Income Tax Appellate Tribunal - Mumbai
Lubrizol India P. Ltd., Mumbai vs Assessee on 9 April, 2012
IN THE INCOME TAX APPELLATE TRIBUNAL
MUMBAI BENCHES "H", MUMBAI
BEFORE SHRI B. RAMAKOTAIAH, AM AND SHRI S.S. GODARA, JM
ITA No. : 2848/Mum/2008
Assessment Year : 2004-05
Lubrizol India Pvt. Ltd. Asstt. Commissioner of Income
VIP House, II Floor, tax -Circle-6(3)
88C Old Prabhadevi Road Mumbai.
Vs.
Mumbai-400 025.
PAN NO: AAACL 0126 H
(Appellant) (Respondent)
Appellant by : Shri P.J. Pardiwala
Respondent by : Shri Goli Sriniwas Rao
Date of hearing : 09.04.2012
Date of Pronouncement : 04.05.2012
ORDER
PER B. RAMAKOTAIAH, AM:
This appeal by the assessee is directed against the order dated 25.1.2008 of CIT(A) for the assessment year 2004-05. We have heard Ld. Counsel and Ld. CIT DR in detail with help of paper book and orders of coordinate benches and other material on record.
2. Ground No.1 taken up by the assessee is as follows:-
"The ld. CIT(A) erred in confirming disallowance of Rs.6,00,000/- incurred by the company towards Club Membership Fees".
3. This ground is against disallowance of club membership fee of Rs.6,00,000/- incurred by the assessee for the Managing Director of the Company on the ground that the same is not revenue in nature.
2 ITA No. 2848/M/2008A.Y.04-05 Assessee has incurred a sum of Rs.6,05,715/- as club expenses, Rs.57,152/- to Khar Gymkhana and Rs.6,00,000/- to National Sports Club of India. When asked, it was submitted to the AO that amount of Rs.6,00,000/- was paid towards club membership of Mr. D. R. Teredesai, Managing Director to enable him to have business meeting at the club. AO considered the above submissions of the assessee but was not satisfied with the same. According to AO, payment made for obtaining membership is not an allowable expense. The payment of Rs.6,00,000/- made to National Sports Club of India is on account of "entrance fees". In this case above expenses have been incurred only for the benefit of the Managing Director and not the employees at large. In view of the above, AO disallowed Club Membership payment of Rs.6,00,000/- holding that same is not of revenue nature. Objecting to the above, the assessee submitted that payment of club fees is made to promote business interests as it provides officers of the company better contact with persons in good position and results in publicity to enable the company to foster its business relationship and hence is allowable as business expenditure u/s.37. Assessee placed reliance on various case laws including the followings:-
1. Otis Elevator Co.(India) Ltd. (195 ITR 682)
2. Digital Equipment India Ltd. v. DCIT (103 TTJ 329)
3. Gujarat State Export Corpn. [1994] (209 ITR 649)
4. CIT(A) upheld the same as capital expenditure holding as under :-
"I have considered the facts of the case and submissions made by the assessee. However, appellant's above contentions are not acceptable. Once the assessee/appellant pays the amount to Club for membership, it is a payment once and for all resulting in a enduring benefit to the institution. The mere fact that the assessee/appellant's representative like the Managing Director's participation in the Club, promotes the assessee/appellant's business does not change the character of the payment which was made once and for all. The Apex Court in Punjab State 3 ITA No. 2848/M/2008 A.Y.04-05 International Development Corpn. Ltd. vs. CIT (225 ITR 792) held that when the expenditure is made not only once and for all but with a view to bring into existence an asset or an advantage for the enduring benefit for a trade, there is a very good reason (in the absence of special circumstance leading to a opposite conclusion) for treating such an expenditure as properly attributable not to revenue but to capital. In my opinion, above principle would squarely apply in a case where a company has made an expenditure for getting institutional membership in a club and it is an expenditure as properly attributable not to revenue but to capital. In this regard, I would like to place reliance on the judgement of Hon'ble Kerala High Court in the case of Framatone Connector Oen Ltd. vs. DCIT (2007) 294 ITR 559 (Ker.). In view of the above, assessee/appellant's contentions are rejected and disallowance of Rs.6,00,000/- is upheld."
5. It was contended that the fees was paid for enabling the MD to have business meetings at the club. Ld. Counsel referred to various case law on the subject whereas the ld. Departmental Representative relied on AO and CIT(A) observation.
6. We have considered the issue. There is no dispute with reference to the payment of Rs.6,00,000/- towards entrance fees of NSCI. The issue is whether it is a capital expenditure or revenue expenditure. We are of the opinion that even though the same has enduring benefit, it can not be considered as capital in nature as no asset was created. Similar expenditure was allowed as revenue expenditure by the co-ordinate Bench following judicial principles established by High Court.
7. In the case of Sony India P. Ltd. [2005] (4 SOT 30) the Delhi Tribunal has made the following observations:
"Briefly, the facts are that the assessee incurred a sum of Ps. 4,50,000 on entrance and membership fee for corporate membership fee of a Golf Club. The Assessing Officer disallowed the claim of the assessee for deduction treating it as a capital expenditure. The CIT(A) has since allowed 4 ITA No. 2848/M/2008 A.Y.04-05 the claim of the assessee by relying on the decision of the Hon 'ble Gujarat High Court in Gujarat State Export Corpn. Ltd. v. CIT [1994] 209 ITR 649. The revenue is before us against the order of the CIT(A).
After considering the rival pleas, we are inclined to affirm the decision of the CIT(A), as the same is based on the decision of the Gujarat High Court. Even the decision of the Bombay High Court in the case of OTIS Elevator Co. (India) Ltd. v. CIT [1992] 195 ITR 682 is on similar lines. Accordingly, the department fails on this ground."
