Income Tax Appellate Tribunal - Bangalore
Eskayef Ltd. vs Deputy Commissioner Of Income-Tax on 15 October, 1998
ORDER
S. Bandyopadhyay, AM
1. In this appeal filed by the assessee against the order of the CIT(A), grounds No. 1 & 15 are of general nature, whereas ground No. 14 is merely a summary of a number of other grounds. As such, these grounds do not require any separate attention.
In ground No. 2, the assessee contends that the CIT(A), erred in upholding the disallowance of Rs. 3,006 being subscription fees paid to the Clubs by the Company. The AO found out that as per the report under Section 44AB, the auditors had pointed out that the assessee had incurred above expenditure on Clubs. The disallowance was made on the basis of the said audit report. In the first appellate order, the CIT(A) mentions that the amount pertains to the subscription fee of the President and the Vice-President of the assessee Company to various Clubs. He upheld the disallowance.
The amount being small, must be relating to the subscription fees and cannot include actual expenses towards entertainment by being cost of food or drinks etc. Following the judgment of the Gujarat High Court in the case of Gujarat State Export Corpn. Ltd. v. CIT [1994] 209 ITR 649, we reverse the decisions of the lower authorities and direct that the expenses be allowed as revenue expense.
3. Ground No. 3 relates to the question of disallowance of share issue expenses to the total extent of Rs. 39,35,823. The assessee claimed the same as revenue expenses. The AO discusses in the assessment order that during the relevant previous year, the assessee came out with a public issue of shares on terms & conditions settled by the Controller of Capital Issues and the various Stock Exchanges in India. The AO referred to three decisions of different Courts like that of Gujarat High Court in the case of Ahmedabad Mfg. & Calico (P.) Ltd. v. CIT [1986] 162 ITR 800/28 Taxman 306, of Kerala High Court in the case of CIT v. Common Wealth Trust Ltd, [1987] 167 ITR 365 and of the Karnataka High Court in the case of CIT v. Motor Industries Co. Ltd. [1988] 173 ITR 374, and by following the unanimous decision in all the above mentioned three cases, came to the conclusion that the expenditure incurred towards issue of fresh shares is to be held as capital expenditure. Accordingly, he disallowed the claim of the assessee.
In the first appeal also, the learned CIT(A), after taking into consideration the above mentioned decisions as relied upon by the AO, upheld the action of the AO in treating the expenses as capital expenses.
4. In the further appeal filed by the assessee before us, it is contended that the facts relating to incurring of the expenses are required to be taken into consideration first Sri S. E. Dastur, the learned counsel for the assessee narrated the genesis of the expenses by stating that initially the business of the assessee company was being run as a branch of a U.K. based company viz. M/s. Eskay Lab Limited Sri Dastur stated that in order to maintain the said business in pharmaceutical line in India, the assessee company had to be established as a company incorporated in India on 11-4-1984. In this connection, he brought our notice to a letter of the Reserve Bank of India, Central Office, Exchange Control Dept. Bombay dated 5-10-1978 in which M/s. Eskay Lab Ltd., was addressed regarding its application for permission to carry on its existing activities in India. A reference was made in the said letter of R.B.I., to the effect that such activities in the line of manufacture of pharmaceutical products was being carried on since 1st January, 1974. The R.B.I., however required M/s. Eskay Lab Ltd., to cause the Indian branch of the said company to be converted into a Indian company, with non-resident interest in the equity capital not exceeding 40%, within a period of one year from the date of receipt by that company of another letter of R.B.I., dated 1-8-1978. Later on, by another letter dated 11-12-1979, R.B.I., granted extension of time upto 31st May, 1980 for completion of all formalities relating to Indianisation of the aforesaid business of the foreign company in India. After the assessee had been incorporated, originally in the name of M/s. Eskayef (P.) Ltd., R.B.I., wrote a detailed letter dated 16-11-1984 to the said company in which it expressed its agreeability to M/s. Eskayefs acquiring the entire business and undertaking of the Indian branch of M/s. Eskay Lab, England for a total consideration of Rs. 9 crores as at the close of business on 30th November, 1983, pursuant to a scheme of amalgamation of be approved by the Karnataka High Court. It was also stated in the said connection that the non-resident interest in the equity capital of the assessee company shall have to be reduced to a level not exceeding 40% by 31-5-1985. A further stipulation was also provided that till 60% of the capital of the company was allotted to resident Indians, the company shall not declare and pay any dividend without the prior permission of R.B.I.
5. Sri Dastur states that pursuant to the above conditions having been imposed by R.B.I., towards limiting the non-resident interest upto the maximum level of 40%, the assessee company issued 30 lakhs new equity shares of Rs. 10 each for cash at a premium of Rs. 8 per share. For this purpose a detailed prospectus was issued. In the said prospectus, a specific mention was made about M/s. Eskay Lab having already established a Research Centre in 1971, which had been recognised by the Govt. of India and was being considered to be one of the five largest research centres in the industry. Sri Dastur places emphasis on this aspect of the matter about the assessee company continuing on with the functioning of the above mentioned Research Centre.
Sri Dastur points out that the previous year relating to assessment year 1986-87 ended on 30-11-1985. By referring to the balance sheet of the assessee company as on that date, Sri Dastur has drawn our attention to the fact that the assessee was already having short-term deposits to the extent of Rs. 475 lakhs in the earlier year which rose upto Rs. 701 lakhs after acquiring of the fresh capital by way of issuing new share capital. Sri Dastur thus argues that inasmuch as such a huge amount of money was kept in short-term deposits, it is quite clear that the assessee was not requiring any further funds for its working and hence the issue of fresh share capital has got to be considered simply for the purpose of for complying with the directions of the R.B.I., towards Indianisation of the business of the assessee and not for raising any fresh funds. Sri Dastur also points out in this connection that inasmuch as in the communication of the RBI dated 16-11-1984, there was a mention of amalgamation of the business carried on by M/s. Eskay Lab Ltd., with that of the assessee as at the close of the business on 30-11-1983, although the amalgamation was approved by the Karnataka High Court at a later date, it must be considered to relate back to the aforesaid earlier date of 30-11-1983, In support of this proposition that business is vested in the transferee company from the appointed date even though the order of the court may be subsequent, Sri Dastur has relied on a judgment of the Supreme Court in the case of Marshall Sons & Co. (India) Ltd. v. ITO [1997] 223 ITR 809/[1996] 89 Taxman 619, which approved of a similar judgment of the Bombay High Court in the case of CIT v. Swastik Rubber Products Ltd. [1983] 140 ITR 304.
In support of his contention that inasmuch as the main purpose of issue of the fresh shares was to comply with the directions of the RBI, regarding reducing the foreign share holding in the assessee company, which enabled the assessee company to carry on its business effectively, the entire expense towards issue of such new share capital should be considered as revenue expenses, Sri Dastur has mainly relied on a judgment of the Bombay High Court in the case of CIT v. Glaxo Laboratories (India) Ltd. [1990] 181 ITR 59/50 Taxman 219. In the said case Glaxo Laboratories (India) Ltd. (supra) had entered into a collaboration agreement with a foreign company and subsequently made an application to the Government for permission to continue on the said agreement. Permission was granted by the Government subject to the condition that share holding of the foreign company be diluted. M/s. Glaxo Company complied with such directions of the Government by issuing fresh capital to Indian Public. The Bombay High Court held that fresh capital had been raised for the purpose of running the business and hence the expenditure on raising fresh capital was of revenue nature Sri Dastur has also relied on a few other decisions in support of his contention in this regard, which are being discussed as below -
(i) Shri Meenakshi Mills Ltd. v. CIT [1967] 63 ITR 207 (SC). It was held by the Supreme Court in this case that the deductibility of expenditure incurred in prosecuting a civil proceeding depends on the nature and purpose of the legal proceeding in relation to the assessee's business and cannot be affected by the final outcome of that proceeding.
(ii) Ambala Bus Syndicate (P.) Ltd. v. CIT [1974] 95 ITR 383 (Punj. & Har.). In that case, the issue related to allowability of contribution made by that assessee to political parties. It was held that the expenditure had been incurred to save business from extinction and therefore the expense had clear nexus with the business and was allowable.
(iii) Delhi Cloth & General Mills Co. Ltd. v. CIT [1972] 85 ITR 261 (Delhi). In this particular case also, the issue related to whether contribution made to Trade Association for propaganda against agitation for ban on manufacture of Vanaspathi or compulsory colourisation of Vanaspathi was allowable as expense. The Delhi High Court held that the expenditure had nexus with the business of the assessee and therefore the same was allowable.
6. On the other hand, the learned DR has strongly argued that we are dealing with the case of a Indian company viz. M/s. Eskayef (P.) Ltd., which was floated in 1984 only. He has also emphasised on the fact that as per the permission given by the Reserve Bank, the assessee company was allowed to acquire the business undertaking of another company for Rs. 9 crores out of which Rs. 2 crores was to be utilised for issuing shares to the foreign company. He has furthermore emphasised upon the fact that during the year under consideration, the authorised capital of the assessee was increased from Rs. 50 lakhs to Rs. 6 crores and furthermore that actually no shares had been allotted in the preceding year. He thus argues that as a result of issue of the shares, there was a considerable change in the capital structure of the assessee company and hence the entire expense relating to issue of the shares should be treated as capital expense. In support of his contention, he has relied upon two rather recent judgments of the Supreme Court in the cases of Punjab State Industrial Development Corpn. Ltd. v. CIT [1997] 225 ITR 792/93 Taxman 5, and Brooke Bond India Ltd. v. CIT [1997] 225 ITR 798/91 Taxman 26. The learned DR has also brought our notice to the fact that in the aforesaid judgment in the case of Punjab State Industrial Development Corpn. Ltd. (supra), the Supreme Court duly took note of its earlier judgments in the cases of Empire Jute Co. Ltd. v. CIT [1980] 124 ITR 1 and India Cements Ltd. v. CIT [1966] 60 ITR 52. The learned DR also relied on certain other decisions to which we shall make a reference in due course.
In reply, Sri Dastur stated that the substance of the matter is to be taken into consideration. M/s. Eskay Lab, U.K., and the assessee company belong to the same group and the main purpose behind issue of the shares was to consolidate the existing business in India. Sri Dastur also pointed out that the Supreme Court itself had remarked in the case of Brooke Bond India Ltd. (supra) that if the share issue was for raising working capital, the expense in that connection might be considered as revenue expense. He once more emphasised that the extra fund obtained by the assessee company out of issue of the share capital was not at all required by it for expanding its project but was merely utilised towards refunding the excess contribution received on account of mammoth over-subscription of the shares.
