Income Tax Appellate Tribunal - Bangalore
Himatsingka Seide Ltd.,, Bangalore vs Department Of Income Tax on 3 January, 2012
ITA No.1379/Bang/2010 Page 1 of 32
INCOME TAX APPELLATE TRIBUNAL
BANGALORE BENCHES 'B'
BEFORE SHRI N BARATHVAJA SANKAR, VICE PRESIDENT
AND
SHRI GEORGE GEORGE K, JUDICIAL MEMBER
ITA No.1379/Bang/2010
(Asst. Year 2006-07)
The Asst. Commissioner of Income-tax,
Circle-11(4), Bangalore. - Appellant
Vs
M/s Himatsingka Seide Ltd.,
No.10/24, Kumarakrupa Road,
High Grounds, Bangalore-1. - Respondent
PA No.AAACH3507N
Date of hearing : 03/01/2012
Date of pronouncement : 27/01/2012
Appellant by: Smt. Archana Chowdhry, CIT-II Advocate
Respondent by :Shri. P. Tiwari, CA
ORDER
PER N. BARATHVAJA SANKAR, VICE PRESIDENT :
This is an appeal preferred by the Revenue, in the case of the assessee, M/s. Himatsingka Seide Ltd., Bangalore, against the order of the Commissioner of Income-tax (Appeals), dated.22.09.2010. The relevant assessment year is 2006-07. The only issue that is raised is whether the Commissioner of Income-tax (Appeals) is justified in holding that the assessee company is entitled to deduction under section 10B of the IT Act, 1961, in respect of Filati unit/division.ITA No.1379/Bang/2010 Page 2 of 32
2. Briefly stated, the facts are as follows. The assessee is a company which is engaged in the business of manufacture and export of natural/blended silk fabrics and various kinds of yarns. The return of income was filed for the concerned assessment year on 28.11.2006, declaring business income of Rs.5,46,64,296/- after claiming deduction u/s.10B of the IT Act amounting to Rs.37,51,36,552/-. The assessee was conducting business under two (EOU) units, namely, (i) Seide unit and (ii) Filati unit. The assessee company had claimed the entire deduction under section 10B from its business profit pertaining to Filati unit of the assessee company. The assessment was taken up for scrutiny by issuance of notice under section 143(2) of the Act and scrutiny assessment was completed vide order dated.31.12.2009. In the scrutiny assessment, the entire claim of deduction u/s.10B amounting to Rs.37,51,36,552/- was disallowed by the Assessing Officer. The Assessing Officer, on the basis of Annual Report and the Cost Audit Report for various years held that the assessee company had two integrated business units, namely, fabric division and yarn division. In those reports, the assessee's performance was categorized under the two production units namely the fabric and yarn production units, and thus the business of fabric division which was brought into existence in the yarn division was still an integral part of fabric division. Therefore, it was concluded that the fabric production shown under the yarn division was ITA No.1379/Bang/2010 Page 3 of 32 nothing but the reconstruction of the existing business of Seidi division (para 35 of impugned assessment order). It was further held by the Assessing Officer that the assessee had brought the business of Seidi division to the "yarn division" for the sole purpose of Income-tax benefits and thus declined the deduction u/s.10B of the Act. The Assessing Officer also relied on various judicial pronouncements notably reported in 107 ITR 195, 137 ITR 851 and 108 ITR 367. The relevant finding of the Assessing Officer reads as follows :
"34. Firstly, it is undisputed fact that the company is entitled for deduction u/s 10B in respect of yarn division regarding profits on sale of yarn. As stated earlier, the company has set up new EOU Unit under the nomenclature ' yarn division or yarn unit' (also known as Filati Unit) and commenced commercial production of spun silk and blended yarns on 1.4.08. This unit was set up under technical collaboration with M/s. Filati Burrati SPA of Italy. This division is entitled to deduction u/s 10B of the IT Act from 1998-99 to AY 2008-09.
35. However, the above unit is not entitled for deduction u/s 10B in respect of fabric business which was brought into existence under the yarn division from Seide Division. On perusal of the annual reports and on perusal of the cost audit reports for various years, what is clear that the company has two integrated business units, i.e., Fabric Division (Fabric Production Unit) and Yarn Division (Yarn production unit). The gists of the said reports are appended as Annexure-III for ready reference. In all these reports, the company's performance has been classified under the two production units, namely, fabric production unit and yarn production unit. Thus, the business of fabric division which was brought into existence in yarn division is still an integral unit of Fabric production unit. Therefore, the fabric production shown under Yarn Division is nothing but the reconstruction of the existing business of Seide Division. From the details that the company's production of fabric over the years is well within the installed capacity of the fabric division shows that what company can produce under fabric division is being ITA No.1379/Bang/2010 Page 4 of 32 produced under yarn division and even such production is on account of shifting of plant and machinery from fabric division to yarn division and addition of new machinery in regular course of fabric business under Yarn Division. From the above detailed discussion, it is clear that the assessee company has brought business of Seide Division to yarn division for the purpose of only income-tax benefits. Even the accounts of Seide Division and Fabric Division, as seen Annexure-I, shows that the company has been maintaining these two divisions as separate and independent production units which were perhaps furnished to the Department by over-sight. However, the said details in Annexure-I represent true business activity of the company as the relevant details of fabric production and the revenues realized thereon are in conformity with the general trends of the fabric business and yarn business of the company. However, the details furnished along with the returns of income for all these years are manipulated in such a way that the income from Seide Division is shifted to Yarn Division with the sole intention of bringing the taxable income into the ambit of deductible income contrary to the provisions of section 10B of the IT Act. Therefore, the assessee is not entitled for deduction u/s 10B of the IT Act.
36. However, the assessee company is entitled to deduction u/s 10B only in respect of profits on sale of yarn. The profit on sale of yarn which was shown at Rs.1,87,69,856/- (profit before tax as per Companies Act) is eligible for deduction to the extent computed as per the provisions of 10B IT Act.
37. Since the details relevant to the computation of the profit under yarn sales as per the provisions of IT Act are not available, no deduction u/s 10B was computed."