8. In the case of Sundaram Industries Ltd. [1999] (240 ITR 335) Madras High Court observed the following:
"7. Section 37 of the Act postulates that any expenditure laid out or expended wholly and exclusively for the purpose of the business or profession shall be allowed in computing the income of the assessee. The essential requirement for claiming the deduction of the expenditure is that the expenditure should have been incurred wholly and exclusively for the purpose of business of the assessee. The assessee is a company and it was found by the Tribunal that the expenditure by way of subscription to the clubs was incurred for the purpose of promoting the business of the company and in view of the finding of the Tribunal, we hold that the expenditure incurred is an allowable business expenditure. In the case of subscription to clubs, insofar as the assessee is concerned, the expenditure was incurred to promote and foster its business relationship. The object of the assessee was that its directors by remaining as members in some of the city clubs would give them certain social status, and it is obvious that by being members of the club, they would be able to meet various kinds of people in a calm and cool atmosphere of the club and because of the meeting they would develop business relationship, benefiting the assessee. Therefore, it cannot be said that the possible advantage to the assessee is remote and far- fetched. No doubt, there may be a personal benefit enjoyed by the director by the various types of amenities afforded at the club. But the personal benefit that goes to the director is incidental to the membership of the club. The question whether a particular expenditure is allowable or not has to be tested from the point of view of the person expending the 5 ITA No. 2848/M/2008 A.Y.04-05 same and the object with which he incurred the expenditure. The assessee has not spent the money with the object of providing a personal relaxation to the director, but it was incurred to promote its business. In the commercial world, the contact with the right person is vital for an efficient business organisation. The expenditure incurred cannot be regarded as having been incurred for the personal benefit of the director. In our opinion, in each, case, it has to be seen whether the object of the expenditure was to promote the business of the assessee. In view of the finding by the Tribunal, the assessee-company, in our view, had incurred the expenditure wholly and exclusively for the purpose of its
-business and therefore the expenditure incurred by way of subscription to the club is an allowable expenditure."
9. In the case of Gujarat State Export Corpn. [1994] (209 ITR 649), Gujarat High Court has clearly held that entrance fees paid to a club are revenue in nature and should be allowed as expenses in computing business income.
10. In the Otis Elevator's case, the facts were that the assessing officer had disallowed under the old section 40(a)(v) club fees paid by the employer company for membership of its employees. Otis Elevators stated that it was company's policy and practice to require that the executives became members of clubs and participated in the activities of the clubs with an intention to establish and maintain business contacts in the long-term interest of the company's business. All the appellate authorities including the Bombay High Court upheld Otis Elevators' arguments and deleted the disallowance of expenditure.
11. In any case, payments to clubs are revenue expenditure in the hands of the payer has been upheld in the case of Digital Equipment India Ltd. v. DCIT (103 173 329) wherein the Bangalore Tribunal have followed the Bombay High Court decision in the case of Otis Elevators Co. (I) Ltd.
6 ITA No. 2848/M/2008A.Y.04-05
12. In view of the above we are of the opinion that the entrance fee is revenue expenditure in nature. AO directed to allow the same. Ground is allowed.
13. Ground No.2 reads as under :-
"The ld. CIT(A) erred in confirming disallowance of Rs.1,55,651/- towards social obligations expenses."
14. The above ground is against disallowance of social obligation expenses of Rs.1,55,651/-. The assessee/appellant has claimed social obligation expenses of Rs.1,55,651/- which has been disallowed by the AO.
15. Objecting to the above, the assessee has submitted beforw CIT(A) that the expenditure was incurred by the company in the village Turbhe where the company's plant is located and also in the near by places where company employees reside. The said expenditure was incurred for the purpose of welfare of the staff as well as for the welfare of the people residing in the vicinity of the company and was incurred out of commercial expediency, by way of payments to schools and other educational institutions, with a view to enable them to provide education to the children of assessee's employees at subsidized cost and these social obligation expenses of Rs.1,55,651/- are allowable u/s. 37(1) of the Act.
16. CIT(A) disallowed the same following the orders of his predecessors holding as under :-
7 ITA No. 2848/M/2008A.Y.04-05 "I have considered the facts of the case and submissions made by the appellant. In this regard, it is stated that similar issue came up for consideration in appellant's own case for A.Y. 2003 -04 in appellate order no. CIT(A)XXVI/ITO-6(3)( 1)/760/2005-06 dated 19/10/2006 for A.Y.2003-04 and also in appellate orders of earlier years. Since the issue is identical following and agreeing with the direction of the CIT(A) in the above appellate order in the appellant's own case for A.Y.2003-04 and earlier years, disallowance of Rs.1,55,651/- is upheld."
17. It is submitted by the ld. Counsel that this issue is covered in favour of the assessee by the Tribunal order in assessee's own case for assessment year 1992-93 as per ITA No. 833/M/96 dated 29/12/06, copy of which was submitted and kept on record. It was submitted by him that the order of the Tribunal for assessment year 1992-93 is an earlier order which was followed in other years. The ITAT in 1996-97 held as under:
3. We have considered the rival submissions, perused the material on record and have gone through the judgments cited by the ld. Counsel. We find that in assessment year 1992-93, the Tribunal has decided this issue by following the Tribunal order rendered in the case of Hindustan Petroleum Corporation vs. DCIT as reported in 96 lTD 156. In that case, the Tribunal has decided the issue in favour of the assessee by following various judgments of the Hon'ble Apex Court as well as Hon'ble Karnataka High Court and Hon'ble Madras High Court and therefore, we are inclined to follow the Tribunal order in assessee's own case for assessment year 1992-93. Respectfully following this Tribunal judgment, we decide this issue in favour of the assessee in both the years. Ground No.1 of the assessee in both the years stands allowed.
Respectfully following we allow the claim. Ground is allowed 8 ITA No. 2848/M/2008 A.Y.04-05
18. Ground No. 3 reads as under:-
"The ld. CIT(A) erred in confirming disallowance of Rs.23,000/- towards Sundry advances written off."