7. On an examination of the facts of the present case, we are clearly of the view that they are fully distinguishable from those in the case of Glaxo Laboratories (India) Ltd. (supra) on which Sri Dastur has placed main reliance. In that particular case, Glaxo Laboratories (India) Ltd. (supra) was already having a business in India. It raised additional shares for the purpose of dilution of the foreign share capital as required by the Government and the main purpose was to enjoy the benefit of the existing foreign collaboration. In the instant case, however, the assessee is an Indian company which was incorporated on 11-4-1984. It was not even in existence on 30-11-1983. The reliance placed by Sri Dastur on the judgment of the Supreme Court in the case of Marshall Sons & Co. (India) Ltd. (supra) cannot therefore be considered to be of much use in relating the acquisition of the business undertaking of M/s. Eskay Lab Ltd., back to 30-11-1983. It is of common knowledge that so far as income-tax matters are concerned, each assessee is treated as a separate assessee and the assessment of the income of an assessee is entirely dependant on the existence and the continuity of the assessee as an entity and not much upon the existence of the business which the assessee carries on. If the assessee acquires any business from another assessee, it will be subject to the benefits and disadvantages of such acquisition only in the way in which relevant provisions are made in the Income-tax Act. It cannot at all be said that the assessee was the owner of the business even in past and would therefore be entitled to all the characteristics of such ownership relating to the past period. The Indian business evidently belonged to an U.K. company viz., M/s. Eskay Lab Ltd. It may be a fact that so far as the group as a whole is concerned, there was a need to maintain and continue can with its Indian business and that is why the assessee company was formed as an Indian company and the business undertaking was transferred to it by the foreign company. So far as however the assessee company is concerned, the entire transaction is of the nature of acquisition of a business undertaking by itself. Hence, all the expenses incurred in connection with such acquisition are essentially to be considered as capital expenses only. One of the conditions for acquisition of the business undertaking, as put forward by the RBI was to limit the extent of foreign share holding at or below the level of 40%. As has been pointed out by the learned DR, the assessee had not issued any share capital in the immediately preceding year during which it was formed. The entire issue of share capital, whether to the foreign company or to the Indian public, took place during the previous year corresponding to the year under appeal alone. Hence, all the expenses connected with issue of Such share capital must be considered to be related to the capital structure of the company. Whether the assessee was in immediate requirement of the money raised in the process of issue of the shares and whether it kept the said money in the form of short-term deposits for certain period is of no consequence at all in deciding the present issue. The assessee was not carrying on any business, so to say, before issue of the share capital. Hence, the entire business is new to it and acquisition of the business having a close connection with issue of share capital, has got to be considered as related to the capital structure of the company alone. The three decisions in the cases of Sree Meenakshi Mills Ltd. (supra) and Ambala Bus Syndicate (P.) Ltd. (supra) and Delhi Cloth & General Mills Co. Ltd. (supra) do not have any connections with the facts of the present case and would not therefore at all be applicable in deciding the present issue before us.
8. Furthermore, the learned DR has also brought our attention to the statement made in the prospectus relating to issue of the shares about objects of the present issue and application of funds. An excerpt from the said objects may be made as below :-
"The objects of the issue of the equity shares by the company are,
(i) to bring about a reduction in the non-resident interest in the company to 40% as stated elsewhere in the prospectus;
(ii) to partially finance the company's future capital expenditure; and
(iii) to list the company's share in the stock exchanges at Bangalore and Bombay."
The learned DR strongly contends that atleast the last two objects as above are clearly related to the capital structure of the company. He also brings our notice to the fact that in the said prospectus again, the company stated that it proposed to set up a Chemical Plant for manufacture of Bulk Drugs in Mysore. The DR strongly contends that the major portion of the capital cost involved towards such project must have been financed by the money obtained by the assessee by raising share capital.
9. We agree with the above mentioned arguments of the learned DR. We are clearly of the view that the so-called object of diluting the non-resident interest in the share capital of the assessee company related only to the group as a whole and not to the assessee as such. This is clear from the fact that issue of share to the non-resident share holders as well as to the Indian public was done simultaneously during this year. Hence, it is got to be held that the expenses in connection with the issue of the shares relate to its capital structure and hence are to be considered as capital expenses.
10. In this connection we would like to discuss some of the judgments as referred to by the AO and the CIT(A) and as relied upon by the learned DR. In case of Ahmedabad Mfg. & Calico (P.) Ltd. (supra), the Gujarat High Court held that the expenditure incurred towards issue of bonus shares constitute capital expenditure. The Karnataka High Court also held in the case of Motor Industries Co. Ltd. (supra), that expenditure incurred on issue of rights share is nothing but expenditure incurred for issue of additional shares and hence is capital in nature.
A special mention may be made in this connection of the judgment of Kerala High Court in the case of Common Wealth Trust Ltd. (supra). In that particular case, that assessee, a non-resident company, incurred certain expenditure for professional services rendered in regard to the steps taken by it for complying with section 29 and other provisions of the Foreign Exchange Regulation Act, 1973, which was referred to by that assessee as "dilution expenses" for Indianisation of the foreign holding as required under the said Act. The Kerala High Court ultimately held that the expenditure had been incurred for the purpose of changing the capital structure of the company to suit the requirements of the FERA by obtaining shares held by foreigners and transferring to Indian citizens, thereby converting what was a non-resident company into a resident company. The structure, character and status of that company was considered by the High Court as having been changed by the expenditure. The High Court furthermore held that the expenditure was incurred for creating or curing or perfecting title to the share capital of the company in accordance with the requirements of the statute and not for the protection of the business of the company. Ultimately, the expenditure was held by the Kerala High Court to be of capital nature.
The facts of this particular case can be considered to be having some relevance to those of the present case and therefore, the judgment would seem to be applicable to decide the present case.
The learned DR has also brought our attention to a judgment of the Calcutta High Court in the case of Avery India Ltd. v. CIT [1993] 199 ITR 745/[1992] 63 Taxman 576. In that case also, there was issue of fresh share capital to reduce the level of non-resident interest in equity capital of the company to comply with FERA Act. The Calcutta High Court held that the result was however of increase of financial resources of the company and hence the same had changed the capital structure of the company. The expenditure incurred in connection with the issue of fresh shares was considered by the Calcutta High Court as capital expenditure.
Another judgment of Calcutta High Court in the case of Union Carbide India Ltd v. CIT [1993] 203 ITR 584, has also been relied upon by the learned DR. In this case also the additional share capital had been issued in order to comply with the Provisions of the FERA Act. The Calcutta High Court held that the issue of shares had resulted in increase in capital and the expenses incurred in that connection were to be considered as capital expenditure. In this particular judgment, the Hon'ble judges of the Calcutta High Court dissented from the view taken by those of the Bombay High Court in the case of Glaxo Laboratories India Ltd (supra). In the case of Shree Ram Mills Ltd v. CIT [1992] 195 ITR 215 also, the Bombay High Court held that issue of fresh equity shares for the purpose of settling the dispute between the two groups managing the assessee company was also to be considered to be towards raising additional capital and the expenditure in that connection was to be considered as capital expenses alone.
Lastly, the learned DR has also referred to a judgment of the Andhra Pradesh High Court in the case of Vazir Sultan Tobacco Co. Ltd v. CIT [1988] 174 ITR 689/41 Taxman 7. In this particular case also, the expenditure laid out for adding to capital structure of the assessee by way of issuing ordinary shares, was considered to be of capital nature.
We have already discussed the facts of the case and found out that so far as the present assessee company is concerned, the expenditure towards issue of share capital must be considered to have been incurred for acquiring a business undertaking. We have also discussed above that the assessee was virtually able to start its business by acquisition of the above mentioned business undertaking which itself clearly is a capital asset to the assessee. There was no existing business with the assessee as such. Hence, the expenses under consideration can, in no way be considered to related to maintenance or carrying on with the existing business of the assessee. We therefore uphold the decisions of the lower authorities in treating the expense to be of capital nature.
An alternative argument has been provided by Sri Dastur in this connection. He has brought our notice to the details of expenses claimed in this regard, which are as below -
Legal Charges for drafting of Memorandum & Articles of Association 90,000 Printing charges of Memorandum & Articles of Association 18,010 Registration Fee 11,240 Brokerage 5,04,000 Printing of Prospectus & Application Forms 9,99,135 Listing Fees 22,000 Advertising of prospectus 1,31,744 Postage 7,15,671 Tata Consultancy Services - Service charges - Registrars of shares 12,90,818 Grindlays Bank Service charges 1,53,206 ----------- 39,35,824 -----------
He claims that although the assessee company was incorporated as a Private Limited Company, through substantial issue of shares under consideration, its status was changed to that of a Public Limited Company. He thus contends that all the expenses like Registration fee, Printing charges and other expenses relating to the Memorandum and Articles of Association etc., incurred by the assessee company for changing its status to a public limited company are clearly allowable as revenue expenses. In support of this contention, he has relied upon the following two judgments.
In the case of CIT v. Modi Spg. & Wvg. Mills Co. Ltd. [1973] 89 ITR 304 (All.) it was held that the amount paid to a lawyer for advising a company on amendments in the Articles of Association and for drafting a special resolution so that the articles could be amended so to bring them into accord with the changes brought about in law relating to companies is an allowable expenditure.
In this connection a judgment of the Bombay High Court in the case of CIT v. Elphin Stone Spg. & Wvg. Mills Co. Ltd [1975] 100 ITR 139, has also been relied upon by Shri Dastur. In this case also it was held that expenses incurred on altering Memorandum of Association in conformity with the provisions of Company Law are allowable as revenue expenses.
11. Sri Dastur has also strongly contended that major portion of the expenses by way of making payments of service charges to Grindlays Bank and also to Tata Consultancy Services being the Registrar of the Shares, was incurred for refunding the surplus money received by the assessee from the a applicants for share on account of over-subscription. He strongly contends that since it was the duty of the assessee company to refund the excess money, the expenses incurred in such connection are required to be allowed as revenue expenses for carrying on the normal business of the assessee.
We are unable to agree with the contentions of Sri Dastur. The entire expenses were incurred towards issue of prospectus, receiving of share applications etc., which were part of the process of inviting fresh share capital. Even the action taken by the assessee in refunding the excess subscription was also closely connected with the said process. Such process cannot at all be considered to be having any nexus with the day to day working of the assessee company nor with its business activities as such. We therefore feel that all the expenses being directly connected with the process of raising of share capital of the company, are required to be treated as capital expenses. We reject the alternative argument of Sri Dastur also on this issue.
