the Madras High Court, it was held that the exports were made by the dealers from whom the assessee purchased the goods in India for and on behalf of the assessee and the local dealers acted only as agents of the assessee who was really the exporter in respect of the goods and hence 1% commission earned by the assessee whether it is called commission discount really constitutes profits derived from the export of hides and skins and hence the Tribunal was right in holding that the assessee is entitled to rebate under Section 2(5) (of the Finance Act of 1963 and Finance Acts of 1964 to 1967). It was argued before us that it was an extreme case where the whole activity of export was actually done by agents of the assessee and the assessee was only an exporter for the namesake and it was getting 1% discount or commission on the export turnover. Even in such a case, the assessee only was recognised as real exporter entitled for the rebate under Section 2(5) of the Finance Acts 1963 to 1967. Therefore, however minimum the role of the assessee may be in exporting goods, if ultimately it can be considered to be the exporter, then it would be entitled to get deduction under Section 80HHC. So, the criticism that all the risks upto shipment were borne by sister concern M/s. VBCE and not by the assessee and on that ground the agreement dated 4-3-1989 should be held to be a tax avoidance device cannot be accepted. The learned Counsel for the assessee further contended that if the transaction under the agreement dated 4-3-1989 is found as a legitimate transaction and it does not amount to a device then, the Supreme Court's decision in McDowell's case (supra) does not apply. It is so held by Madras High Court in another decision, namely, M.V. Valliappan v. ITO [1988] 170 ITR 238. In that case, in April 1979, a partial' partition of certain assets of the assessee-Hindu Undivided Family was effected and an application under Section 171(2) of the Income-tax Act, 1961 was made. The Income-tax Officer accepted the said partial partition on 28-12-1979 in the assessment for the assessment year 1979-80. In the reassessment for the assessment year 1980-81, the Income-tax Officer included the income relating to the assets which were partitioned in the hands of the HUF in view of Section 171 (9) of the Act, The assessee filed a writ petition contending that the income from the property which was the subject matter of partial partition should not be treated as income of the HUF, that Section 171(9) was violative of Articles 14 and 265 of the Constitution, etc. The Revenue contended that Section 171 (9) was only for the limited purpose of levy and collection of income-tax and that Section 171(9) was enacted as a measure to prevent tax evasion and must, therefore, be xipheld having regard to the decision of the Supreme Court in McDowell & Co. Ltd.'s case (supra). In that connection, the Madras High Court held that a legitimate transaction which does not amount to a dubious device is not hit even by the new approach adopted by the English Courts and by the Supreme Court in McDowell & Co. Ltd.'s case (supra). Again, our attention is drawn to the decision of the Supreme Court in CWT v. Arvind Narottam [1988] 173 ITR 479.It is held by Sabyasachi Mukherji, J. in that case at page 487 after levelling some criticism against McDowell & Co. Ltd.'s case (supra) as follows:
In any event, however, where the true effect of the construction of the deeds is clear, as in this case, the appeal to discourage tax avoidance is not a relevant consideration. But since it was made, it has to be noted and rejected. With these observations I agree.
Thus, one thing is clear, that is that McDowell & Co. Ltd.'s case (supra) cannot be applied to a case where the agreement between the parties is found to be genuine and the language employed in the agreement is clear and unambiguous.
49. We hold that the agreement dated 4-3-1989 is genuine and fully acted upon. It is not a sham document which was brought into existence to evade tax or brought into being as a tax avoidance measure. Having regard to the whole discussion made above, we are of the opinion that the disallowance of deduction under Section 80HHC or the disallowance of payment of service charges by the assessee to the VBCE made by the lower authorities cannot be upheld. Their decision in this regard is hereby reversed and we hold that the assessee is entitled to both deductions under Section 80HHC and the payment of service charges to M/s. VBCE. Thus, the assessee is entitled to Rs. 5,17,695 and R.s. 2,24,679 as deductions.
50. Thus, the appeal stands partly allowed.