19. Assessee has written off an amount of Rs.11,750/- towards sundry advance (details placed at page 61 of the paper book) which comprises of Rs.8,000/- advance given to employees and balance given as deposit for arranging leased accommodation to employees. Since these employees left the service the amounts were written off. It was submitted that the CIT(A) erred in confirming the same on the reason that the amounts could have been adjusted in their salaries. It was submitted that the amounts were written off only after exploring all avenues of recovery. After considering the submissions, we are of the opinion that the amount is allowable. There is no dispute with reference to advances given in the course of business to employees or on their behalf and could not be recovered. Considering these facts we direct the AO to allow. Ground is allowed.
20. Ground No.4 reads as under:-
"4a) The ld. CIT(A) erred in confirming disallowance of Rs.3,25,900/- paid for preparation of new equipment layouts, which was only a planning exercise and no asset is brought into existence.
Without prejudice to the above, CIT(A) erred in not allowing depreciation on the above expenses.
4b) The ld. CIT(A) erred in confirming disallowance of professional fees of Rs.1,58,871/- paid for valuation of flat, not appreciating that merely by virtue of incurring expenses on valuation, no asset is brought into existence. Without prejudice to the above, the ld. CIT(A) erred in not allowing depreciation on the above expenses.
Without prejudice to the above, after holding that the flat valuation expenses is related to capital gains and that sale 9 ITA No. 2848/M/2008 A.Y.04-05 of such flats would result in capital gains, the ld. CIT(A) erred in not deciding allowance of above expenses as a part of the cost of acquisition/improvement of such asset or alternatively as expenses incurred in connection with transfer of flats while computing the capital gains on sale of flats."
21. The issues in this ground are against disallowance of professional fee of Rs.3,25,900/- and flat valuation expenses of Rs.1,58,871/-. Assessee had incurred expenditure on professional fee of Rs. 3,25,900/- for preparation of new equipment layout and Rs. 1,58,871/- on account of valuation of various flats. When asked, it was explained that the expenditure on valuation of flats relate to flats meant for sale and professional fees charges incurred for new equipment lay out is only a planning exercise and therefore, above expenditure was of revenue nature. AO considered the above submissions of the assessee but was not satisfied with the same. AO has observed that expenditure incurred for new equipment lay out is definitely capital expenditure as it is incurred at the time of preparing layout for new equipment. Regarding expenditure incurred on valuation of flats, same cannot also be allowed as deduction since the profit on sale of such flats result in capital gain and not business income. AO therefore, disallowed professional charges of Rs. 3,25,900/- and Rs.1,58,871/-.
22. Objecting to the above, assessee submitted before CIT(A) that a sum of Rs.3,25,900/- was paid by them as professional fees to M/s. Dutt Enterprises who provide engineering consultancy services. The company obtained their services for providing new layout drawings for existing equipments etc. which are in the form of engineering designs. The expenditure was incurred in connection with preparing drawings for process and instrumentation being used in the existing manufacturing plants. Assessee further submitted that the amount represented professional fees paid as a planning exercise and no asset was brought 10 ITA No. 2848/M/2008 A.Y.04-05 into existence and therefore, the amount was allowable as revenue expenditure. Regarding professional fees of Rs.1,58,871/- incurred for valuation for flats, assessee submitted that some of the company's flats were lying vacant and therefore, a decision was taken to sell-off these flats. For the purpose of selling the flats and to assess the market price, the appellant made the above payment to the valuers.
23. CIT(A) rejected the claim on the following reasons :-
"I have considered the facts of the case and submissions made by the appellant; but the same are not acceptable. Professional fees of Rs.3,25,900/- admittedly was paid for providing new layout drawings and engineering designs. Even though it has been contended by the appellant that professional charges for new layout drawings are in the form of engineering designs and for planning exercise but same in my opinion have brought into existence an advantage of enduring nature and therefore could not be held as an expenditure of revenue nature. As regards professional fees of Rs. 1,58,871/-, assessee/appellant's submissions are not acceptable as the aforesaid expenditure was incurred for sale of flats. The profits on sale of flats is chargeable under the head 'capital gain' and not as business income. In view of the above, aforesaid expenditure can also not be held as of revenue nature. Various case laws relied upon by the appellant are distinguishable in the sense that valuation expenses incurred for building and machinery in such cases were for either to meet the creditworthiness of the company or for the purposes of municipal value etc. In view of the above, appellant's contentions are rejected and disallowance of Rs.3.25.900/- and Rs.1,58,871/- is upheld."
24. It was submitted that assessee i.e. Lubrizol India Pvt. Ltd. was incorporated in 1966. It has seven intermediate manufacturing units and two blending units at Turbhe Plant, Navi Mumbai . The average age of all these units is more than 30 years. The old drawings & designs of these plants were in bad shape and some of them were not traceable. From 11 ITA No. 2848/M/2008 A.Y.04-05 time to time the company has to deal with Statutory authorities like Factory Inspector, MIDC. Safety & Environment Dept., Pollution Control Board, Electricity Board etc. The plant is also visited by suppliers, customers, contractors as well. While dealing with these parties drawings and designs are necessary. Further for our day to day maintenance activities i.e Plant shut down Repairs and maintenance jobs etc. these drawing helps us to do understand job location etc. Thus drawing & designs assist us for doing day to day activities but it do not bring any direct financial gain as such. This is just like the tools used by maintenance departments and not relating to new installation of any equipment. Hence it is not providing any enduring benefit to the company therefore can not be treated as Fixed Assets. In view of the above management has decided to treat the expenses incurred on fees paid to consultants for preparation of Drawing & designs of plant as revenue expenses.