12. In the original ground No. 4, the assessee contends that the interest on the contribution received towards the subscription on public issue of shares represents capital receipts and hence not liable to tax. This issue now stands settled against the assessee by a recent judgment of the Supreme Court in the case of Tuticorin Alkali Chemicals & Fertilizers Ltd v. CIT [1997] 227 ITR 172/93 Taxman 502. In that particular case, the Supreme Court held that interest income is always of revenue nature, unless it is received by way of damages or compensation. The Supreme Court furthermore held that if a company has not commenced business, there cannot be any question of assessment of its profits and gains of business. That however does not mean that until and unless the company commences its business, its income from any other source will not be taxed. The Supreme Court furthermore discussed that the company may keep the surplus funds in short-term deposits and earn interest thereon but such interest income will be chargeable under section 56. In the instant case also, the assessee company earned substantial amount of interest by keeping the surplus money received on invitation of fresh share capital in certain deposits with banks. In accordance with the above mentioned judgment of the Supreme Court, the interest income has got to be considered as having rightly been taxed by the A.O.
13. In an additional ground raised at a later stage before us only, the assessee contends that in any case the interest income did not accrue to the assessee in this year as final and certain and otherwise also it may be considered that there was a diversion of the entire interest income at source and hence the aforesaid interest income should not be taxed in the hands of the assessee. Sri Dastur states in this connection that certain unsuccessful applicants towards the fresh share capital brought out a writ petition by way of public interest litigation and claimed that interest carried by the assessee should be paid back to the share holders because of delay in issue of refunds of the share application money. Sri Dastur places reliance on the judgment of the Supreme Court in the case of CIT v. Hindustan Housing & Land Development Trust Ltd [1986] 161 ITR 524/27 Taxman 458 and contends that because of the claim made by those parties, the interest income cannot be considered to have finally been earned by the assessee.
On the other hand, the learned DR has pointed out firstly that the evidence in this regard like copy of the writ petition filed by the applicants at Madras, etc., were not at all produced before the lower authorities and the additional ground was also not raised before them. He thus contends that the additional ground should be dismissed in limine. On merits, the learned DR argues that whereas the issue of the share capital had been concluded on 17-4-1985, the petitioners moved the Madras High Court on 4-12-1985. The previous year for this particular assessment year had already ended on 30-11-1985. He thus argues that throughout during the relevant previous year, the assessee had the right to fully enjoy the interest income. He also points out that the claim made by the petitioners on the entire amount of interest on the delayed refund throughout the period irrespective of whether the assessee had kept the money in a fixed deposit or not was ultimately dismissed by the Madras High Court, inasmuch as the petitioners had withdrawn the petition. The learned DR relies on a judgment of the Supreme Court in the case of CIT v. Sitaldas Tirathdas [1961] 41 ITR 367 and contends that as held by the Supreme Court in that case there cannot be any overriding title to the interest income earned by the assessee during the relevant year.
There is no doubt about the fact that the litigation was brought about by the petitioners after the closing of the relevant previous year. There is again nothing on record to show that the Madras High Court had issued any stay order or injunction on the assessee restraining its right to enjoy the interest from the bank. The judgment of the Supreme Court in the case of Hindustan Housing & Land Development Trust Ltd. (supra) would therefore not at all hold good in the present case inasmuch as there was no dispute about the income so far as the present assessment year is concerned. We therefore do not find any merit in the claim of the assessee that interest income should not be assessed in its hand by considering it to be diverted at source. Hence, finally we reject this additional ground taken up by the assessee.
14. Ground No. 5 relates to sustenance of the disallowance by the learned CIT(A) to the extent of Rs. 2.50 lakhs out of the travelling and conveyance expenses. The AO found out that the assessee had debited an amount of Rs. 1,01,66,259 towards expenditure incurred on travelling. He also found out that as per the audit report, an amount of Rs. 2,78,669 was required to be disallowed in terms of Rule 6D. He however noted that this amount of disallowance had been calculated with reference to total expenditure of Rs. 4,12,266 only and that the balance amount of Rs. 97,53,993 had not at all been considered in computing the disallowable amount.
On going through certain detailed papers like travelling bills pertaining to the mother, wife and son of the Managing Director of the assessee company Sri K. K. Arora, the AO found out that an amount of Rs. 10,340 being the travelling expenses of the mother of the Managing Director from Bangalore to New Delhi and back to Bangalore had been debited to the accounts of the Company. He also found out certain other expenses pertaining to the wife of the aforesaid Managing Director having also been debited. However it may be mentioned in this connection that the expenses relating to the wife of the assessee were incurred on 18-12-1985, i.e., after the expiry of the previous year corresponding to this particular assessment year. The AO remarked that these personal expenses should have been mentioned in column 4(ii) of the audit report under section 44AB, but that the auditors had failed to make any such mention. The AO also found out that certain other personal expenses of Sri K. K. Arora and his family members of the nature of hotel, medical and travelling expenses had also been debited to the accounts of the company. Accordingly, the AO asked the assessee to file an affidavit stating that except for those personal expenses which had specifically been detected by the AO, no other expenditure of the nature of personal expenses of Sri K. K. Arora and/or his family members had actually been debited to the book of accounts of the assessee. It appears that no affidavit was filed by the company at any stage. However, the company did not object to disallowance of such personal expenses at the same time opposing any ad hoe disallowance under the head.
The AO also asked the company to produce the expenses report of Sri K. K. Arora. He states that although most of such expenses reports were furnished but the compliance was not full. He referred to certain periods of omission like from April 1st to 17th of 1985, April 20th to 30th of 1985, July 1985, September 1985 etc., in respect of which such expenses reports were not furnished before him. He furthermore found out that the total amount of Rs. 12,915 claimed towards expenses incurred in connection with travel of Sri K. K. Arora to London and Geneva was not vouched. The Assessing Officer was also able to find out from an examination of the materials received by him from the company that certain other personal expenses and also entertaining expenses of Sri Arora like cost of drink and food etc., on various dates, medical expenses in respect of the family members of Sri Arora etc., had also been debited to the accounts of the company. The Assessing Officer discusses thereafter that when such personal expenses were clearly detectable for some of the periods, similar personal expenses must have been debited to the accounts of the company during other periods also for which the details had not been furnished to him. He referred to a decision of the Supreme Court in the case of CST v. H. M. Esufali H. M. Abdulali [1973] 90 ITR 271 and drew the inference that he was at liberty to make a judicious estimation of the total amount of similar personal expenses having been debited during other periods. Finally, he made an ad hoc disallowance of Rs. 10,00,000 out of the travelling expenses.
15. In the first appeal, the learned CIT(A) also discusses the facts of the case in detail. He also found out that the major chunk of the expenses towards travelling of the company related to its marketing and field personnel. He furthermore discussed that the company was required to employ nearly 500 field personnel who were required to travel all over the country. He furthermore remarked that the disallowance of Rs. 2,78,669 offered by the assessee under Rule 6D as per the audit report, was not on account of inclusion of personal expenses but because of the provisions of Rule 6D as such. He therefore held that inasmuch as proper vouchers and details were not available in respect of the expenses, there was a case for disallowing certain portions of the huge amount of expenses as claimed by the assessee. At the same time again, he also held that the disallowance as made by the Assessing Officer was rather on the higher side. He limited the disallowance to Rs. 2.50 lakhs only.
16. Before us, Sri Dastur has strongly argued that the above mentioned judgment of the Supreme Court in the case of H. M. Esufali H. M. Abdulali (supra) related to a case of estimation of the turnover of the business by rejecting the book of accounts. He argued that in the instant case, the book of accounts have not at all been rejected. He also stated that while computing the amount of disallowance under Rule 6D, the entire travelling expenses had actually been taken into consideration. He also argued that the instances of inclusion of personal expenses of the Managing Director and his family members were rather far and few between and there is no case for making any generalisation on the issue and thereby resorting to a lump sum disallowance in a big manner.
17. We find some substance in the arguments of Sri Dastur. Since this is a case of disallowance out of expenses claimed by the assessee, it is for the Dept., to show that certain amount of disallowable items like personal expenses etc., are actually included in such expenses. At the same time again, the onus lies on the assessee to file full details of the expenses claimed by it and also to satisfy the Assessing Officer that besides what have already been detected, no other personal expenses are actually included in the total expenses claimed. It is required to be remembered in this connection that the assessee has not filed such details, that some of the expenses have been found out by the Assessing Officer to be clearly of unvouched nature and on the top of it the assessee has refused to file an affidavit stating that no other amount of disallowable expenses is included. This dithering on the part of the assessee clearly shows that all is not well at the end of the assessee and that the assessee is not prepared to make a clean breast of its affairs relating to this issue. We are therefore of the opinion that looking to the huge amount of expenses claimed under this head and taking into consideration the fact that a number of instances of inclusion of personal expenses of the Managing Director and his family members has been found out, it is quite likely that similar disallowable items of expenses are also included in those portions of expenses for which the details have not been filed. At the same time again, looking to the fact that the company is required to maintain a huge contingent of staff for carrying on its business and thereby to incur considerable amounts of travelling expenses, we would hold that the ends of justice would be met if the disallowance is ultimately sustained at Rs. 1 lakh. We therefore partially modify the order of CIT(A) and sustain the disallowance under this head at Rs. 1 lakh only.
18. In ground No. 6, the Assessing Officer challenges the order of the CIT(A) in sustaining the disallowance of Rs. 49,075 towards cost of air travel incurred in respect of the wife of the President of the company. Actually it is not the case of the wife of the President of the company but of its Managing Director Sri K. K. Arora. The Assessing Officer found from a study of the details of the foreign travel that Smt. S. Arora had accompanied her husband Shri K. K. Arora in the month of May 1985 during his visit to England and USA. Expenditure of Rs. 98,151 was incurred towards cost of travel of both the persons and an amount of US Dollars 5625 was consumed by way of foreign exchange. The Assessing Officer proposed to disallow the expenses relating to the wife of the Managing Director as unconnected with the business of the assessee. The assessee however came up with the plea that the parent company i.e. M/s. Eskay Lab, USA had cleared the trip of the Managing Director as well as of his wife. The Assessing Officer however states that any communication relating to such travel was however not placed on his record. Accordingly he relied on a judgment of the Madras High Court in the case of CIT v. T. S. Hajee Moosa & Co. [1985] 153 ITR 422/22 Taxman 250 and disallowed Rs. 49,075 incurred by the assessee as expenses towards ticket of Smt. Arora and a further amount of Rs. 32,380 out of the expenses on foreign exchange.