3. Aggrieved by the assessment denying the benefit of section 10B of the Act, the assessee carried the matter in appeal before the first appellate authority.
4. The Commissioner of Income-tax (Appeals) after elaborately considering the submissions, the remand report and the rejoinder of the ITA No.1379/Bang/2010 Page 5 of 32 assessee allowed the appeal of the assessee. The Commissioner of Income- tax (Appeals) in his order after narrating the chronology of events of the historical facts of the case and after elaborately considering the judicial decisions concluded that based on facts of the case, it is not a case of split/reconstruction by any imagination and the issue of reconstruction, if at all could have been there, the same should have been considered in the year of establishment of the unit.
4.1 The relevant portions of the findings of the learned CIT(A) are extracted below:-
(a) "10. In the light of the (above) chronology of events, the pertinent questions for answering the same are framed as under:
(i) whether on facts and circumstances of the case, it can be held that the Filati unit was set up by splitting up or reconstructing the old and existing Seide Unit?
(ii) If the answer to the question raised at (i) above is held 'yes', is it justified to make disallowance in this AY 2006-07?
11. It is relevant to answer the question framed at (ii) above first because it goes to the root of the matter of allowance or disallowance u/s 10B of I.T. Act in this case. In order to answer the question, it is better to quote the relevant provision of the I.T. Act and interpret the same. The relevant provision is section 10B (2)(ii) reproduced below:
"This Section........................................................................ .................
(ii) It is not ....................................
........................................................................ Provided..................................................................... ........in that section."
ITA No.1379/Bang/2010 Page 6 of 3211.1. The above shows three words appearing in section 10B (2)
(ii) need deep analysis and interpretation. The words are -
(i) formed (ii) splitting up and (iii) reconstruction None of the words have been defined in the Act. However, while formation refers to the newly set up industrial undertaking which is considered eligible or otherwise to get the deduction u/s 10B (2) of I.T. Act on its manufacture or production or articles or things or computer software and export of the same from the year it has begun to produce or manufacture the same. Therefore, formation means beginning or setting up of such industrial undertaking. Setting up of any industry normally requires four factors of production commonly called as 4Ms viz.,
(i) Man (employees); (ii) method (technology) (knowledge ;) (iii) Machines/materials; & (iv) money (capital) The word 'formed' is preceded by the negative term 'not'. Therefore in order to be new, or to go out of the restraint provision of section 10B (2)(ii), the industrial undertaking should bring in everything new or at least should not bring any of these four factors from its old and existing business because that would bring it within the ambit of restrictions of 'splitting up' or 'reconstruction'. In fact, splitting up occurs when the old existing business gets divided into two or more, almost equal parts, each part getting separate names and shares from the old business dividing all the four factors of production obliterating the identity of old undertaking and, hence, such case is much more discernible from the case of 'Reconstruction'. The meaning of reconstruction is very liberal and also interpreted very liberally by the courts. The Act itself provides that the newly formed undertaking may use the machineries of the old undertaking with 20% tolerance limit vide section 80IA. In this case, the old and existing unit does not lose its identity but it gets modified to the extent that the other undertaking starts functioning by utilizing a portion of its capital, machineries, technology and manpower and, thus, the new unit was considered as formed out of reconstruction of the old unit. ................................................................................. .........................."
ITA No.1379/Bang/2010 Page 7 of 32
(b) Extensively quoting/extracting the relevant portion of the ruling of the Hon'ble highest judiciary of the land in the case of Textile Machinery Corporation Limited v. CIT (1977) 107 ITR 195 (SC), the Ld. CIT (A) went on to observe that -
"Thus, the ratio is, the new industrial undertaking must have a separate physical existence and must have an identity as a viable unit. If this condition is fulfilled, the negative conditions that it has come into existence by virtue of transfer of capital, machinery or man power or technology etc., would not be able to restrict it from getting the benefit of section 10B of I.T. Act. In the case of Textile Machinery Corporation, the assessee, a heavy engineering outfit set up two new units being Steel Foundry Division and Jute Mill Division. The Foundry Division manufactured castings which were earlier brought by the assessee. As for the Jute Mill Division, the raw materials were supplied by the existing Boiler Division. Department denied the deduction holding it a case of reconstruction because the activities of Foundry Division and Jute Mill Division were inextricably integrated with the existing units. The Supreme Court held that the assessee is eligible for the claim because these two units were distinct industrially recognizable units which cannot be treated as having been formed by the reconstruction of the old business merely because of their association or because of common ownership or because they produce the same commodities and deal with same customers. It was thus held as a case of expansion and not reconstruction. Similar is the case here. The appellant floated to manufacture and export yarn by setting up a new unit named Filati in AY 1999-2000, but, in time with the market trend it went for expanding its Fabric business by starting production of the same from Filati Unit from AY 2001-02 by obtaining the approval of CEPZ as a separate unit on 19.9.2000 to produce 'fabric' along with yarn. Hence, applying the ratio of textiles case, the Filati Division is eligible for claim of deduction u/s 10B of I.T Act not being formed either by splitting up or reconstruction of Seide Unit.ITA No.1379/Bang/2010 Page 8 of 32
(c) Asserting that the ruling of the Hon'ble Apex Court in the case of Textile Machinery Corporation cited supra which has been followed as a precedent by various judiciaries including in the cases of (i) Bajaj Tempo v.
CIT (1992) 196 ITR 188 (SC); (ii) CIT v. Adarsha Cold Storage (2006) 280 ITR 58 (All); & (iii) CIT v. Quantity Steel Tubes P. Limited (2006) 280 ITR 254, the Ld. CIT (A) emphasized that -
"11.3. The above shows that the word 'reconstruction' has made inroads into the strict interpretation of word 'formation' but still not enough to include in it cases of expansion at least by employment of some fresh capital, use of new plant and machinery, even if technology and part of man power is same.