25. Further with reference to fee for valuation of flats , it was submitted that company incurred Rs.1,58,871.- for availing professional services relating to Valuation of flats sold by the company, related sales proceeds has been accounted in the respective year of sale. The details of valuation fees and sale of flat are given as under :-
Details of professional fees for valuation of flats
i) SS Joshi & Associates Rs.3,841.00
ii) SS Joshi & Associates Rs.32,319.00
iii) SS Joshi & Associates Rs.8,100.00
iv) SS Joshi & Associates Rs.42,845.00
v) Tata Housing Development Co. Ltd. Rs.71,766.00 Rs.1,58,871.00 12 ITA No. 2848/M/2008 A.Y.04-05 Details of sale of flats (Sale proceeds) :
i) AY 2004-05 Rs. 62,59,001
ii) AY 2005-06 Rs. 83,13,000
iii) AY 2006-07 Rs.1,31,00,000
iv) AY 2006-07 Rs.3,55,00,000
v) AY 2006-07 Rs.1,27,00,000
In the alternate, it was submitted that amount is allowable in calculating capital gain. The ld. Departmental Representative relied on the order of AO and CIT(A).
26. We have considered the issue. In our opinion the authorities erred in treating the same as not allowable expenditure. As submitted the old plant and machinery designs were freshly prepared for business purpose as old plans were not available. This sort of expenditure does not give rise to any asset so as to treat it as capital expenditure. The same is allowable as revenue expenditure. New plans prepared for existing old machinery and plants are different from plans for new machinery. The authorities in our view must have considered it as plans of new machinery. Similar is the case with the expenses on valuation. Assessee intend to sell some flats used in the business. For purpose of assessing its value, the professional service was required. The expenditure on valuation of flats is in the nature of revenue expenditure akin to maintenance expenditure on flats. Even though CIT(A) opined that the amount is allowable in computation of capital gain, he did not direct so. This was an alternate plea. We are of the opinion that the expenditure is allowable as revenue expenditure, whether the flats are sold or not. The assessee can always incur expenditure for getting valuation done of its assets in the course of business, if not for sale even for obtaining loans.
13 ITA No. 2848/M/2008A.Y.04-05 Nature of expenditure is to be considered, not purpose for which it was incurred. So long as the expenditure is for the purpose of business, being revenue in nature the expenditure is allowable. We direct so. The ground is allowed.
27. Ground 5 reads as under :-
"5a) The ld. CIT(A) erred in confirming disallowance of additional depreciation of Rs.53,66,112/- under section 32(1)(iia) of the Income tax Act, 1961 on account of increase of more than 25% of installed capacity in Nitrogen Generation Plant f the company.
5b) the ld. CIT(A) also erred in confirming the observations made by the AO which are contrary to the facts of the case and in law."
28. Assessee has claimed additional depreciation of Rs. 53,66,112/- under section 32(1)(iia) of the Act. When asked, assessee submitted its explanation which has been reproduced by the AO in the assessment order. It was stated that company has two manufacturing facilities one at Turbhe in Navi Mumbai (Thane District) and the second unit at Taloja(Rajgarh District.). There was substantial expansion in the Nitrogen Generation Plant during the year. Capacity of the plant was 390 Cum/hour as on 31/3/2003 and due to expansion the plant capacity is increased to 1500 Cum/hour during the year and thus there was substantial increase in the capacity as envisaged in section 32(l)(iia). The assessee also gave the details of installed capacity of the undertaking as a whole. AO for the detailed reasons discussed in the assessment order disallowed additional depreciation of Rs.53,66,112/-. While disallowing the additional depreciation, AO inter alia, has observed that assessee has seven plants at Turbhe which produce different intermediate products which are then blended together in Blending plants I and II before receiving the final product i.e. Chemical Additive. The Nitrogen is not 14 ITA No. 2848/M/2008 A.Y.04-05 output of the assessee company. It is only a small component of the many inputs required by the assessee. In view of the above, AO disallowed additional depreciation of Rs.53,66,112/-. Ld. CIT(A) confirmed the same.
29. It was fairly admitted that similar claim was restored to file of AO in AY 2003-04 and has no objection if this issue was also restored. ITAT in assessment year 2003-04 held as under on similar claim.
Ground no.2 is against in confirming the disallowance of additional depreciation of Rs.13,09,038/- as per the provisions of sec. 32(1)(iia) of the Act.
The AO and the CIT(A) disallowed the claim of the assessee on that reason that the assessee failed to prove with cogent evidence that each and every plant is separate, different, distinct and viable unit by itself.
It was contended by the ld counsel of the assessee that both the plants are independent of each other. Attention of the Bench was drawn on the copy of the extract of page 33 of the annual report for AY 1987-88 which indicates that the assessee had manufacturing units. It was further submitted that the AO drew an inference that there should be a separate license. It was submitted that after the liberalization of Licensing Regulation under the industries (Development & Regulation) Act, there was no need to obtain separate license for any expansion or new unit. The ld. DR, on the other hand, placed reliance on the orders of the authorities below.
After considering the submissions and perusing the relevant material on record, we are of the view that this issue should be sent back to the file of the AO to decide the same afresh. Page 33 of the annual report of FY 1987- 88 is placed in the compilation and class of goods, licensed capacity and production of each unit has been shown separately. The aspect that after liberalization of policy, there was no need to take separate license remains unverified. Therefore, in view of these facts and circumstances, we restore this issue to the file of the AO to pass a fresh order after affording reasonable opportunity of being heard to the assessee. We order accordingly.
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30. Respectfully following, we restore the issue to the file of AO for fresh examination and decision in the light of decision in AY 2003-04, after affording reasonable opportunity to assessee of being heard. We order accordingly.
31. Ground No. 6 reads as under :-
6a) The ld. CIT(A) erred in confirming disallowance of a sum of Rs.7,18,705/- incurred towards computer software expenses.
6b) The ld. CIT(A) also erred in not appreciating that in this modern times where globalization and liberalization is taking place in the industry, the software has to be updated very frequently since it becomes obsolete very fast within short span of life. It does not create any new asset."