In the first appeal, the CIT(A) held that so far as the lodging and boarding expenses of Smt. Arora were concerned, she could have shared the room and food with her husband and hence there was no case for making separate disallowance on this account. Hence, he deleted the disallowance of Rs. 32,280. At the same time again, he sustained the disallowance of Rs. 49,075 towards air ticket of Smt. Arora. During the course of the further appeal before us, Sri Dastur has drawn our attention to a communication dated 21-5-1990 of M/s. Smith Kline Beecham Pharmaceuticals, USA, addressed to the Board of Directors of the assessee company inviting the wife of the Managing Director also and stating that it would be conducive to the development of a Eskayef business for Mrs. S. Arora to accompany Mr. Arora, Sri Dastur has also relied on the following two decisions of ITAT to argue that in the present day global business climate it is necessary for the wives of the highest officials of companies to accompany their husbands during their foreign trips, which has got an effect not only on the business affairs of the company but also takes care of social aspect.
(i) ITO v. E. F. Farguson & Co. [1986] 19 ITD 620 (Bom.).
(ii) Glaxo Laboratories (India) Ltd. v. Second ITO [1986] 18 ITD 226 (Bom.)(SB).
In the last named case, the ITAT, Special Bench, Bombay held as below :-
"In the modern age, and more so in the western countries, the senior executives are as a matter of social custom accompanied by their wives when they visit, though for business purposes, has necessarily some social aspects also. Under these circumstances, the impugned it, expenditure was an allowable expenditure".
On the other hand, the learned DR besides relying on the aforesaid judgment of the Madras High Court in the case of T. S. Hajee Moosa & Co. (supra) has furthermore relied on following two decisions of Gujarat High Court also.
(i) Bombay Mineral Supply Co. (P.) Ltd v. CIT [1985] 153 ITR 437/23 Taxman 549.
(ii) CIT v. Shahibag Entrepreneurs (P.) Ltd. [1995] 215 ITR 810.
In the above mentioned three cases cited by the Dept., the Madras and the Gujarat High Court had the occasion to consider the allowability of travelling expenses of wives of senior executives of companies etc. The Madras High Court held in the case of T. S. Hajee Moosa & Co. (supra) that even assuming that the expenditure (relating to the wife) had a business connection, it had a dual or twin purpose and served not only purposes of business but also a personal or private purpose and as the expenditure did not exclusively serve the business, it will not qualify for deduction under section 37(1) of the Income-tax Act, 1961. Similar view was also expressed by the Gujarat High Court in the case of Bombay Mineral Supply Co. (P.) Ltd. (supra). The Gujarat High Court in the case of Shahibag Entrepreneurs (P.) Ltd. (supra), also considered the issue from the point of view of whether the expenses relating to foreign tour of the wife of the senior executive of the company could be considered to have "exclusively" been incurred for the purpose of business of the company, and clearly came to the view that the expenses certainly did not have such exclusive connotation. Accordingly the Gujarat High Court held in that case that expenses of this nature are not allowable.
We feel that these three decisions of two different High Courts including the latest of Gujarat High Court in the case of Shahibag Entrepreneurs (P.) Ltd (supra), should hold the field in preference to the aforesaid two orders of ITAT. Hence, we uphold the decision of the CIT(A) in the instant case in disallowing the cost of air ticket of the wife of the Managing Director of the assessee company.
19. In ground No. 7, the assessee contends that the surtax paid is an allowable deduction while computing the business income of the assessee. This issue has clearly been decided by the Supreme Court against the claim of the assessee in the case of Smith Kline & French (India) Ltd. v. CIT [1996] 219 ITR 581/85 Taxman 683. Following the said decision, therefore, we uphold the actions of the lower authorities in not entertaining the claim of the assessee towards allowance of the surtax liability.
20. Grounds No. 8 to 13 are directed against the enhancement of Rs. 1,72,550 made by the CIT(A) in his appellate order over what had already been assessed. There are various aspects of this issue, each of which is of complicated nature. Before adverting to the issues, we will first of all discuss the facts relating to the enhancement, rather in a nut-shell.
A search & seizure proceeding was conducted by the Dept., in the premises of the assessee company on 24-2-1989. It appears that certain credit notes and also some other materials were detected during the course of the said proceedings. The CIT(A) discusses in this connection that on perusal of some of the seized materials, it was found that some commission income had accrued to the assessee which was however not reflected in its books during the year under consideration. The assessee company is an associate of a multinational company viz, M/s. Smith Kline Beckman Corporation. One of the associate companies viz., M/s. Beckman Instruments International Associates (to be denoted hereafter as BIISA) of Switzerland is in the business of manufacture and sale of high-tech instruments used in research laboratories and hospitals. During the late part of the year 1985, the assessee company entered into an arrangement with BIISA under which it took up the responsibilities of selling the products of BIISA in India. According to the assessee, it is entitled to a commission of 10% of the value of the order booked by it in respect of the products of BIISA in India. The Dept. however holds that payment of a further amount of 10% of the value of the order is secretly being made by BIISA to the parent company/associated companies of the said parent company at Philadelphia, USA, on the same sales, thus taking up the actual commission paid on the services being rendered by the assessee company to 20% of the value of the orders. It is the claim of the assessee that no formal deed of agreement was entered into between BIISA and the assessee company in respect of this particular arrangement of the assessee acting as the selling agent of BIISA in India. Towards the end of the accounting period corresponding to assessment year 1986-87, the following three credit notes were raised by BIISA in favour of the assessee as below.
Date of Credit Note Amount of Commission credited
to assessee (in US $)
23-10-1985 31.10
13-11-1985 18.13
29-11-1985 6880.50
--------
6929.73
--------
The rupee equivalent of the above Dollar amount as at the relevant time was Rs. 86,275.
The CIT(A) issued a letter dated 27-2-1990 purporting to be a notice of enhancement, to the assessee asking it to explain the facts relating to why the above mentioned amount of 6930 US $ equivalent to Rs. 86,275 earned by the assessee during the relevant year was not offered for tax in that year and why the same amount along with a further amount of commission of 10% calculated at US $ 6930, paid by BIISA to the parent company/associate of the assessee at USA during the relevant period and later on repatriated to the assessee in India on 27-3-1989, should not be assessed in the hands of the assessee in the assessment year 1986-87. The value of the latter amount of US $ 6930 at the rate of exchange prevailing on 27-3-1989 was considered by the CIT(A) to be Rs. 1,07,276. The assessee replied by a letter dated 5-3-1990 that the commission income in respect of its selling arrangement with BIISA was being accounted for by it under the cash system. In the said letter, the assessee mentioned its two earlier letters dated 17-3-1989 and 14-8-1989 alleged to have been addressed to the Assessing Officer intimating that it was maintaining cash system of accounting in respect of the commission income under consideration. The assessee furthermore stated that the amount of US $ 6930 was actually received by it after 30-11-1985 and accordingly the same alongwith all other commission receipts were being shown by it in its accounts and also returned for tax purpose in assessment years 1987-88 and 1988-89. The assessee also raised a legal objection to the proposed enhancement on the ground that the Assessing Officer had not examined the point of taxability of commission income in this year. The CIT(A) asked for comments from the Assessing Officer, who vide his letter dated 6-3-1990 stated that the assessee had not chosen to adopt the cash system of accounting so far as the commission receipt was concerned. In support of the said contention, certain reasonings were provided by the Assessing Officer. In the said communication, the Assessing Officer stated that in a reply dated 30-1-1989 submitted by the assessee in response to an earlier communication of the Assessing Officer dated 21-2-1989, the assessee had stated as below :
"We have not earned any commission from BIISA for the year ended November 30, 1985 relevant to assessment year 1986-87".
The Assessing Officer also replied that at the stage of assessment, the matter had already been considered by the Assessing Officer who had left a note to the effect that during the year under consideration, the assessee had not received the commission from BIISA and accordingly there was no diversion of commission to Philadelphia and furthermore that hence no addition was being made as per the statement of the assessee.
The CIT(A) thereafter discusses in detail that actually no letter dated 17-3-1989 as alleged by the assessee, was ever filed by it with the Assessing Officer. In support of this contention, the CIT(A) discusses certain sequences of facts like a spot inquiry directed by him to the Assessing Officer to conduct and the results of such inquiry including depositions taken from certain employees of the assessee company which led to the inference that actually the so-called letter dated 17-3-1989 had been dictated by the Managing Director of the assessee company in March, 1990 and was also signed by an employee of the assessee company viz, Sri Venkatesan on 5-3-1990 only.
21. The CIT(A) held that after careful consideration of the submission of the assessee, he was of the view that as regards commission earned on sale of the products of BIISA, the assessee was actually following mercantile system of accounting. In this connection, the CIT(A) referred to the answer given by the assessee to the query raised by the Assessing Officer at the assessment stage to the effect that during the year under consideration, the assessee had not earned any commission. The CIT(A) also emphasised on the suspicious circumstances about the alleged filing of the letter dated 17-3-1989 by the assessee to the Assessing Officer claiming that it was following cash system of accounting in respect of the commission income. The CIT(A) clearly came to the conclusion that the evidence in this regard was fabricated by the assessee with a view to mislead the Dept. The CIT(A) also referred to page No. 281 in file No. S.K.F./A.2 of the seized materials which is actually a telex message received by the assessee from BIISA. The CIT(A) extracted one portion of the said telex message, as follows :-
"As usual, commission will be accrued at the time of booking and payable upon shipment of the order".
The CIT (A) also noted that at page 289 of the same seized file, exactly similar communication was made by BIISA to the assessee. The CIT (A) thereafter discussed that it was clear from the above telex messages received by the assessee from BIISA that commission actually accrued at the time of booking of the order by the assessee company and became payable on actual shipment of the order. He held that in the circumstances, the assessee company was not right in coming up with the plea that it followed cash system of accounting and that commission income would accrue to it only at the time of repatriation of the same in India by BIISA. The CIT (A) also mentioned that the various statements recorded at the time of the search from different employees of the assessee under section 132(4) of the Income-tax Act, would show that this plea of cash system of accounting was being taken up by the assessee primarily to evade various consequences arising out of the diversion of 10% of the commission income outside India. The CIT (A) discussed that if the assessee was allowed to follow cash system of accounting, the diversion would not amount to concealment as the assessee would take up the plea that as soon as the diverted money was received back in India, the same was offered for tax in assessment year 1989-90. The CIT (A) also discussed that the plea of cash system of accounting was contrary to what had been stated by the Managing Director of assessee via, Sri K. K. Arora in his statement under section 132(4) recorded on 16-3-1989. In response to question No. 1, Sri Arora had replied that he would file revised returns for assessment years 1987-88 and 1988-89 before 15-3-1989 declaring the undisclosed income diverted to Phildelphia and also would pay the advance tax thereon before 15-3-1989. The CIT (A) furthermore discussed that Sri Arora had actually agreed to disclose the additional income of Rs. 1,22,16,506 on this account for assessment years 1987-88 and 1989-90. He also discussed that if the plea of cash system of accounting be accepted, the entire income would fall in the assessment year 1989-90 and that would be contrary to the facts as obtained and also the specific submissions made by the Managing Director in his deposition under section 132(4). The CIT(A) furthermore discussed that in the absence of a written agreement with BIISA, the rectial in the telex message to the effect that commission will be accrued at the time of booking, actually clinches the issue. The CIT(A) thus held that the moment the assessee books the order with BIISA, commission would accrue to it under the mercantile system.