(d) With regard to substantial employment of fresh capital, the Ld. CIT (A) relied on the finding of the Hon'ble Delhi High Court in the case of CIT v. Gedore Tools (India) P. Limited - (1980) 126 ITR 673 (Del), wherein it has been held that -
'for the employment of the capital, it should have been newly raised. If surplus reserve capital is available with an assessee in his existing business, the assessee can utilize such capital for the purchase of plant, machinery and other assets for the new unit. As soon as the capital is so utilized, it will be an employment of capital in the new unit which would entitle the new unit for tax concession available in s.80J'.
(e) Applying the ratio laid down by the Hon'ble Delhi High Court referred above, the CIT (A) had re-emphasized that -
"11.3............... In this case, admittedly capital of Rs.12.26 crores has been employed to install the ITA No.1379/Bang/2010 Page 9 of 32 machinery and in purchase of land for set up of factory in AY 2001-02 for manufacture of Fabric providing it the status of a recognizable and viable undertaking distinct and separate from existing Seide Unit even if the products are same which can be characterized as a case of expansion and not a case of formation by reconstruction."
(f) With regard to the submissions that the relief u/s 10B (2) (ii) of the Act can only be denied in the year of formation by splitting up or reconstruction and not in subsequent years or any of the subsequent years, the Ld. CIT (A) observed that the onus is very heavy on the Revenue to examine the facts in the very beginning i.e., the initial year to come to a conclusion whether the benefit u/s 10B(2)(ii) be denied or not. To form this view, the Ld. CIT (A) took support from the rulings of -
• CIT v. Nippon Electronics (India) Private Limited (1990) 181 ITR 518 (Kar);
• Tata Communications Internet Services v. ITO (2010) 130 TTJ Delhi ITAT 'E' Bench He went on further to observe that -
"11.5. I find, in this case also, exactly the same facts. Filati Division of HSL was formed on 9.4.1997 after obtaining necessary approvals from competent authorities to manufacture and export spun silk and blended yarn. Later on, it got the certificates changed to include the manufacture and export of 'fabric' also claimed the deduction u/s 10B of I.T. Act in AY 2002-03 for the first time and also was allowed by the Department. In AYs 1998-99 & 1999-2000, no claim of deduction on production of yarn by the Filati Division was made because of loss. Such loss also impelled the assessee to change its line partially to go for manufacture of fabric in a big way. In the AY 2001-02, ITA No.1379/Bang/2010 Page 10 of 32 the appellant showed loss of Rs.3,11,26,485/- in Filati Division and, therefore, did not claim any deduction u/s 10B of I.T. Act and also claimed deduction u/s 80HHC of Rs.110,24,91,850/- from the profits of Seide Unit only. The AO set off the loss of Filati Unit against the profit of Seide Unit and reduced the claim u/s 80HHC to Rs.27,27,01,073/- in the assessment completed u/s 143(3) of I.T. Act on 29.3.2004. in the AY 2002-03, the assessment was completed u/s 143(3) r.w.s. 147. On 14.12.2009, the deduction claimed u/s 10B for Filati Division of Rs.6,39,34,632/- was allowed as such. In the AY 2003-04, in the assessment completed u/s 143(3) on 27.3.2006, the claim of Rs.18,67,95,1257 u/s 10B for Filati Division was reduced to Rs.18,32,59,431/-. Similarly for the AYs. 2004.05 and 2005-06, the claims u/s 10B for Filati Division were reduced to Rs.23,92,56,051/- and Rs.30,75,72,784/- respectively from the claims of Rs.26,812,89,159/- and Rs.34,36,94,213/-. The above shows that Filati Division started as a separate unit in AY 1997-98 for production of yarn. It started production of fabric in AY 2001-02 because of loss incurred and also did not claim set off of loss but the loss was set off against the profits of Seide Unit to reduce the claim u/s 80HHC of I.T. Act. The appellant claimed the deduction u/s 10B of I.T. Act from Filati Division for fabric and yarn production taken together in AY 2002-03 for the first time. Therefore, the issue of formation out of reconstruction or splitting up could have been raised either of these three years and, therefore, the AO is not justified in disallowing the claim u/s 10B of I.T. Act in AY 2006-07 which is not the formation year of the Filati Division on the plea that the Filati Division was born out of reconstruction process of existing Seide Unit. In fact, maintenance of separate books by Filati Division separately from that of Seide Unit for making the claim u/s 10B itself also shows that it is a distinct, viable industrial unit having separate existence from Seide Unit. Compared against such positive evidence, I find the AO has not pinpointed any material evincing that the reconstruction has taken place in AY 2006-07. what was referred in the assessment order is that the same products i.e., same brand named fabrics are being manufactured and exported by the Seide Unit also ITA No.1379/Bang/2010 Page 11 of 32 which I hold that cannot be equated with the conclusion that the claim of Filati Division u/s 10B can be denied because it is born out of 'reconstruction' of Seide Unit vide -
Satish V Pai v. CIT (1979) 119 ITR 877 (Kar) & CIT v. Orient Paper Mills Limited (1974) 94 ITR 73 (Cal) In both these cited cases, the assessee had been producing the same article even prior to the new industrial undertaking as its main business. While in the former case (Pai's case) splitting up was alleged, in the latter, reconstruction was sought to be presumed. Both the decisions are in favour of the tax payers.
11.6. In view of the detailed discussion made above, I am not inclined to buy the arguments of the AO that the Filati Unit was reconstructed out of existing Seide Unit in AY 2006-07 and, hence, the claim of Rs.37,51,36,552/- made u/s. 10B(1) of I.T. Act is disallowable. Hence, the addition is deleted..........."
5. The Revenue being aggrieved is in appeal before us raising the following effective grounds :
"2. The learned Commissioner of Income-tax (Appeals) is not justified in holding that the assessee company is entitled to deduction u/s.10B of the IT Act, 1961, in respect of the Filati unit/division without appreciating the facts and circumstances under which the same was disallowed by the Assessing Officer.