32. This ground is against the disallowance of computer software expenses of Rs.7,18,705 on the grounds that the same is capital in nature and gives enduring benefits. The details of computer software expenses of Rs.7,18,705 are as under:
Licences of Office XP on 22-Oct-2003 Rs. 615,400 Software for Quality Control Lab Rs. 103,305
33. It was submitted before CIT(A) that the above licenses obtained for Office XP software are in the nature of application software (such as Word. Excel, etc) which get upgraded from time-to time due to facts changing technology. Similar is the case with software obtained for the company's Quality Control Lab. These licenses are for a limited period and they have to be renewed from time-to-time. They are not in the nature of any system software, which usually have a longer life as compared to the application software. AO treated it as capital expenditure and allowed as depreciation. CIT(A) confirmed the same.
16 ITA No. 2848/M/2008A.Y.04-05
34. It was submitted that the above licenses obtained by the assessee company for Office XP software as well as for Quality Control Lab are in the nature of application software, which become obsolete on another new version of the software being available. Therefore the earlier version of the software, not being the asset of the assessee, has no net realisable value and there is no enduring benefit to the company. It was contended That the ACIT referred to the decision of the Rajasthan High Court in the case a Arawali Construction Co. Pvt. Ltd. (259 ITR 30) as well as the decision of the Delhi Tribunal in the case of Maruti Udyog Ltd. (92 lTD
119) ; however the above decisions were rendered on the basis that the acquisition of software resulted in acquisition of technical know-how, which is not the case of the assessee and therefore the assessee submits that the above decisions are not applicable to their case. Ld. AR relied on 304 ITR 84 in the case of CIT Vs Southern Roadways Ltd. (Mad), ; 309 ITR 272 in the case of CIT Vs Varinder Agro Chemicals Limited (P&H) and 321 ITR 69 in the case of CIT vs Sundaram Clayton Ltd.
35. We have considered the rival submissions and perused the matter carefully. Considering the nature of software licence obtained and its usage, we are of the opinion that the expenditure is revenue in nature. The principles laid down in case law relied on by the assessee support our view. Therefore AO is directed to allow the expenditure as revenue. In case any depreciation was allowed the same can be withdrawn. With these directions, ground is allowed.
36. Ground No.7 reads as under :-
"7a. The ld. CIT(A) erred in confirming disallowance of a sum of Rs.51,00,000/- paid as compensation for pre- closure of agreement entered with M/s. Industrial Oxygen Limited (INOX), for supply of nitrogen.17 ITA No. 2848/M/2008
A.Y.04-05 7b. The ld. CIT(A) erred in confirming the observations made by the AO which are contrary to the facts of the case and in law.
7c. The ld. CIT(A) erred in not appreciating our submission to the AO that the compensation claim had arisen out of the contract entered into by the appellant in its ordinary course of business relating to a trading item and the same was incurred wholly and exclusively for the purpose of company's business operations and such deduction was made in the interest of the company's business and out of commercial expediency."
37. This ground is against disallowing pre-closure of agreement compensation of Rs.51 lakhs on the ground that same is not a revenue expenditure. During the course of assessment proceedings, AO noticed that the assessee has debited a sum of Rs.51 lakhs under miscellaneous expenditure towards payment to Inox Air Products for pre-closure of Nitrogen supply agreement. When asked, assessee made submissions which have been reproduced by the AO in the assessment order. Assessee stated that the agreement with M/s. Industrial Oxygen Company Ltd. was entered by the company w.e.f. 7/4/1999, for a period of six years, for supply of nitrogen required in manufacturing operations because assessee's in-house plant being old was not fully meeting the requirements. Due to technical problems faced in the quality of nitrogen being delivered by the Inox, assessee served a notice of termination. However, to ensure good quality/timely supply of nitrogen and also to have cost savings in its operation, assessee has gone for Nitrogen Generation Plant which is commissioned in September, 2003. In view of this, company had decided to pre-close the agreement. The supplier of Nitrogen on receipt of termination notice from the company had raised a claim on the company asking for compensation amounting to Rs.61.85 laths. After series of discussions, a settlement was reached with the party to pay Rs. 51 lakhs which has been claimed as revenue 18 ITA No. 2848/M/2008 A.Y.04-05 expenditure as the above payment has not resulted into creation of capital assets.
38. AO for the following reasons held that pre-closure expenses of nitrogen agreement amounting to Rs. 51 lakhs are not allowable as revenue expenditure and therefore disallowed the same.:
"a) The assessee has submitted that in view of the commissioning of Nitrogen Generation Plant, the agreement with Inox Air Products has decided to be pre-closed. Thus, it can be seen that the pre-closure is on account of commissioning of the nitrogen plant of the assessee and thus is intrinsically linked to the capital expenditure of the assessee.
b) A perusal of the termination agreement between assessee and Inox Air Products, shows that it contains the following clause:" Cluase 3.3(b):
The aforesaid amounts are in full and final settlement of all amounts (towards minimum off-take, fixed facility charge on equipment and rental charges for Nitrogen gas pipeline or otherwise) outstanding". Thus it can be seen that the settlement is also on account of fixed facility charged on equipment, which is in the nature of capital expenditure.
c) The agreement between the assessee and Inox Air Products Ltd. is for a period 6 years effecting from April 1999. However, the assessee has decided to pre-closure the agreement upon the commissioning of Nitrogen plant. The inability to keep minimum upliftment commitment is on account of commissioning of the plant. Hence the compensation payable on account of such agreement is also capital in nature.
d) The assessee's contentions that notice of termination was served due to technical problem faced in the quality of nitrogen being delivered by Inox not meeting the needs of the assessee is not acceptable. The agreement dated 6/10/1999 between the Inox Air Products and the assessee contains provisions in respect of purity of gas, price measurement of equipment of supply etc. The clause 4 of the said agreement specifically states that the Nitrogen Gas supplied to Inox Air Products shall be with a purity of 99.8%.