22. The CIT(A) thereafter discussed that no submission had been made before him objecting to the proposed taxability of the further commission amount of 10% diverted to Philadelphia. He also discussed that this issue had already become final as per the statement of Sri K. K. Arora recorded on 16-3-1989. He finally held that under the mercantile system, the diverted commission amount will also have to be taxed in the year in which the normal commission is being taxed. Regarding the other issue as to whether the diverted commission amount will have to be converted into Indian rupee terms at the exchange rate prevailing on 27-3-1989, the CIT(A) held that so far as assessment year 1986-87 is concerned, the value of the diverted commission in rupee term would have to be taken exactly at the same amount at which the normal commission received in India is being considered. The further increase on account of exchange rate variation was directed by the CIT(A) to be considered in assessment year 1989-90 alone. Ultimately, the CIT(A) enhanced the income by an amount of Rs. 1,72,550, comprising of two amounts of Rs. 86,275 each.
23. In the different grounds of appeal taken up in this regard, and also in the course of Sri Dastur's arguments before us, the enhancement has been challenged from different angles. Firstly, the jurisdiction of the CIT(A) to make the enhancement in the circumstances of the present case is strongly being challenged. The assessee thereafter contends that in any case since the assessee maintains its accounts with regard to earning of commission from BIISA on cash basis and inasmuch as it is an undisputed fact that no commission was actually received by the assessee during the relevant previous year, there cannot be any question of assessing the commission receipt in this year. An alternative argument has been put forward that even if it be taken that the commission is to be accounted for under the mercantile system, in that case also it could be seen that the major portion of the commission income did not actually accrue to the assessee in this year. Lastly it has strongly been contended that there is no case for coming to the conclusion that besides receipt of commission in India at 10%, there was any other amount receivable by the assessee and in that way, the question of charing to tax the further amount of 10% cannot raise at all.
24. While taking up the matter from the point of view of the jurisdiction of the CIT(A) to make the enhancement in the instant case, Sri Dastur has strongly contended that although it is a fact that the Assessing Officer had raised a query about the assessability of commission income on the dealings of the assessee with BIISA, the matter was not at all examined in detail and the assessee had also not provided elaborate materials to the Assessing Officer regarding date vase issue of credit notes during the course of the assessment proceeding for assessment year 1986-87. It is thus argued by Sri Dastur that the mention of the amount of US $ 6930 in the enhancement notice dated 27-2-1990 as issued by the CIT(A), cannot be from the assessment records for assessment year 1986-87. He states in this connection that the CIT(A) might have been in possession of the relevant materials from the assessment records for the next year i.e., assessment year 1987-88. In this connection, Sri Dastur strongly contended that the assessee does not have any knowledge about from where the CIT(A) got the information about the existence of the two telex messages. Although the learned DR states in this connection that the telex messages form part of the seized materials, Sri Dastur challenges the said contention by stating that there is no authenticity of the said so called telex messages.
Sri Dastur thereafter states that the learned CIT(A) must have embarked upon the task of initiating the enhancement proceedings on the basis of certain communications received from the Assessing Officer. Initially, there was dithering on the part of the learned DR to produce the copies of two communications of the Assessing Officer dated 22-2-1990 and 6-3-1990 addressed to the CIT(A), requesting him to make the enhancement. At this stage, Sri Dastur relied on two decisions to contend that if the Dept., does not disclose the materials which it wants to utilise for making assessment/enhancement, the entire proceeding would become invalid. Sri Dastur firstly relied on a judgment of the Supreme Court in the case of Suraj Mall Mohta & Co v. A. V. Visvanatha Sastri [1954] 26 ITR 1 at page 13 in which case the Supreme Court held that inasmuch as there were provisions in sub-section (4) of section 5 of the Taxation on Income (investigation Commission) Act, 1947, and the procedure prescribed by that Act to the effect that the materials tried to be relied upon by the Dept., in the course of investigations being carried on by it under the said provisions of that Act need not be divulged to the assessee, this constituted a piece of discriminatory legislation, offending against the provisions of Article 14 of the Constitution of India and is therefore void and unenforceable. Thereafter Sri Dastur also places reliance on a judgment of the Kerala High Court in the case of Veeriah Reddiar v. ITO [1964]52 ITR 292 at pages 306 and 310 holding that there is an obligation on the part of the Income-tax Officer to make available to the assessee and the court, the materials on the basis of which he claims to have come to the conclusion that there has been a non-disclosure of material facts by the assessee, which resulted in income escaping assessment or being under assessed.
At this stage, the learned DR produced copies of the above mentioned two letters of the Assessing Officer addressed to the CIT(A). Copies of such letters were directed to be provided to the assessee also. On perusal of these two letters, Sri Dastur has raised a point that the letter dated 22-2-1990 clearly states that M/s. Systrionex Limited, Ahmedabad was getting a commission at the rate of 25% on sale of products of BIISA in India in November 1985. Sri Dastur points out that if the Assessing Officer was so definite about the another concern getting commission on the sale of products from the same company till the end of the relevant accounting year, how could the assessee have got any commission on the same transactions during the relevant period. Sri Dastur furthermore pointed out that in the letter dated 5-3-1990, the Assessing Officer requested the CIT(A) not to pass any appellate order if he had any doubt about causing the enhancement and furthermore stated that he (Assessing Officer) would get the assessment revised by the CIT himself. Sri Dastur thus contends that the Assessing Officer himself had not much confidence about the reasonability of the enhancement. We will discuss this particular aspects later on. Any way, we feel that these objections raised by Sri Dastur are of rather petty nature.
Sri Dastur places his main argument against the power of enhancement on the part of the CIT(A) by relying on a judgment of the Supreme Court in the case of CIT v. Rai Bahadur Hardutroy Motilal Chamaria [1967] 66 ITR 443 at page 450. In that particular case, while dealing with the limitation of the power of enhancement of Appellate Assistant Commissioner in terms of the provisions of section 31(3) of the Income-tax Act, 1922, the Supreme Court (in a judgment delivered by three judges) held that the AAC has no jurisdiction under section 31(3) of the Income-tax Act, 1922, to assessee a source of income which is not disclosed either in the returns filed by the assessee or in the assessment order. The Supreme Court furthermore held that it is not therefore open to the AAC to travel outside the record i.e., the return made by the assessee or the assessment order of the ITO, with a view to finding out new source of income and the power of enhancement under section 31(3) is restricted to the source of income which have been the subject-matter of consideration by the ITO from the point of view of taxability. The Supreme Court went on discussing that in this context, "consideration" does not mean "incidental" or "collateral" examination of any material by the ITO in the process of assessment, but that there must be something in the assessment order to show that the ITO had applied his mind to the particular subject-matter or the particular source of income with a view to judging its taxability or to its non-taxability and not to any incidental connection. Thereafter Sri Dastur drew our attention to the fact that in the case of Sterling Construction & Trading Co. v. ITO [1975] 99 ITR 236, the Karnataka High Court had the occasion to examine the question of power of the AAC to cause enhancement under the Indian Income-tax Act, 1961 and held (at page 243) that although the Supreme Court had addressed the issue in the case of Rai Bahadur Hardutroy Motilal Chamaria (supra) by considering the construction of section 31 of the 1922 Act, the position in law had not altered under the 1961 Act as the language of the relevant provisions in both the Acts was almost the same. Sri Dastur also brought it to our notice that ITAT, Bangalore Bench had also held exactly in the same line in the case of K. S. Dattathreya v. Asstt. CIT [1994] 50 ITD 481 at page 493.
Sri Dastur contended thereafter that so far as the instant case is concerned, the assessee did not return any income by way of commission business from BIISA in its return of income or any accompanying statements for the relevant year and the Assessing Officer also did not make any mention of this particular source of income in the assessment order. Sri Dastur thus contended that by following the aforesaid judgment of the Supreme Court in the case of Rai Bahadur Hardutroy Motilal Chamaria (supra), it must be held that the CIT(A) did not have any power of enhancement in this case.
Thereafter, Sri Dastur himself discussed a later judgment of the Supreme Court in the case of CIT v. Nirbheram Daluram [1997] 224 ITR 610/91 Taxman 181. In this particular judgment however, the Supreme Court (a bench consisting of two judges) held that the appellate powers conferred on the AAC under section 251 of the Act were not confined to the matters considered by the ITO, and hence even if it were held that the sum of Rs. 2,30,000 added by the AAC related to new source of income not considered by the ITO, the AAC could not be held to have exceeded his jurisdiction in making the addition of Rs. 2,30,000 on the basis of the other ten items of hundis which had not been explained by the respondent firm.
It may be mentioned in this connection that these ten items of hundis had neither been shown by the assessee in its return nor even considered by the ITO in the assessment order. Sri Dastur argued in this connection that the above judgment was given by the Supreme Court solely by following its earlier judgment in the case of Jute Corpn. of India Ltd. v. CIT [1991] 187 ITR 688/[1990] 53 Taxman 85 at pages 692 & 693. Sri Dastur brought in to our notice that in the case of Jute Corpn. of India Ltd. (supra), the Supreme Court was engaged in the consideration of whether the appellate authority while hearing the appeal against the order of a sub-ordinate authority could allow either of the parties to raise a completely new ground which was not there before the ITO at all. Sri Dastur argues in this connection that inasmuch as the Supreme Court did not at all decide the issue relating to the power of enhancement of AAC in the case of Jute Corpn. of India Ltd. (supra) and since in the case of Nirbheram Daluram (supra) the Supreme Court arrived at a decision with regard to the power of enhancement of AAC simply by following the earlier decision in case of Jute Corpn. of India Ltd. (supra) without noticing that there existed a clear decision of the Supreme Court on the relevant issue itself in the case of Rai Bhadur Hardutroy Motilal Chamaria (supra), the decision of the Supreme Court in the case of Nirbheram Daluram (supra) has got to be considered to be per incuriam.