3. The Commissioner of Income-tax (Appeals) erred in holding that relief u/s.10B(2)(ii) of the IT Act, 1961 can only be denied only in the year of formation by splitting up or reconstruction and not in the subsequent years or any of the subsequent years and in holding that the above deduction to be allowed if it is allowed in the earlier years.ITA No.1379/Bang/2010 Page 12 of 32
4. The Commissioner of Income-tax (Appeals) was not justified in holding the facts and circumstances of the assessee's case that the conditions laid down in section 10B(2)(ii) of the IT Act, 1961, were not violated, thereby, allowing the deduction claimed u/s.10B of the IT Act, 1961."
5.1. The Ld. D R argued that the AO had, in fact, analyzed the annual reports for various years right from 1999-00 to 2005-06 which threw light as to how healthy was the business potential of the appellant under Fabric Division and over the years it had contributed to the extent of 80 to 85% of the total revenue. However, it was claimed by the Ld. D R that the appellant over the years progressively shifted revenues of Fabric Division to Filati Division so as to reduce the taxable profits under Seide Division. It was, further, advocated that the devise adopted by the appellant, as exposed by the AO in his impugned order under dispute, was with a sole intention to shift the income from Seide Division to Yarn Division so as to bring the taxable income into the ambit of deductible income which was contrary to the provisions of s. 10B of the Act. It was, therefore, submitted that without appreciating the exposure of the modus operandi of the appellant by the AO, the Ld. CIT (A) grossly erred in deleting the denial of deduction u/s 10B of the Act. Hence, it was fervently pleaded by the Ld. D R that the impugned order of the Ld. CIT (A) deserves to be assailed. ITA No.1379/Bang/2010 Page 13 of 32
6. The AR on the other hand reiterated the submissions made before the lower authorities and relied on the findings of the first appellate authority. The learned AR has also filed a written submission to further strengthen his argument, the essence of which in a condensed form reads as follows :
- The Appellant Company established its first unit (EOU) and commenced commercial production in the year 1987 and for all these years claiming exemption u/s 10B (as allowed to EOU) and u/s 80HHC of the Act.
- Considering the market potential and the backward integration, another unit styled "Himatsingka Filati"
commenced commercial production in FY 1998-99, after obtaining necessary approvals from all the concerned authorities. Initially, approval was given in the name of Company - Himatsingka Seide Limited - which was subsequently amended as Himatsingka
- Faced with the global slowdown and falling margins for spun silk yarn and in order to capture the market potential of new kinds of fabrics, the appellant decided to expand the Filati unit by adding machineries to manufacture fabric also, in addition to yarn after obtaining approvals from all concerned authorities; that accordingly, the Appellant expanded its Filati EOU unit and made a capital expenditure of Rs. 12.28 crores which eventually in subsequent years increased to Rs.90.63 crores. The additions made in Filati unit (Fabric only) were duly disclosed in the audited balance sheet for the year ending 31.3.2001 and subsequent years.
- that the commercial production of the fabric under Filati unit commenced in October 2000. In other words from the year 2000-2001, Filati unit started manufacturing fabrics also, in addition to yarn, that ITA No.1379/Bang/2010 Page 14 of 32 deductions u/s 10B for its yarn and fabric manufacturing of the Filati unit which were allowed by the A Os in respect of AYs 2000-01 to 2005-06 and following the same basis as in earlier years, deduction u/s 10B in respect of its Filati unit.
.
- that the AO had predetermined his mind by declaring the entire sales of fabric as Seide division and sales of yarn as Filati division by grossly ignoring all the relevant records maintained by the company over the years, unit wise, showing the production of both the product i.e fabric & yarn. At no point of time, that the AO had tried to find the facts from its own records that the Seide and Filati were producing fabric and yarn, both.
- that the AO had failed to appreciate that the Filati unit was a new unit in comparison to the Seide unit which was established more than 20 years ago and was having old machineries which was on the verge of phasing out either due to the life span or due to advancement and technological changes. The new unit (Filati) was equipped with the latest machinery having high capacity and modern technique. The Filati unit was also capable to produce the latest kind of fabric which includes velvet / pile fabrics, very fine thin sheer fabrics, chenille fabrics, etc. that the AO had also failed to appreciate that it was important for the appellant to set up the most modern and new unit to meet the market requirement and demand of the modern fabric and maintain its viability; that the textile industry as a whole and the fabric manufacturing in particular had undergone a sea change in its manufacturing and technology for modernization; that to further support that Filati unit was equipped to manufacture fabrics with latest machineries, that according to a Machinery chart prepared which demonstrates the product differentiations of both the units and the utilization of the machineries. On a simple comparison of both the units, machine wise product wise and capacity wise, it is clear that Filati unit is engaged in a modern upgraded product category acceptable to the customers which were not being produced by Seide unit.
- that 10B exemption is an independent exemption available to a new manufacturing undertaking subject to ITA No.1379/Bang/2010 Page 15 of 32 fulfillment of the conditions as laid down in the provisions of Section 10B of the Act and that the unit was established in the year 1998-99 fulfilling all the conditions of an EOU and has been availing the 10B exemption since then which has all along been allowed by the department.
- That the observations of the AO in para 27 is not correct that the transfer of the assets including land, building and machineries has been done gradually to claim deduction u/s 10B. The Filati unit has been established in collaboration with M/s Filati Buratti SpA, Italy as an independent unit to produce the products based on latest technology and demand of the customers. Some transfer of the assets, if at all has been done from the Seide unit to the Filati unit, the same has been in accordance with the law and the unit has fulfilled all the conditions laid down u/s 10B right from the inception. The AO has failed to appreciate that the appellant has invested more than Rs 90 crores over the period in the Filati division to increase its production of fabric to meet the market demands. It is not a case where the production of Filati unit has increased without making any capital investment and is purely based on transfer of the assets from the Seide unit. The allegations of the AO in this regard are unfounded, without any evidence and are denied.