Hence, the contention that agreement was pre-closed due to 19 ITA No. 2848/M/2008 A.Y.04-05 quality problems is not acceptable. Further, if quality was the problem, then there was no need for the assessee to pay compensation to Inox Air Products Ltd. Rather the assessee ought to have received the compensation. Hence this contention of the assessee is not acceptable."
39. Objecting to the above, assessee has submitted before CIT(A) that Inox Air Products Ltd. (INOX) had entered into Agreement dated November 03, 1995 for supply of gaseous Nitrogen through pipeline by INOX to the assessee's factory at Thane Belapur Road, Turbhe for a term of four years. This agreement was subsequently renewed by Agreement dated October 06, 1999 for a period of six years, effective 7th April, 1999. It was submitted that above agreement with INOX was for supply of nitrogen which was one of the input in the manufacture of products. However, subsequently, during the currency of the contract with INOX, it was observed that there had been series of problems on both technical and commercial issues. Since, November,2002 the assessee company had been bringing such issues to the notice of 1NOX. However, major issues remained unsolved. After scanning the new technologies available for generation of nitrogen, the assessee company management decided that it would be better to have company's own nitrogen generation unit. Consequently, company issued a termination notice to INOX in response to which INOX asked for a compensation which was settled at Rs. 51 lakhs. Assessee in view of the above has stated that the payment of Rs. 51 lakhs to 1NOX has not resulted into any capital expenditure and is purely commercial business decision in the interest of company to avoid unnecessary litigation expenses. For the assessee company, nitrogen is an important raw material in its manufacturing process for which an agreement was entered with INOX in the normal course of business. Assessee also stated that AO has observed that the pre-closure is on account of commissioning of the nitrogen plant of the assessee and thus is intrinsically linked to the capital expenditure of the assessee. The 20 ITA No. 2848/M/2008 A.Y.04-05 assessee submitted that this is factually incorrect. As mentioned above, since November, 2002, the assessee company had been bringing the above issues to the notice of INOX, however, there was no positive response. The commissioning of the Nitrogen generation Plant in the 1st week of October, 2003 was subsequent to the entering of the supply agreement mentioned above and the same would have not been required if the quality of nitrogen supply by INOX was upto the standards required. With regard to AO's observation that the settlement is also on account of fixed facility charged in equipment, which is in the nature of capital expenditure and that the inability to keep minimum upliftment commitment is on account of commission of plant and hence the compensation payable on account of such agreement is also capital in nature, assessee submitted that the compensation claim had arisen out of a contract entered into by the assessee in its ordinary course of business relating to a trading item and that the same was incurred wholly and exclusively for the purpose of company's business operations. Moreover, the payment of compensation was made in the interest of the company's business out of commercial expediency and hence is allowable as business expenditure. In view the above, assessee contended that aforesaid expenses may be allowed.
40. The CIT(A) rejected assessee's contentions and upheld the disallowance by holding as under :-
"I have considered the facts of the case and the submissions made by the assessee. Same are not acceptable. It is seen from clause 4 of the agreement which has been mentioned by the assessee in its submission that the Supplier shall supply Dry Nitrogen Gas (through pipeline) with a purity of 99.8%. The supplier shall install on line Oxygen Analyser, for monitoring the purity, with provision to cut-off the supply, if the impurity level of Oxygen exceeds 0.2% and this cut-off arrangement (venting) shall be provided before the inlet Meter at the supplier's premises. The supplier shall provide to the Buyer a copy of the recorder installed for this purpose.21 ITA No. 2848/M/2008
A.Y.04-05 Various other terms and conditions were also fastened on the supplier. It is thus seen that supplier, as per agreement was bound to supply dry nitrogen gas to the assessee as per the various terms and conditions laid down in the agreement. Assessee/appellant has not explained that in the event there were deficiencies in supply of Nitrogen as per agreement what steps could assessee/ appellant have taken to ensure the supply of Dry Nitrogen as per requirement and as per terms and conditions of the agreement. Ordinary in such cases it is the supplier who, in case of default is required to make the payment. However, surprisingly it is assessee, the buyer who, observing that there has been a series of problems on supply of Nitrogen paid the compensation of Rs.51 lakhs to the supplier i.e. Inox which is in my opinion is inexplicable. The agreement as noted by the AO is for a period of six years from April, 1999. I also agree with the AO's observation in the assessment order noted that it is assessee/appellant who should have received the compensation if the quality was the problem. During the course of appeal proceedings, when asked, the assessee filed a chart showing the basis of determination of the compensation amount of Rs.51 lakhs. However, the chart does not show the basis of determination but the working of amount of Rs.51 lakhs on different account. It is not explained as to whether the appellant was required to pay any compensation on the basis of original agreement and if yes, whether the amount of Rs.51 lakhs paid was calculated on the basis of terms and conditions of the original agreement. In view of the above and also for the detailed reasons discussed in the assessment order, assessee/appellant's contentions are rejected and disallowance of Rs.51 lakhs is upheld."
41. It was submitted that the CIT(A) misconstrued the facts/submissions made before him. It was submitted that consequent upon establishing its own Nitrogen Generation Unit the (additional depreciation was claimed on this in ground No.5) the assessee no longer required supply for Inox and so the contract was terminated. It was submitted that the total compensation claimed was as under:-
22 ITA No. 2848/M/2008A.Y.04-05 Statement Showing Details of Compensation Claimed by INOX Ltd.
Sr. Clause Description Amount Rs.
No. Ref.
Compensation for Fixed facility
Charges U/clause 1.6 for the
1 1.6 period from 26.05.2004 to 62400.00
6.04.2005 (i.e. 10.40 months x
Rs.6000/p.m.)