Sri Dastur furthermore argued that in any case, the judgment of the Supreme Court in Rai Bhadur Hardutroy Motilal Chamaria's case (supra), had been delivered by three Judges, where as the contrary judgment in the case of Nirbheram Daluram (supra) was delivered by bench of two judges only, and hence even the earlier judgment delivered by the bench of higher constitution has got to be accepted in preference to a judgment delivered by a bench of lower constitution. In support of this proposition Sri Dastur firstly relied on a judgment of the Supreme Court in the case of Union of India v. Raghubir Singh [1989] 178 ITR 548 at page 567 (last five lines). In that particular case, the Hon'ble judges of the Supreme Court constituting a bench of five judges discussed that the judgment by a Division Bench of a larger number of judges would prevail over the judgment delivered by a Division Bench of a smaller number of judges. In this connection, reliance was also placed by Sri Dastur on a judgment of the Patna High Court in the case of CIT v. Sri Ram Agrawal [1986] 161 ITR 302/28 Taxman 81 at page 309. In that case, the Patna High Court held as below :-
"The observations in State Bank of Travancore v. CIT [1986] 158 ITR 102 (SC) made by Sabyasehi Mukharje J. to the effect that the circulars being executive in character cannot alter the provisions of the Act run counter to the observations of Gajendragadkar, C.J. in the case of Navnitlal C. Javeri [1965] 56 ITR 198 (SC). The latter being judgment of five judges and the former of three judges, I am bound to follow the case of Navnitlal C. Javeri [1965] 56 ITR 1989 (SC)"
Sri Dastur referred to a decision of Mysore High Court in the case of P. Vasudeva Setty v. CIT [1967] 65 ITR 172 at pages 176 and 177. In that case, the Hon'ble judges of the Mysore High Court had referred to another judgment of the Supreme Court in the case of CIT v. Shapoorji Pallonji Mistry [1962] 44 ITR 891 (also a judgment delivered by a bench constituted by three judges) and held that the power of enhancement of the AAC can properly be exercised only in respect of the source actually considered by the original assessing authority. It may be mentioned in this connection that while delivering the judgment in the case of Rai Bhadur Hardutroy Motilal Chamaria (supra), the Hon'ble Judges of the Supreme Court had decided to follow the above mentioned earlier judgment of the Supreme Court in the case of Shapoorji Pallonji Mistry (supra).
On the other hand, the learned DR, during the course of his argument before us has firstly tried to rely on a judgment of the Bombay High Court in the case of Narrondas Manordass v. CIT [1957] 31 ITR 909. In this particular case, the Bombay High Court had held that the power of AAC was not confirmed to the matter in respect of which the assessee had appealed but that he had power to revise the whole process of assessment once an appeal had been preferred, and the order remanding the case was not invalid in law. It has got to be stated in this connection that this particular judgment was delivered by the Bombay High Court prior to passing of the judgments by the Supreme Court in the case of Rai Bahadur Hardutroy Motilal Chamaria (supra) and even in the case of Shapoorji Pallonji Mistry (supra). So far as therefore this judgment is concerned, it is not in conformity with the ratio-decidendi laid down by the Supreme Court on the relevant issue in its above mentioned two judgments, and it has got to be held as not stating a good law. Again, although the learned DR argues that this judgment was approved by the Supreme Court in the case of CIT v. McMillan & Co. [1958] 33 ITR 182, we find that the said approval was with regard to the method of accounting adopted by the assessee and not in respect of the point at issue before us now.
Thereafter the learned DR has relied on a judgment of the Supreme Court in the case of Nirbheram Daluram (supra) which itself is based on another judgment of the Supreme Court in the case of Jute Corpn. of India Ltd. (supra). We have already referred to both these judgments. The DR has also tried to place reliance on another judgment of the Supreme Court in the case of National Thermal Power Co. Ltd. v. CIT [1998] 229 ITR 383/97 Taxman 358. We however find that this particular judgment of the Supreme Court concerns the power of the appellate authorities to allow fresh questions of law to be raised at the stage of appeal before it, for the first time. This judgment of the Supreme Court has got nothing to do with the power of enhancement of the first appellate authority.
25. The learned DR thereafter argues that the matter relating to earning of commission by the assessee on sale of products of BIISA was duty taken note of by the Assessing Officer during the course of the assessment proceedings itself. It is pointed out that at para 9 of his letter dated 30-1-1989 addressed to the assessee, the Assessing Officer had asked the assessee to give details of the total value of Beckmen Instruments sold by the assessee including the commission earned during the year along with the percentage and copy of the agreement for same. In response to the said communication, the assessee replied by its letter dated 21-2-1989 as below :-
"We have not earned any commission from Beckmen Instruments for the year ended November 30, 1985 relevant to assessment year 1986-87".
The learned DR points out thereafter that the Assessing Officer left a detailed office note appended to the assessment order, the first para of which read as below :-
"During the year under consideration, the assessee has not received commission from Beckmen Instruments. Accordingly, there is no diversion of commission to Philadelphia. Therefore no addition is being made as per assessee's statement".
The learned DR strongly argues in this connection that this note forms a part of the assessment order and hence it has got to be said that the source of income under consideration i.e., commission from BIISA is not a source discovered by the CIT(A) all of a sudden but that it already existed and was also duly considered by the Assessing Officer at the time of assessment. In this connection, the learned DR strongly relies on a judgment of the Madhya Pradesh High Court in the case of Dr. (Mrs) Bimla Gulati v. AAC [1987] 165 ITR 296 in support of his contention that the office notice can be considered to be a part of the assessment order and the CIT(A) would be having power of enhancement with regard to a subject-matter mentioned in the office note. The facts of this particular case are that for the assessment year 1980-81 Dr. (Mrs.) Bimla Gulati filed a return showing a total income of Rs. 25,305 out of which the income from her medical profession was shown at Rs. 24,000. The ITO however estimated the income and completed the assessment. The AAC issued a notice of enhancement under section 251(1)(a) of the Income-tax Act, 1961 asking the assessee to show cause why the income arising in the name of a nursing home be not included in her income. The assessee challenged the said notice by filing a writ petition before the Madhya Pradesh High Court. The High Court however found out that the assessee had been required by the ITO to show cause why the income from the nursing home should not be treated as her individual income and the assessee had also filed a reply stating that the income from the nursing home could not be treated as an individual income. Thereafter, the ITO in his order of assessment passed later the same day, had appended a note to the effect that it was difficult to hold that the income from the nursing home really belonged to the assessee as an individual and hence the same was not being included in her individual income. The Madhya Pradesh High Court held that the note of the ITO formed the part of the assessment order as the ordinary presumption was that all official acts were properly done. The High Court thus held that the AAC had the jurisdiction under section 251(1)(a) to issue the notice.
In this connection, the learned DR has tried to rely on another judgment of the Madhya Pradesh High Court - Indore Bench in the case of Indermal Natwarlal v. CIT [1987] 166 ITR 494. In that particular case also, the Madhya Pradesh High Court held that the powers of the AAC in deciding an appeal under section 251 of the Income-tax Act, 1961 are wide enough to include the power of examination of matters covered by the assessment order and even to correct the assessment in respect of such matters to the prejudice of the assessee. We however find that this particular judgment of the Madhya Pradesh High Court is a very short one and no notice was taken in this judgment of the various decisions of the Supreme Court on the relevant issue.
The learned DR also places reliance on a judgment of the Kerala High Court in the case of Popular Automobiles v. CIT [1991] 187 ITR 86. It was decided in that particular case in relation to the power of enhancement of the CIT(A) that the ITO can bring to the notice of the CIT(A) any omission in assessment and request him to consider enhancement of assessment. On account of failure on the part of the CIT(A) to consider the ITO's request, Revenue certainly gets prejudiced and hence ITO can appeal to the Tribunal against the action of the CIT(A) in non-considering his request of enhancement. Our special attention has been brought to the discussions made by the Kerala High Court in the aforesaid case to the effect that a compellable statutory duty is imposed upon the CIT(A) to exercise this jurisdiction either suo-motu or on motion by the assessing authority to examine whether the assessment made is justified and proper and if it is pointed out by the assessing authority that a lapse or omission has occurred in making the assessment, it is the duty of the CIT(A) to advert to the same and dispose of the matter in accordance with the law.
The learned DR has also strongly contended in this connection that once the CIT(A) is seized of jurisdiction to make enhancement, he could take into consideration even subsequent events to arrive at the actual quantum of enhancement to be made. In this connection a judgment of the Supreme Court in the case of Pasupuleti Venkateswarlu v. Motor & General Traders AIR 1975 SC 1409, has been relied upon. In that particular case, it was held that in a proceeding under Rent Control Act by landlord for permission to evict tenant, subsequent event disabling the landlord from seeking eviction is to be taken note of by the High Court in deciding the issue. The learned DR thus argues that in the instant case, it was completely within the jurisdiction of the CIT(A) to have considered the matters arising out of the assessment proceedings in assessment year 1987-88 during the course of which seized materials were duly examined by the Assessing Officer. The DR furthermore argues in this connection that the assessee had furnished details of expenditure relating to Instrument Division (pertaining to the commission business) and also debited the same to the profit & loss a/c and therefore it must be stated that the source of income under consideration had already been noted and considered by the Assessing Officer during the course of the assessment proceeding itself and there is no case of the CIT(A) discovering a new source of income.
26. During the course of his reply to the arguments put forward by the learned DR, Sri Dastur has first of all brought it to our notice that the DR has not at all made any point as to whether a decision of the Supreme Court Bench constituted by three judges would be acceptable in preference to another decision constituted by two judges. Sri Dastur also tried to argue that the so called office note was not a contemporaneous one but it is evident that the same was added after the assessment order had already been passed by the Assessing Officer. He tried to find out certain differences in the typed characters of some of the alphabets like "g" in the office note as compared to the same appearing in the main body of the assessment order under consideration. Certain minor discrepancies in this regard have also been pointed out by Sri Dastur. He strongly contends that in view of these factual positions, the office note could not have formed a part of the assessment order itself. The DR, on the other hand has produced a copy of the tax calculation memo which also forms part of the assessment order, to show that the same typed character where there in the tax calculation memo also as in the office note. The DR thus contends that it might be that the office note along with the tax calculation memo was typed in a different typewriter machine but there cannot be any reason to conclude that they do not form a part of the assessment order itself.
Sri Dastur also tries to argue in this connection that item No. 5 in the office note regarding issue of show cause notice for the assessee not having complied with the provisions of section 194C, was not complied with by the office staff. He tries to prove thereby that the office note was not at all contemporaneous. We are however unimpressed with these arguments of Sri Dastur trying to find out minor faults and discrepancies in the office note. We are of the opinion that the office note along with the tax calculation memo form nothing but the part of the assessment order itself. It may be that the office staff did not comply with some of the instructions of the Assessing Officer. But that by itself cannot lead to the conclusion that the office note was non-genuine. Furthermore when the office note and the assessment order bear the same date, we must conclude that the office note must also have been prepared and signed by the Assessing Officer during the ordinary course of his business i.e., at the time of passing the assessment order itself, especially when there are no compelling evidences to the contrary.