- the AO had disallowed the entire claim u/s 10B of the Act on the sole ground that the Filati unit must have been formed by transfer of the business from old business to new business and by way of reconstruction of the existing unit. (Refer para 33 a.) It has been submitted that the Filati unit which was established in the year 1998-99 has been set up as an independent EOU and a new undertaking, had obtained all prior approvals from the concerned authorities including CEPZ, acquired new machineries and had fulfilled all the conditions prescribed under the provisions of S. 10B of the Act. The unit has been correctly granted exemption after due verification of these provisions and the claim of the appellant u/s 10B has rightly been claimed and allowed in the earlier years. It is pertinent to note here that one arm of the Government having recognised the unit as 100% EOU, the AO cannot say that the benefit of exemption is not available to the appellant.ITA No.1379/Bang/2010 Page 16 of 32
However, for removal of doubt, the setting up of the Filati unit cannot be stated to have been formed by way of reconstruction and /or splitting up of an existing business, the appellant relies on the case laws and submissions affirming that its unit does not fall by any imagination under reconstruction and/or splitting of existing business.
- that the provisions u/s 10B of the Act provides tax holiday benefits to export oriented units. The tax holiday benefit available to the undertaking is 100% of the profits and gains derived from the export of articles or things for a period of ten consecutive assessment years beginning with the AY relevant to the previous year in which the undertaking begins to manufacture or produce articles or things.
However, the benefit u/s 10B of the Act is available to an undertaking only if it fulfills certain specified conditions, namely:
(i) it manufactures or produces any articles or things or computer software;
(ii) it is not formed by the splitting up, or the reconstruction, of a business already in existence; and
(iii) it is not formed by the transfer to a new business of machinery or plant previously used for any purpose. This clause would not apply if the value of used machinery or plant does not exceed 20% of the total machinery or plant of the undertaking.
The above provisions of the Act are analyzed as below:
Formation S. 10B(2)(ii) states that the provisions of section 10B would apply to an undertaking, which is not formed by the splitting up, or the reconstruction, of a business already in existence.
(a) A perusal of the above condition indicates that the word "formation" is crucial to determine the above but is not defined in the Act. Hence, it imbibes the meaning as is understood in common parlance. As per Oxford English Dictionary, the word "form" means, "come into being, go to make up, compose" etc. ITA No.1379/Bang/2010 Page 17 of 32
(b) The term 'formation' has also been discussed at length in various decisions of the High Court and Supreme Court in India. Though, the same was rendered in the context of exemption/deduction under section 15C of the erstwhile Indian Income-tax Act, 1922 or under the erstwhile section 84 of the Act, the principles remain the same and they can be adopted for interpreting the provisions of Section 10B of the Act. We wish to state here that the aforesaid provisions of Section 10B are also analogous to the provisions of Sections 80J, 80IA of the present Act and therefore, we have relied on the judicial precedent laid down by the Courts in India, in respect of the said sections while analyzing the issues involved.
(c) The Supreme Court examined the term "formed" in the case of CWT v Ramaraju Surgical Cotton Mills Limited. The Apex Court dealing with the expression "setting up"
occurring in Section 5(1) (xxi) of the Wealth Tax Act has observed that unless a factory is erected and plant and machinery are installed therein, it cannot be said to have been set up. The setting up is perhaps a stage anterior to the commencement of the factory and therefore an undertaking can be formed only once in its lifetime. It may be noted that the restrictive conditions enumerated above is applicable at the time of formation of the undertaking and not subsequently
(d) The term 'formed" is a stage anterior to the commencement of the factory and an undertaking can be formed only once in its lifetime.
Relies on the case law, viz., :
(i) CIT v. Nippon Electronics (India) Pvt Ltd (1990) 181 ITR 518 (Kar) Bajaj Tempo Ltd vs. CIT 196 ITR 188 (1992) (SC);
Splitting up or reconstruction
(a) The terms 'splitting up' and 'reconstruction' have not been defined in the Act. Hence, these terms have to be interpreted in the light of judicial precedents existing in this connection. Relies on the following judicial precedents:
ITA No.1379/Bang/2010 Page 18 of 32
(i) CIT Vs. Ganga Sugars Ltd. 92 ITR 160 (Del);
Textile Machinery Corporation Ltd. vs. CIT, W.Bl (1977) 107 ITR 195 (SC) The ratio of the above decisions squarely applies to the facts in the instant case.
(b) The Delhi High Court in the case of CIT v. Hindustan General Industries Limited (137 ITR 851) (1981) has interpreted that the term 'reconstruction' is no doubt very wide but it does not hold in a case of a company setting up or establishing a totally independent and viable industrial unit for carrying on the same or similar business even though it might be so set up by way of expanding the already existing business. The emphasis is not on business but on undertaking. The exemption is granted to new undertakings and the essence of the exemption is that it is a new industrial unit that is established and that it is not merely a rehash of an already existing unit.
However, the Apex Court in Metropolitan Springs (p) Ltd v. CIT (191 ITR 288) has held that even if some employees are common to the old and the new unit, it will not be a bar on eligibility or deduction.
- THAT a similar view was taken by the Apex Court in Indian Aluminium Company Ltd Vs CIT (108 ITR 367) where it was held that even if the new unit manufactures the same commodity as the old unit, it will be an eligible undertaking. While deciding whether there is splitting up or reconstruction of an undertaking, it is not necessary to see whether the new undertaking has produced a different article than that produced by the Old undertaking as held by the Madras High court in the case of Premier Cotton Mills Ltd Vs CIT (240 ITR
434)
- that recently, the Chennai Tribunal in the case of ITO vs. DSM Soft P Ltd has held that once the test of formation is satisfied by the company in its initial year of operation, the new unit cannot be held to be formed as a result of splitting up or reconstruction of its existing business merely on the ground that the company has transferred few of its employees to the new unit or it serves the same client.
ITA No.1379/Bang/2010 Page 19 of 32
- that the Mumbai Tribunal in the case of DCIT v. Shamrock (32 SOT 1) has observed that the concept of reconstruction of business would not be attracted when a company which is already running one industrial unit sets up another industrial unit. The new industrial unit would not lose its separate and independent identity even though it has been set-up by a company which is already running an industrial unit before the setting up of the new unit.