Compensation for short lifting for
the above period U/clause 2.2 for
the period from 26.05.2004 to 5460000.00
2. 2.2
6.04.2005 [i.e. (10.40 months x
minimum lifting 2,50,000
M3/p.m) x (Rs.2.10/m3)]
Compensation for pipe line rental
3. 2.5 paid to MIDC for the above 663390.00
U/clause 2.5
Total Compensation claimed 6185790.00
Rs.
42. He then referred to page 102 in paper book to submit that the Board after considering the claim agreed to settlement of amount of Rs.51.00 lakhs . It was submitted that it is a commercial decision to terminate the agreement which was enforceable for another 10.40 months. Ld. Counsel relied on the principles laid down by the Hon'ble Supreme Court in the case of Bikaner Gypsums Ltd. Vs CIT (187 ITR 39) and CIT Vs Madras Auto Service (P.) Ltd. (233 ITR 468). It was the submission that this is a compensation of future revenue outflow.
43. We have considered rival contentions and examined record. There is no dispute with the fact that said Inox was to supply for another 10.40 months and assessee has to purchase the nitrogen from them. There is also no dispute that assessee established its own production unit so that need for purchase from Inox was not there. There were also disputes with quality of supply earlier. For these reasons the contract was terminated 23 ITA No. 2848/M/2008 A.Y.04-05 which decision was a commercial decision. Naturally the cancellation ended up in demanding compensation at higher amount which was duly settled and board approved the same. The nature of compensation claimed was such that it was in revenue field. They are 1)Compensation for Fixed facility Charges U/clause 1.6 for the period from 26.05.2004 to 6.04.2005 (i.e. 10.40 months x Rs.6000/p.m.) 2) Compensation for short lifting for the above period U/clause 2.2 for the period from 26.05.2004 to 6.04.2005 [i.e. (10.40 months x minimum lifting 2,50,000 M3/p.m) x (Rs.2.10/m3)] 3) Compensation for pipe line rental paid to MIDC for the above U/clause 2.5. Therefore the contention that these amounts are revenue in nature and not capital has valid force. As can be seen from the orders of revenue, it is clear that they interpreted the clauses wrongly. The agreement originally was entered in 1995 for four years and renewed for six years from 1999 valid upto 2005. As per the agreement the assessee has to purchase the requisite quantity from Inox. This agreement was cancelled 10 months prematurely and naturally assessee has to pay compensation and not other way as opined by Revenue authorities. Based on principle laid down by the Hon'ble Supreme Court in the case of Bikaner Gypsums Ltd. Vs CIT (187 ITR 39) and CIT Vs Madras Auto Service (P.) Ltd. (233 ITR 468), we have no hesitation in holding that the claim is allowable expenditure u/s 37(1) of the IT act.
AO is directed to allow the same. Ground is allowed.
44. Ground No.8 reads as follows :-
"8a. The ld. CIT(A) erred in confirming disallowance of a sum of Rs.28,22,685/- towards bad debts written off. 8b. The ld. CIT(A) erred in confirming the observations made by the AO which are contrary to the facts of the case and in law."24 ITA No. 2848/M/2008
A.Y.04-05
45. This ground is against the disallowance of bad debts of Rs.28,22,685 written-off by the assessee company, the details of which are as under:
Name of Party Amount(Rs.)
Balmer Lawrie-Kolkatta 966,081.71
Balmer Lawrie-chennai 989,620.80
Bharat Shell 564,503.52
Calltex Lubricant 108,391.40
Elf Lubricant 191,032.76
IBP-Kolkatta 135.47
IBP-Chennai 2,919.08
Total 2,822,684.74
46. AO has disallowed on the basis that the debts written off are PSU debts and that no evidence has been produced with respect to precarious condition of debtors so as to infer that these debts have become bad. He has also observed that the assessee has written off debts of PSU dues without any further evidences cannot be considered as honest decision but the same is required to be considered as convenient decision to claim bad debt.
47. The CIT(A) confirmed the same on two reasons A) why the debts from PSU are treated as bad and B) the debts are not proved as bad.
48. It was submitted that for Writing off Bad debts in the books of accounts the Accounts Manager from sales and marketing regularly follow for collection of outstanding amounts from the customers. However when the amounts are not recoverable they indicate to make provision for bad and doubtful debts in the books of account and obtain internal approvals of the management. After making continuous efforts, 25 ITA No. 2848/M/2008 A.Y.04-05 if the amounts are not recovered the same are advised by them for written off as bad debts. During the previous year 2003-04 (AY 2004-05) Debtors accounts were reviewed for the purpose of reconciliation of the balances with balances as per party accounts for which provision for Doubtful Debts were made in earlier years. In the process of reconciliation it has been noticed that there were old outstanding balances on party accounts due to various reasons i.e. short receipts due to shortages, debit notes raised for unilateral price increase and rate differences for which party has not agreed and not paid, wrong accounting error of wrong account codes etc. Therefore it has been decided by the management to reverse the Provision made for Doubtful debts and expense out the same by debiting to Bad Debt written off account. Accordingly the same have been accounted for in the books vide JV. No 190 and 630. The ld. Counsel also referred to various steps taken in write off including provision made in books which are written back/ adjusted. He relied on the judgment of Hon'ble Supreme Court in the case of TRF Ltd. Vs. CIT (323 ITR 397).
49. We have considered the rival contentions carefully and perused the material placed on record. As explained the debts were due to various facts like short receipts, debit notes for price increase which were not accepted, rate differences, wrong accounting etc. These factors on examination can lead to write offs. Just because amounts are pertaining to PSU they can not be disbelieved. Even with the PSU these factors can give rise to disputes and bad debts. Since the assessee wrote-off the amounts, following the principles laid down by the Hon'ble Supreme Court in the case of TRF Ltd. (supra), the amount of bad debt written off is an allowable claim. AO is directed accordingly therefore ground is allowed.
26 ITA No. 2848/M/2008A.Y.04-05
50. Ground No.9 reads as under :-
9a. The ld. CIT(A) erred in excluding from the profits of the business 90% of the following receipts for the purpose of deduction under section 80HHC of the IT Act.