27. We fully agree with Sri Dastur that the judgment of the Supreme Court in the case of Rai Bahadur Hardutroy Motilal Chamaria (supra) being one passed by a bench of three judges has got to be followed in preference to that passed by a bench of two judges in the case of Nirbheram Daluram (supra). It is also found that the Karnataka High Court held in the case of Sterling Construction & Trading Co. (supra) that there is no material difference in the position of law so far as the power of enhancement of the AAC is concerned between section 31 of 1922 Act and section 251 of 1961 Act. We however find one thing in this connection that while passing this particular judgment, the Hon'ble judges of the Karnataka High Court took into consideration only the main provisions of section 251(1)(a). It appears that the Explanation to section 251 which reads as below was not taken into consideration by the Karnataka High Court in dealing with the above mentioned case.
"Explanation - in disposing of an appeal, the appellate Assistant Commissioner may consider and decide any Material arising out of the proceedings in which the order appealed against was passed notwithstanding that such matter was not raised before the appellate Assistant Commissioner by the appellant."
It may appear that in view of this particular Explanation, the powers of the AAC to make enhancement would extend to any matter arising out of the original assessment proceedings. However, it is also a fact that the Karnataka High Court held that the powers of enhancement of AAC under the 1961 Act must be considered to be the same as decided by the Supreme Court in the case of Rai Bahadur Hardutroy Motilal Chamaria (supra). We are bound by such decision of the jurisdictional High Court.
28. So far as however the facts of the present case are concerned, it is quite evident that the source of income under consideration viz., commission income from BIISA was not only within the knowledge of the Assessing Officer during the course of the assessment proceeding, but was also raised by him with the assessee and the assessee had also given some reply on this issue. We also hold, as has been discussed by us above, that the office note under consideration has got to be considered to be a contemporaneous one and also a part of the assessment order. In this connection, Sri Dastur has tried to argue that the question of the relevance of office note vis-a-vis the requirement of the assessment records mentioning the relevant source of income was duty considered by the Supreme Court in the case of Shapoorji Pallonji Mistry (supra) and furthermore that this particular judgment of the Supreme Court was not brought to the notice of the Madhya Pradesh High Court while dealing with the case relating to Dr. (Mrs.) Bimla Gulati (supra). It would be required of us to discuss the facts of the case of Shapoorji Pallonji Mistry (supra) in some what detail. That assessee had received on 20-7-1946, a sum of Rs. 40,000. In the proceeding for assessment year 1946-47, this came to the notice of the ITO. Since the receipt fell within the accounting year relating to the assessment year 1947-48, the ITO did not assess the amount, making a note "the question will however be considered again at the time of 1947-48 assessment". In the return filed in the assessment year 1947-48, this amount was not shown by the assessee. The ITO also over-looked the note at the end of his order in the back year assessment, with the result that this item was omitted. The assessee appealed to the AAC against his assessment for the year 1947-48. While the appeal was pending, the ITO wrote a letter to the AAC intimating him that he would like to be present, and also requesting him to assessee the amount of Rs. 40,000. The AAC, after issuing notice, assessed the amount and included it in the original assessment. In the proceeding that subsequently came before the Supreme Court, the Supreme Court did no find any special significance of the office note and considered that the matter was beyond the assessment records for the year under consideration. The Supreme Court finally held that the AAC did not have the power to enhance the assessment by discovering a new source of income not mentioned in the return of assessee nor even considered by the ITO in the order appealed against.
It is required to be noted that in this particular case, the office note had been left by the ITO in the assessment order for the earlier year. There was no office note for assessment year 1947-48 as such. The office-note for the earlier year cannot at all constitute a part of the assessment order for the later year. That is why, we are of the view, that it was held in that particular case that the matter tried to be traversed by the AAC was beyond the records of the relevant assessment year being not shown by the assessee in the return filed by it nor even considered by the ITO during the course of the assessment proceeding nor mentioned in the assessment order for the relevant year. So far as the present case is concerned, the office note was appended by the AO to the assessment order for this very year itself and we have already held that the office note should be considered to be forming a part of the assessment order. In this connection, we find enough support from the judgment of the Madhya Pradesh High Court in the case of Dr. (Mrs.) Bimla Gulati (supra) inasmuch as we do not find any authority contrary to the proposition laid down in that case. Hence, taking into consideration the facts of the case, we have got to conclude that so far as the instant case is concerned, the AO had taken care of the source of income by way of commission receipt from BIISA during the course of the assessment proceeding and also had made a mention of the same in the office-note appended to his order. The CIT(A) thus had jurisdiction to assume power of enhancement on the relevant issue. So far as however actual quantification of the enhancement is concerned, he was at liberty to take cue from subsequent events Re finding of materials against the assessee during the course of search and seizure proceeding and also information obtained by the AO during the course of the assessment proceeding for the subsequent year. Ultimately, we dismiss the appellate ground taken up by the assessee on the question of jurisdiction of the AAC to make enhancement in the instant case.
29. Thereafter, it is the contention of the assessee that so far as the commission income is concerned, it constitutes a completely separate business for the assessee. The assessee is stated to be normally engaged in the business of manufacture of pharmaceutical items. The business of selling the products of BIISA has got nothing to do with the normal business of the assessee and hence the said business, according to the assessee is required to be treated as a separate business and the source of income also as a separate source of income. It has been pointed out by Sri Dastur that the transaction relating to earning of commission stated taking place towards the last part of the accounting year corresponding to assessment year 1986-87 only viz., in the month of October' 85 for the first time. Sri Dastur argues that since beginning, so far as the commission earning is concerned, the assessee has been following cash system of accounting. He also contends that there are no specific identifiable expenses with regard to earning of commission. He strongly contends that it is upto the assessee for following a different system of accounting viz., cash system in respect of this new source of income viz., commission income. He says that various courts have held that in a suitable case the business man can even switch over from mercantile system to cash system during the course of continuation of the same business. He thus argues that so far as the present case is concerned, there cannot be any objection to the assessee following cash system of accounting relating to earning of commission. In support of this contention Sri Dastur has tried to place reliance on a host of decision to which we shall be referring shortly.
(1) S. Palaniandi Mudaliar & Sons v. CIT [1975] 99 ITR 231 (Mad.) - The Madras High Court held in that particular case that an assessee may employ one method of accounting for one part of his business or one class of customers and a different method for another part of his business or another class of customers. It was furthermore held therein that the assessee may also keep accounts in respect of different parts of the same business on different basis.
(2) Snow White Food Products Co. Ltd. v. CIT [1983] 141 ITR 847/[1982] 10 Taxman 37 (Cal.) at page 859 - The Calcutta High Court also held in this case that the assessee may choose to adopt the mercantile system for certain transactions and the cash basis for other transactions, but that once having chosen and regularly employed that system. It is not open to him unilaterally at any time during the accounting year to say that he will not follow that system in respect of a particular transaction.
(3) CIT v. Trophical Plantations Ltd. [1992] 196 ITR 755 (Ker.) at pages 760 and 761 - The Kerala High Court also held in this case that even though the assessee maintains accounts on mercantile basis, it is entitled to adopt a different method for one portion of its business or one class of accountable item.
(4) Eastern Bulk Services v. ITO [1983] 5 ITD 471 (Delhi) (SB) at page 476 - It was found by the ITAT in that case that the assessee was consistently following hybrid system of accounting under which it had accounted for commission income on receipt basis and expenditure on accrual basis. The ITAT held that having accepted such system for a number of years, the ITO could not change the system to accrual basis in later years, especially when real profits were ascertainable from the system adopted by the assessee.
(5) Reform Flour Mills (P.) Ltd. v. CIT [1978] 114 ITR 227 (Cal.) - It was held in this case that if an assessee has regularly employed the altered method of accounting viz the cash system, regarding its income from other source and its income from other source can properly be deduced therefrom by the taxing authorities, in that event its income from other source must be computed in accordance with the cash system of accounting and, therefore, interest on a loan which is not received, cannot be included in the relevant accounting year.
(6) CIT v. Citi Bank, N.A. [1994] 208 ITR 930/75 Taxman 433 (Bom.) - In this particular case, the assessee bank was following a hybrid system of accounting inasmuch as it was generally following mercantile system of accounting for most of its transactions but was keeping separate account for problem loans and that the interest on problem loans were being credited only on actual receipt. The system of accounting had also been accepted by the Income-tax authorities in earlier years. The Bombay High Court held that the interest on problem loans was not assessable on the basis of accrual.
(7) Shapoorji Pallonji & Co. (Rajkot) (P.) Ltd. v. ITO [1994] 49 ITD 479 (Bom.) - In this particular case also it was held that in view of the fact that the assessee followed some method of accounting regularly, which was also a recognised one, the Dept., was bound by assessee's choice of method which could not be rejected as improper merely because it might give assessee benefit in certain years or since according to the Commissioner, another method was preferable.
(8) Juggilat Kamalpat Bankers v. CIT [1975] 101 ITR 40 (All.) - In this case also, the Allahabad High Court approved of the assessee adopting cash system of accounting in respect of income from lease of the factory.
Sri Dastur admitted that the only authority against the contention of the assessee was in the case of G. Padmanabha Chettiar & Sons v. CIT [1990] 182 ITR 1/[1989] 45 Taxman 90 (Mad.). He however painted out that in that particular case the assessee was having one business only and had adopted cash system in respect of receipt and mercantile system in respect of payments. The Madras High Court had held that the assessee cannot adopt two different systems in respect of the receipts and payments pertaining to the same business. Sri Dastur argued in this connection that so far as the present case is concerned, the assessee was following mercantile system in respect of its other business viz., manufacturing operations, but cash system in respect of the commission earning activities.
Sri Dastur also referred to a judgment of the Orissa High Court in the case of - CIT v. American Consulting Corpn. [1980] 123 ITR 513 and especially to the discussions made at page 520 of the said judgment to the following effect :
"In a case, where the accounts are maintained according to mercantile system, the income and expenditure, are to be accounted from the moment they accrue. But, if the system of accounting is cash, the income and expenditure are to accounted for not at the time of their accrual but only at the time of receipt or payment either actual or constructive. In this case, no doubt the tax liability accrued during the previous years but its receipt and payment were subsequently made."
On the other hand, the learned DR started his arguments by firstly pointing out that in the return of income, the assessee mentioned its system of accounting to be "mercantile" and the tax audit report under section 44AB also mentioned so. The learned DR also strongly contended that the expenses pertaining to earning of commission income were also debited to the accounts on mercantile basis and hence the assessee cannot claim that the receipt of commission income should be treated on cash basis. He also pointed out that even in assessment year 1987-88 also, the accounting method was stated to be mercantile both in the return and, also in the certificate issued by the auditors under section 44AB.