In another case the Hon'ble Allahabad High Court in the case of CIT v Mahesh Chand Gupta (279 ITR 396) has laid down that the commonalities of the customers, employees and the common agents of the old and the new units do not invalidate the claim of the assesses that it is operating a new unit and that law does not bar rightful claim of the assesses due to these aspects.
The Hon'ble Chennai Bench in the case of ITO v. Servion Global solutions Ltd (117 TTJ 380) has considered a case for exemption u/s 10A and has held that the fact that the new unit also deals with the same product as that of the old unit or that there are same old unit employees or customers cannot be taken as a ground for denying benefit u/s 10A.
- The Delhi High Court in the case of CIT vs Mahan Foods Ltd (216 CTR 148) while examining reconstruction of business already in existence had made a finding that that the formation of the new undertaking is not as a consequence of the transfer of plant and machinery of the old business and that there were substantial investments in new plant and machinery. It was also a case where a separate and distinct unit was put up for manufacturing the same item. Thus, it was held that nature of product manufactured is not the criteria for deciding whether a new unit has been set up or not. The Ld. A R also drew the reference of this Bench to the recent ruling of the jurisdictional High Court in the case of M/s.Sami Labs Ltd. V. ACIT reported in 334 ITR 157.
7. We have heard the rival submissions and perused the material on record. The Assessing Officer under mistaken notion had analysed the ITA No.1379/Bang/2010 Page 20 of 32 financial and quantitative details of the weaving (fabric) segment and yarn segment separately. He was of the view that the Seide unit of the assessee was exclusively manufacturing fabrics whereas Filati unit was exclusively manufacturing yarn and not fabric. The Assessing Officer held that the company started shifting the business of the weaving unit (Seide/ fabric units) to the yarn division (Filati unit) on a gradual basis so as to reduce the impact on taxes on the weaving unit. It was further held by the Assessing Officer that the assessee company had transferred assets which include land, buildings and plant and machinery of the weaving division to Filati division gradually and started showing the turnover of the very transferred assets under the Filati division of the company and started claiming deduction u/s.10B of the Act and correspondingly, the turnover under Seide unit had been brought down substantially. This mistaken conclusion drawn by the Assessing Officer that the Seide unit is exclusively manufacturing fabrics and Filati unit is exclusively manufacturing yarn probably could have occurred due to the assessee furnishing segment-wise accounts (product-wise). The assessee being a company was also required to report segment-wise accounts (product-wise) as per the Accounting Standards-17. The assessee while submitting information to the Assessing Officer inadvertently submitted the segment wise instead of unit wise profitability and balance-sheet. It was submitted that the copies of the segment wise accounts are furnished to respective stock exchange in which the assessee ITA No.1379/Bang/2010 Page 21 of 32 shares are listed and it is a matter of record. A copy of the segment wise accounts published in the Business Standard newspaper for the year ending 31.03.2006 and audited balance sheet for the concerned year disclosing segment wise figures are enclosed in the paper book filed by the assessee. We are of the view the Assessing Officer misconstrued the facts and concluded that segment wise accounts were the unit wise accounts. The Assessing Officer ignored all the documents and records and in particular the unit wise audit report of Filati unit u/s.10B of the Act. 7.1. At this juncture, it is worthwhile to record the chronology of the events of the assessee company. Though the chronology of events are recorded in a tabular form in the impugned order of the Commissioner of Income-tax (Appeals), for the sake of convenience, the same is reproduced below :
Sl. No. Date/year Event
1. 1985 HSL was incorporated to manufacture and export
Natural Silk fabric.
2. 1987 First unit called Seide Unit was established as
100% EOU.
Started commercial production of fabric, etc.
3. 31.3.1995 Under Green Card No.269, the HSL got approval A.Y.1995-96 of CEPZ To produce spun silk and blended yarn in the factory Located at Veerapura Village, Doddaballapur, Bangalore.
4. 9-4-1997 Filati Division got the certificate to manufacture (F.Y.1997-98) spun ITA No.1379/Bang/2010 Page 22 of 32 A.Y. 1998-99 Silk and blended yarn vide reference No.1/32/96 :
EOU:
CEPZ/1222 date 9-4-1997 (Copy enclosed as Annexure-I). This certificate shows The Filati Division was given a distinct identification by Change of name from HSL to Himatsingka Filati Division Of HSL. Project cost of Rs.49.07 was shown in the Balance sheet.
5. (April, 1998) Commercial production of yarn started in Filati F.Y. 1998-99 unit.
assessment year Loss resulting from such business was reflected in 1999-2000 the Return. The Department considered such loss of Filati Division to reduce the claim of deduction under section 80 HHC of I T Act.
6. 19-09-2000 (i) Filati unit added machineries valued at F.Y. 2000-01 Rs.12,27,54,090/- to manufacture fabric and also assessment year Obtained the approval from CEPZ on 19-9-2000 to 2001-02 Produce fabrics along with its original product yarn.
In October, 2000, it started commercial production In fabric also.
(ii) Thus, Filati unit became manufacturer and exporter Of yarn as well as fabric while Seide unit remained Exclusively the manufacture and exporter of fabric only.
(iii) Filati unit claimed deduction under section 10B for Both fabric as well as yarn and department allowed the Claim partially.
7. A.Y. 2002-03, In all these years, claim of deduction under section 03-04, 04-05 10B & 05-06 Was made by the Filati Unit for its manufacture and Export of yarn as well as fabric and was also accepted by ITA No.1379/Bang/2010 Page 23 of 32 The department with minor changes in quantification.
8. A.Y. 2006-07 The claim of deduction under section 10B Relating to Filati Unit was denied by the Assessing Officer on the Ground that the same has been formed by splitting up or Reconstruction of the existing Seide Unit.