51. Ground No.9 (a) pertains to the exclusion of 90% of following receipts from profit of business for calculating the deduction under section 80HHC. The following items were excluded by AO while completing the deduction under section 80HHC (baa). The items are as under:
Nature of Receipt Amount (Rs.)
Sale of scrap 87,21,000/-
Job work revenue 2,69,47,000/-
Sundry credits write back 64,55,,000/-
Sales tax refund 23,58,000/-
Provision for doubtful debts/advances 22,00,000/-
write back
Excess provision of earlier years 49,26,000/-
written back
Insurance claims received 1,76,000/-
Misc. income (excluding rent income) 66,69,175/-
52. Ground No.9b is given below:
9b. The ld. CIT(A) erred in confirming the inclusion of job work revenue of Rs.2,69,47,000/- in the total turnover for the purpose of computing the deduction under section 80HHC."
53. Ground No.9a: It is submitted that the figures mentioned in the CIT (A) orders are not pertaining to this assessment year as the CIT (A) has taken them from the order of the CIT (A) in assessment year 2003-04. The correct amounts are stated as above. It was submitted that the issues with reference to sale of scrap, sundry credit balances written off, sales tax refund, provision for doubtful debts and advances, excess provision written back, were covered in favour of assessee by the ITAT in its orders from assessment year 1996-97 and 1997-98 to 2003-04. In 27 ITA No. 2848/M/2008 A.Y.04-05 view of the consistent stand taken by the Coordinate Benches in assessee's own case, AO is directed not to exclude the above amounts from the computation under section 80HHC(baa) as these incomes pertains to business receipts. Accordingly the ground to that extent is allowed.
54. The next item is with reference to the insurance claims received. Following the decision of the Hon'ble Bombay High Court in the case of Pfizer Ltd, 330 ITR 62, this amount also is a business receipt. Therefore, AO is directed not to exclude the same under the provisions of 80HHC(baa).
55. The next item is miscellaneous income consisting of the following amounts:
Particulars Amount (`.) (lakhs)
a) Profit on sale of assets 47.77
b) Liquidated damages 14.31
c) Testing charges 6.09
d) Discount received 4.87
e) Custom duty refund 7.37
f) Other receipts (misc. income) 11.45
g) Commission received 25.97
h) Foreign Exchange Fluctuation 18.68
gain
i) Rent received 0.15
Out of these it was submitted that profit on sale of assets was already reduced by assessee in the computation and it was the double deduction. This aspect requires examination by AO and if assessee has already excluded the same, there is no need for deduction again. With reference to the liquidated damages it was submitted that the matter was restored to the file of the CIT (A) in assessment year 1996-97 but these are to be considered as business profits. AO is directed to examine the nature of the amount and decide accordingly in view of the orders in earlier years. With reference to the testing charges, this issue is already against 28 ITA No. 2848/M/2008 A.Y.04-05 assessee as admitted by the learned Counsel. Therefore, issue to that extent is held in favour of the Revenue and against assessee.
57. With reference to the discount received, other receipts, commission received, foreign exchange fluctuation gains and rent received, these amounts also more or less covered by the ITAT orders in earlier years and AO is directed to follow the same to be in consistent with the earlier years stand. It was further submitted that the rent amount was recovered from the employees co-owned flats and only a net amount is to be recovered under section 80HHC(baa). This issue is also directed to be examined by AO while giving effect to this order. With these directions the issues in Ground No.9( a) are considered accordingly.
58. The issue in Ground No.9(b) is with reference to the job work done. The CIT (A) mentions the amount at `.269.47 lakhs, whereas the correct amount was stated as `.164.14 lakhs. Further it was submitted that this amount was not included in the turnover by AO, so the ground is misconceived. Accordingly the same was dismissed as not pressed.
59. Ground No.10 raised by assessee is as follows:
"10. The learned CIT (A) erred in making observation that accordingly AO is directed to follow the directions given by CIT (A) (in the appeal for the year assessment year 2001-02 and assessment year 2003-04) in respect of Sales Tax Refund, Write Back Expenses, Sale of Scrap and Mis. Income in respect of items listed at Sr.9 above".
This ground is not pressed in the course of the arguments.
60. Ground Nos. 11 & 12 is given below:
"11. The learned CIT (A) erred in not giving clear direction to AO for reducing 90% of the net interest (interest received- interest paid) ought to have been reduced while computing the profits of the business for the purpose of deduction under section 80HHC.29 ITA No. 2848/M/2008
A.Y.04-05
12. The learned CIT (A) erred in confirming the action of AO in treating the 90% gross rent income of `.55,825/- instead of rent income for the purpose of deduction under section 80HHC of the Income Tax Act 1961".
Issues in these grounds are with reference to deducting gross amount or net amount while working out deduction under section 80HHC while excluding 90% of the receipts from interest and Rent. AO and the CIT (A) considered the amount as gross amounts, whereas it was submitted that this issue is covered by the Hon'ble Supreme Court in the case of ACG Associated Capsules (P) Ltd in Civil Appeal No.1914 of 2012 dated 8th February, 2012 in favour of assessee. In view of the decision of the Hon'ble Supreme Court, AO is directed to exclude the net amount after verifying the nexus with the amounts considered in working. With these directions, the issue is decided in favour of assessee. Grounds are considered allowed.
In the result, appeal is partly allowed.
Order pronounced in the open court on 4th May, 2012.
Sd/- Sd/-
(S.S. GODARA ) (B. RAMAKOTAIAH)
JUDICIAL MEMBER ACCOUNTANT MEMBER
Mumbai, Dated:4th May, 2012.
Jv.
Copy to: The Appellant
The Respondent
The CIT, Concerned, Mumbai
The CIT(A) Concerned, Mumbai
The DR "H" Bench
True Copy
By Order
Dy/Asstt. Registrar, ITAT, Mumbai.