The learned DR also argues by referring to the statement of the Managing Director of the assessee company Sri Arora given under section 132(4) offering certain additional income for the three years, that had the assessee been actually following cash system of accounting in respect of this particular source of income there would not have been any question of offering any extra income. The learned DR also refers to the two telex messages (to which we have already made a reference) to the effect that commission will be accrued at the time of booking and payable upon shipment of the order. The DR argues in this connection that since the assessee must be considered to be maintaining its accounts under the mercantile system, the commission income would accrue to it immediately on booking of the order by the assessee. He furthermore argues that even so far as receipt is also concerned, in as much as the amount will be kayable upon shipment of the order in respect of the three transactions pertaining to this particular year, the commission income has got to be considered to have been received by the assessee also in this year.
It support of his contention that when the assessee has debited its expenditure relating to the commission business on mercantile basis, it would not be permitted to maintain the receipt of such commission on cash basis, the learned DR has relied upon the following decisions :
(1) Dy. CIT v. Kerala State Industrial Development Corpn. Ltd. [1995] 53 TTJ (Coch.) 401.
(2) ITO v. Saurashtra Investments (P.) Ltd. [1994] 50 TTJ (Ahd.) 319.
(3) Sundaram & Co. Ltd. v. CIT[1959] 36 ITR 162 (Mad.) In this connection, the learned DR has also drawn our attention to the detailed discussions made by the learned author Sampath Iyengar at page 4229 of his famous book title "Law of Income-tax" (VIII Edition) Volume 4.
The learned DR has also tried to argue in this connection that as soon as the commission became payable to the assessee on shipment basis, the assessee would be entitled to the commission and should also be considered to be in receipt of the same. He thus argues that even under the cash system of accounting also, the assessee has got to be taxed on the commission income in respect of the three transactions under consideration in this year itself. In support of the above contention, the learned DR has placed reliance on a judgment of the Supreme Court in the case of Standard Triumph Motor Co. Ltd. v. CIT [1993] 201 ITR 391/67 Taxman 160. In that particular case, that assessee, being a non-resident company had a collaboration agreement with an Indian company and the assessee was entitled to a royalty of 5% on all sales effected by the Indian Company. The royalty less the Indian tax was to be remitted to the assessee in pound sterling. The Indian company credited the royalty to the assessee in its accounts books. For assessment years 1969-70 and 1970-71, the assessee contended that it was maintaining its accounts on cash basis and that no part of the royalty had been received by it during the years and was therefore not taxable. The Supreme Court held that the credit entry of the royalty to the account of the assessee in the books of the Indian company amounted to receipt of the royalty by the assess and it was accordingly taxable. The Supreme Court furthermore held that it was immaterial when that assessee actually received the royalty amount in the UK and the method of accounting adopted by the company was irrelevant. However, the special facts in this particular case are required to be taken into consideration while trying to understand the decision of the Supreme Court. In arriving at the above mentioned decision the Supreme Court had relied on its earlier decision in the case of Raghava Reddy v. CIT[1962] 44 ITR 270. In that particular case, there was a special agreement to the effect that the Japanese Company desired that the assessee-firm in that case should open an account in the name of the Japanese company in their books of account, credit the amounts in that account, and deal with those amounts according to the instructions of the Japanese company. The Supreme Court had held in that case that till the money was so credited there might be a relation of debtor and creditor, but after the amounts were credited, the money was held by the assessee firm as depositee. The same principle as in that case was also applied by the Supreme Court in the case of Standard Triumph Motor Co. Ltd. (supra), the facts being similar.
It is evident from the discussions above that in both the cases as above, the non-resident parties had desired their Indian counter parts to maintain accounts in their name in the books of the Indian concerns and to credit the royalties/commission amounts in the books of the Indian concerns. The Supreme Court held that the Act of crediting such amounts in the books of the Indian concerns itself tent amounted to receipt of the amounts concerned by the non-resident parties inasmuch as once the amounts were credited to the accounts, they would become perfectly entitled to draw the amounts at any point of time. So far as the instant case before us is however concerned, the assessee itself is an Indian party. When the non-resident Swiss party issues credit note in favour of the assessee, the assessee would certainly be entitled to receive the amount from the Swiss party. There is however nothing on record to show that the non-resident Swiss party was maintaining the account of the assessee in its books in Switzerland as per the desire of the assessee and was crediting the amounts concerned to the said account immediately on issue of the credit notes. On the other hand from the facts as stated before us, it appears that there is a time lag between issue of credit notes and actual repatriation of the amounts to India. If it therefore, be considered that the assessee is maintaining its accounts with regard to these sources of income on cash basis, unless the amount reaches its hands in India, it cannot be said to have actually received the amounts and the amounts would not be taxable in the hands of the assessee till such time. We are therefore of the opinion that the judgment of the Supreme Court in the case of Standard Triumph Motor Co. Ltd. (supra) is not applicable to the facts of the present case.
30. It therefore remains for us to examine whether the assessee actually maintains its accounts with regard to receipt of commission income on cash basis. In the voluminous paper books filed before us, the assessee has produced copies of its general ledger for different months during the relevant period. We find therefrom that the assessee actually credited the receipt of the commission income in respect of the three transactions pertaining to the assessment year under consideration and stated to be received by it on 15-4-1986, in the month of April 1986, as a part of the receipt of the total amount of Dollar 27806.38 corresponding to rupee value of 346281.20, received as a whole on 15-4-1986. Thereafter, the assessee further received a total amount of Dollar 70829.28 (rupee 885366) on 21-7-1986. This amount was also actuate credited to the ledger account of the assessee in that every month. Factually therefore, we find that the assessee has been maintaining its accounts with regard to receipt of commission income from BIISA on cash basis. We completely agree with the arguments of Shri Dastur that whether in the return of income or in the audit report, the system of accounting is mentioned as "mercantile" without specifying that in respect of commission income, cash system of accounting is being followed, that would not detract from the factum of the assessee actually maintaining the accounts in this regard on cash basis. Sri Dastur has tried to argue in this connection that the source being a new one in this year and the transactions coming towards the fag end of the year, the auditors did not make any mention of the accounting system being followed with respect to the commission income. He also argued that since the assessee itself considered the commission income as not taxable in this year by being not received, no mention about the accounting procedure being followed with regard to this particular source was made in the return or elsewhere. We agree with the arguments of Sri Dastur on factual verification. We find that so far as the commission income is concerned, the assessee has been following cash system of accounting in respect of that particular source. Whether Sri Arora disclosed an additional amount during his deposition under section 132(4) is of no concern in deciding the issue on a factual basis. Sri Arora might have been under a belief that the additional amounts being amounts diverted to Philadelphia were required to be disclosed by the assessee to the Income-tax Dept, and in that view, he might have agreed to assessment of the entire additional income in three successive years. We however find that in the said deposition, Sri Arora did not at all make any mention about the system of accounting being followed with regard to the commission earning. Nor did he specifically mention that the assessee was maintaining its accounts in respect of this source also on mercantile basis.
31. After having concluded factually that the assessee has been maintaining its accounting procedure according to cash system in respect of commission income from BIISA, the only question to be resolved is whether the assessee is entitled to do so.
There is no doubt about the fact that this source of income was a new one in this year. There is also no apparent relationship between this source of income with the normal source of income being earnings from the pharmaceutical division. There is therefore no reason why the assessee cannot chose to maintain its accounts in respect of this particular source of income on cash basis. The learned DR has made a very big issue about the expenses pertaining to the Instrument Division being debited on mercantile basis. Sri Dastur has further argued in this connection that the expenses are of the nature of actual expenses incurred like salary, travelling expense, postage and stationary etc., and there is no material on record to show that the assessee has debited any provision in respect of the expenses other than actual disbursement of its expenses during the year under consideration. The salary to employees is stated to be payable towards the end of the relevant month. We find sufficient force in the argument of Sri Dastur. All the expenses pertaining to the Instrument Division appear to be of the nature of expenses actually incurred and also disbursed. Hence, there is no difference between cash system of accounting and mercantile system Of accounting so far as the expenses are concerned. We are therefore of the view that the Dept., cannot argue that inasmuch as the expenses were accounted for on mercantile basis, the assessee would not be permitted to account for the commission receipts on cash basis. Furthermore, Sri Dastur relied on a judgment of ITAT, Bombay Bench 'B' dated 12-6-1998 - in the case of Veronica Trading Ltd. (formerly known as Bhowmik Investments & Trading Co. Pvt. Ltd.). IT Appeal No. 7546 (Bom.) of 1990 assessment year 1986-87. In that particular case, the Tribunal considered the applicability of the judgment of Madras High Court in the case of G. Padmanabha Chettiar & Sons (supra) and held as below :
"The decision of the Madras High Court quoted before us is not relevant to the facts of this case. In that case the predecessor assessee was following mercantile system of accounting in money lending business. The successor firm, however, changed the system of accounting. It showed the receipts on actual basis but claimed the expenses on accrual basis. The Hon'ble Madras High Court held that the assessee could not do so. In this case the assessee right from the beginning was following this system of accounting and the same was accepted by the Dept. Therefore, we are of the opinion that the Dept. was not justified in not accepting the system of accounting followed by the assessee for this year only."
So far as the present case is also therefore concerned, we feel that there is nothing on record to show that the assessee is following mercantile system in respect of the expenses of the same business and cash system in respect of the receipts therefrom. Hence, the judgment of the Madras High Court in the case of G. Padmanabha Chettiar & Sons (supra) would not be applicable to the present case. On the other hand, we find sufficient force in the reliance placed by Sri Dastur on a host of decisions of various High Courts and Tribunals as mentioned by us above and hold that the assessee is at liberty to adopt cash system of accounting in respect of the business relating to earning of commission from BIISA. Ultimately we hold that so far as this particular source is concerned, the assessee was following cash system of accounting and since no amount was actually received by the assessee by way of commission from BIISA during the relevant year, the assessee was not amount in this particular year. The question of considering hidden commission paid to Philadelphia party would also followed the decision with regard to the main commission receipt in India as decided by us above. We are therefore of the opinion that on merits, there is no case for the CIT(A) to make enhancement of the amount of Rs. 1,72,550. We therefore reverse his order and delete this amount.
32. Since we have already held that by taking into consideration the method of accounting followed by the assessee, the enhancement cannot stand, it would be unnecessary for us to take into consideration the other arguments put forward by both the sides relating to whether the commission income can be assessed in this year under the mercantile system and whether the further commission at the rate of 1096 was actually paid by the Swiss company to the Philadelphia party and in such an event the same was assessable in the hands of the assessee. We keep both these issues completely open and do not propose to pass any comments on these issues.
33. In the result, the appeal filed by the assessee is partially allowed to the abovementioned extent.