Till 1999-2000, fabric was produced only in Seide unit and Filati unit was producing only yarn. Later on Filati unit was expanded by adding machinery to manufacture fabric in addition to yarn. Necessary approvals were duly obtained from all concerned authorities including the approval of CEPZ. CEPZ gave their approval vide letter No.1/32:96:EOU:CEPZ/6447 dated 19 September, 2000 clearly giving the approval for the manufacture of velvet pile fabrics and other kinds of fabrics (Annexure F of paper book). CEPZ also issued revised Green Card No.450 dated 8.3.01 giving the various products to be manufactured by the unit i.e. Yarns of spun silk/woolen/viscose/blends, Velvet (Pile) & chenille fabrics made out of Spun Silk/Natural silk/woolen/Viscose/cotton & blends (Inc. Jacquard woven) (Courtesy : Annexure G of paper book). Based on the approval, the assessee expanded its Filati EOU and made a capital expenditure of Rs.12.28 crores which eventually in subsequent years increased to Rs.90.63 crores. The additions to fixed assets made in the Filati unit (Fabric only) are duly disclosed in the audited balance sheet for the year ending 31.3.2001 and subsequent years. The year-wise break up of the additions to ITA No.1379/Bang/2010 Page 24 of 32 the fixed assets made in the Filati Unit is detailed at Annexure H of the paper book. The Plant and machinery mainly included weaving looms etc. to manufacture fabrics in addition to yarn by the Filati unit. The commercial production of the fabric under Filati unit was commenced in October, 2000. In other words, from the year 2000-01, Filati unit started manufacturing fabrics also, in addition to yarn. The production & sales made by the Filati unit of fabrics as well as yarn have duly been reflected in the books of accounts maintained by the assessee and the same formed part of the balance sheet and based on the income tax returns filed by the assessee; the same has been duly assessed accordingly. The assessee claimed deductions under section 10B for its yarn and fabric manufacturing of the Filati unit and the same have been duty allowed by the respective Assessing Officers in respect of assessment years 2000-01, 2001-02, 2002- 03, 2003-04, 2004-05, 2005-06.
The summarized claim of the assessee year wise is as under :
FY AY Product line Profit/(loss) 10B claim allowed by Rs. Assessing Officer Rs.
1998-99 1999-00 Yarn (29,091,721) Loss ignored, being 10B
unit and not set off
1999-00 2000-01 Yarn (17,353,470)
against other profits.
2000-01 2001-02 Yarn & Fabrics (31,126,485) 2001-02 2002-03 -do- 67,900,502 63,934,532 2002-03 2003-04 -do- 213,830,976 183259,431 2003-04 2004-05 -do- 280,112,162 239,256,051 ITA No.1379/Bang/2010 Page 25 of 32 2004-05 2005-06 -do- 343,698,388 307,572,784 2005-06 2006-07 -do- 392,943,877 Disallowed first time by Assessing Officer, allowed by CIT(Appeals) and Dept. is in ITAT From the above, it is clear that the assessee has been claiming deduction under section 10B of the Act from the year in which it has been set up, namely, A. Y.1999-00 onwards. It was a loss for the A.Ys.1999-00 to 2001-02. Loss was ignored and was not set off against the other profits of the assessee company. The deduction under section 10B of the Act was allowed from assessment year 2002-03 onwards. The claim of deduction u/s.10B has been denied for the first time in this assessment year, namely, A. Y. 2006-07. The onus is very heavy on the Revenue to examine the facts in the initial year and come to a conclusion whether benefit u/s.10B(2)(ii) is to be allowed or denied. This legal proposition has been elaborately discussed by the jurisdictional High Court in CIT v. Nippon Electronics (India) Pvt. Ltd., (1990) (181 ITR 518) and Sami Labs Ltd., v.
ACIT (2011) (334 ITR 157).
7.2. The observations of the Assessing Officer in para 27 is not correct that the transfer of the assets including land, building and machineries has been done gradually to claim deduction under section 10B.
The Filati unit has been established in collaboration with M/s Filati Buratti Spa, Italy as an independent unit to produce the products based on latest ITA No.1379/Bang/2010 Page 26 of 32 technology and demand of the customers. Some transfer of the assets, if at all has been done from the Seide unit to the Filati unit, the same has been in accordance with the law and the unit has fulfilled all the conditions laid down under section 10B right from the inception. The Assessing Officer has failed to appreciate that the assessee has invested more than Rs.90 crores over the period in the Filati division to increase its production of fabric to meet the market demands. The depreciation has been claimed and allowed. It is not a case where the production of Filati unit has increased without making any capital investment and is purely based on transfer of the assets from the Seide unit. The allegations of the Assessing Officer in this regard are unfounded without any substance and evidence. Even assuming if there is some transfer of machinery and plant from the Seide unit to the Filati unit, the Assessing Officer does not have a case that such transfer exceed the prescribed limit, namely, the transferred machinery and plant value, exceeded 20% [Explanation to Section 10B(2) r.w. Explanation 2 to Section 80i(2)] of the total value of the machinery and plant used in the business of Filati unit.
7.3. Another important aspect to be noted is the fabric manufacturing capacity in the Filati unit was 14,12,194 (quantity in meters) whereas the production was only to the extent of 76% of the installed capacity during the current financial year. Therefore, when the Filati unit ITA No.1379/Bang/2010 Page 27 of 32 has not utilized its full capacity, utilization production of fabric, the Assessing Officer's statement that the assessee has shifted fabric sales turnover from Seide unit to Filati unit, is only a presumption without any evidence to substantiate the same.
7.4. Therefore, we are in total agreement with the sound reasoning of the first appellate authority that the Filati Division started as a separate unit in AY 1997-98 for production of yarn. It started production of Fabric in AY 2001-02 because of loss incurred and also did not claim set off of loss, but, the loss was set off against the profits of Seide Unit to reduce the claim u/s 80HHC of I.T. Act. The appellant claimed deduction u/s 10B of I.T.Act from Filati Division for fabric and yarn production taken together in AY 2002-03 for the first time. Therefore, the issue of formation out of reconstruction or splitting up could have been raised either of these three assessment years and, therefore, the AO is not justified in disallowing the claim u/s 10B of I.T. Act in AY 2006-07 which is not the formation year of the Filati Division on the plea that the Filati Division was born out of reconstruction process of existing Seide Unit. 7.4.1. At this juncture, we venture to quote the rulings of various judiciaries on a similar issue:
(a) In the case of CIT v. Nippon Electronics (India) Pvt. Ltd reported in 181 ITR 518 (Kar), the Hon'ble ITA No.1379/Bang/2010 Page 28 of 32 jurisdictional Court had held in the context of s.80J of the Act that "the word 'formed' suggests that the transfer contemplated is one at the time of formation of the new undertaking. Once the condition is satisfied in the year of formation of the Unit, there is no need to look at this condition in later years."
The ratio laid down by the Hon'ble Court is directly applicable to the issue on hand. In the present case, the claim of deduction u/s 10B of the Act for Filati Division for the AY 2002-03 was allowed. Subsequently, the claims for deductions u/s 10B of the Act for Filati Division were allowed for the AYs. 2003-04 to 2005-06, of course, at reduced propositions. This unambiguously proves that the AO must have come to a definite conclusion that there was neither reconstruction nor splitting up of the existing units, and, therefore, allowed the appellant's claim though at reduced amounts, otherwise, it is a simple logic that he could have raked up the issue at that relevant time itself.
(b) With regard to the AO's allegation that there was 'reconstruction' of the existing business of appellant's Seide Division, it may not be inappropriate to quote the ruling of the Hon'ble Apex Court on a similar issue in the case of Textile Machinery Corporation Ltd. V. CIT (1977) 107 ITR 195 (SC) as under:
"A new activity launched by the assessee by establishing new plants and machinery by investing substantial funds may produce the same commodities of the old business or it may produce some other distinct marketable products, even commodities which may feed the old business. These products ITA No.1379/Bang/2010 Page 29 of 32 may be consumed by the assessee in his old business or may be sold in the open market. One thing is certain that the new undertaking must be an integrated unit by itself wherein articles are produced and at least a minimum of ten persons with the aid of power and a minimum of twenty persons without the aid of power have been employed. Such a new industrially recognizable unit of an assessee cannot be said to be reconstruction of his old business since there is no transfer of any assets of the old business to the new undertaking which takes place when there is reconstruction of the old business. For the purpose of Section 15C the industrial units set up must be new in the sense that new plants and machinery are erected for producing either the same commodities or some distinct commodities. In order to deny the benefit of Section 15C the new undertaking must be formed by reconstruction of the old business.
If an undertaking is not formed by the reconstruction of the old business that undertaking will not be denied the benefit of section 15C merely because it goes to expand the general business of the assessee in some directions.
Use by the assessee of the articles produced in its existing business or the concept of expansion are not decisive tests in construing section 15C."
(c) Incidentally, the Hon'ble Delhi High Court in the case of CIT v. Hindustan General Industries Limited reported in (1981) 137 ITR 851 (Del) had interpreted that the term 'reconstruction' is no doubt very wide but it does not hold in a case of a company setting up or establishing a totally independent and viable industrial unit for carrying on the same or similar business even though it might be so set up by way of expanding the already existing business. The emphasis is not on business but on undertaking. The exemption is granted to new undertakings and the essence of the ITA No.1379/Bang/2010 Page 30 of 32 exemption is that it is a new industrial unit that is established and that it is not merely a rehash of an already existing unit.
(d) The Hon'ble ITAT, 'E' Bench in the case of Tata Communications Internet Services v. ITO reported in (2010) 130 TTJ (Del) had allowed the claim of the assessee by holding that such objection could only be made in the first year of formation or at best the first year of the claim made and not in subsequent years especially when in earlier years, no objection had been raised on such ground even if assessment was completed under scrutiny and such claims had been accepted by the Department as such."
(e) To top it all, the Hon'ble jurisdictional High Court in the case of Sami Labs Ltd. Reported in 334 ITR 157 had observed that -
'starting point of the holiday period would be the year in which the manufacture or production of the article begins and there is no dispute on this. Eligibility test has to be in the initial assessment year and if for any reason like not earning profits and gains in the initial years on account of its infancy and on account of non- stabilization of its unit, as the case may be it may not be able to derive the benefits flowing from Sec.10-B in that year, but would be eligible to avail the same in any of the succeeding years, once it is found eligible in the initial year of manufacture. .........."
In an overall consideration of the facts and circumstances of the issue as deliberated upon in the fore-going paragraphs and also in conformity with the precedent laid down by various judiciaries, chiefly, the jurisdictional Hon'ble High Court in the case of M/s. Sami Labs Limited v. ITA No.1379/Bang/2010 Page 31 of 32 ACIT cited supra, we are of the unanimous view that the Ld. CIT (A) was fully justified in finding fault with the AO that (i) the AO ought to have raised such a bogey of the alleged formation out of reconstruction or splitting up of the existing business of Seide Division etc., when the appellant had initially claimed such a deduction in the AY 2002-03 itself; and (ii) he ( the AO) was also not justified in disallowing such a claim in the AY under challenge which incidentally not the formation year of the alleged Filati Division. Furthermore, the stand of the AO had, in fact, been contrary to the very spirit of the ruling of the jurisdictional High Court cited above. In essence -
(i) the appellant was eligible for claim since those two units were distinct industrially recognizable units which, in our considered view, cannot be categorized as having been formed by the reconstruction merely because of common ownership or because it produced the same commodities and deal with the same customers. It has, therefore, been classified as a case of expansion, but, not reconstruction or splitting up as alleged by the Revenue; &
(ii) though hypothetical, the AO's alleged claim of yarn division of the appellant was nothing but the reconstruction of the existing business of Seide Division, even then also the AO was forbidden in disallowing the claim of the appellant u/s 10-B of the Act for the AY under dispute which was, admittedly, not the formation of Filati Division.
8. In a nut-shell, the findings of the Ld. CIT (A) require no intervention of this Bench. It is ordered accordingly.
ITA No.1379/Bang/2010 Page 32 of 32
9. In the result, the Revenue's appeal is dismissed. Order pronounced in open court on 27/01/2012.
Sd/- Sd/-
(GEORGE GEORGE K) (N. BARATHVAJA SANKAR)
JUDICIAL MEMBER VICE PRESIDENT