Income Tax Appellate Tribunal - Mumbai
Reliance Industries Ltd., Mumbai vs Department Of Income Tax on 11 May, 2012
IN THE INCOME TAX APPELLATE TRIBUNAL, MUMBAI BENCH "L",
MUMBAI
BEFORE SHRI B.R.MITTAL (J.M) AND SHRI J.SUDHAKAR REDDY (A.M)
ITA NO.3082/MUM/06(A.Y.2002-03)
Reliance Industries Ltd., Addl. Commissioner of Income
Maker Chamber IV, Tax, Range 3(3),
3rd Floor, 222, Nariman Point, Vs. Aaykar Bhavan, Room No.617,
Mumbai - 400 021. M.K. Road, Mumbai - 400 020.
PAN: AAACR 5055K
(Appellant) (Respondent)
ITA NO.3420/MUM/06(A.Y.2002-03)
Dy. Commissioner of Income Tax, Reliance Industries Ltd.,
Range 3(3), Maker Chamber IV,
Aaykar Bhavan, Room No.605, Vs. 3rd Floor, 222, Nariman Point,
M.K. Road, Mumbai - 400 020. Mumbai - 400 021.
(Appellant) PAN: AAACR 5055K
(Respondent)
Assessee by : Shri Arvind Sonde
Department by : Shri Ajeet Kumar Jain
Date of hearing : 11/05/2012
Date of pronouncement : 28/05/2012
ORDER
PER BENCH, These cross appeals are filed by the assessee and department for assessment year 2002-03 against order of ld. CIT(A) dated 24/3/2006 disputing the confirmation of additions and / or deletion of additions made by the AO.
2 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)2. The relevant facts giving rise to these appeals are that the assessee is a public limited company. During the relevant assessment year under consideration, the assessee was engaged in the business of oil exploration and refining crude oil, manufacture and trading of petrochemicals and fibres, textiles etc. The assessee filed the return of income on 31/10/2002 declaring total income of Rs. Nil under normal provisions of the Income Tax Act, 1961(the Act) and income of Rs.2429,04,33,473/- under section 115JB of the Act. Subsequently the assessee revised the return on 8/3/2004 declaring loss of Rs. 117.03 crores under the normal provisions and of Rs.2429,04,33,473/- under section 115JB of the Act. The AO completed the assessment under section 143(3) of the Act on 28/3/2005 determining taxable income at Rs. 475,83,23,696/- after deduction under Chapter VIA and set off of brought forward losses and income under section 115JB of the Act was computed at Rs. 3670,41,60,500/-. Being aggrieved the assessee filed an appeal before the ld. CIT(A) disputing the various additions/ disallowances made by the AO while computing the income. The ld. CIT(A) allowed the appeal of the assessee in part. Hence, the assessee as well as the department are in appeal before the Tribunal.
3. First we shall take up the appeal filed by the assessee being ITA No.3082/Mum/06 for our consideration. Since there are certain grounds in the appeal of the department connected with grounds of appeal of the assessee, we shall also dispose off those grounds as well with the appeal of the assessee.
4. Ground No.1 of the appeal of the assessee reads as under:
"1. The learned Commissioner of Income-tax (Appeals-III) (hereinafter referred to as CIT(A)) erred in not adjudicating on the Appellant's alternative plea that there is a deemed payment of sales tax and therefore, the amount of Rs. 1024,34,61,999/- is allowable as per the provisions of Section 43B of the Income Tax Act, 1961.3 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)
The appellant submits that there is a deemed payment of sales tax which is allowable u/s. 43B of the Act and the CIT(A) ought to have given a decision on this issue in favour of the Appellant."
4.1 This ground of appeal of the assessee is connected with Ground No.1 of the appeal of the department, which reads as under:
"1. On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the addition on the notional sales tax of Rs.10,24,34,61,999/- which has been treated as revenue receipt by the Assessing Officer."
4.2 The assessee claimed deduction of notional sales tax of Rs. 1024,34,61,999/- as capital receipt which was received under various schemes of Government of Maharashtra and Government of Gujarat in respect of assessee's project at Patalganga, Jamnagar and Hazira. The said notional sales tax so received by the assessee was treated as capital receipt not liable to tax. The AO relying upon the decision of ITAT, Mumbai Bench in the case of Bajaj Auto Ltd., in ITA No.49 & 1101/Bom/91 for assessment year 1987-88 treated the said notional sales tax as revenue receipt liable to tax on the ground that such sales tax subsidy is an operational subsidy. The AO also placed reliance on the decision of the Hon'ble Apex Court in the case of Sahani Steel and Press Works Ltd. 228 ITR 253. Being aggrieved the assessee filed appeal before the first appellate authority.
4.3 On behalf of the assessee it was contended that the sales tax exemption given under the schemes by the Government of Maharashtra and Government of Gujarat are towards the objective of dispersal of industry, development of backward area and generating employment opportunities, hence, the same is in the nature of capital receipt not liable to tax. It was contended that the subsidy is not in the nature of operational subsidy intended and supplementing profit of the assessee nor it is in the nature of grant for meeting the cost of plant and machinery. Such subsidy is in the nature of capital receipt not liable to tax. It was contended that the said 4 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) issue was considered by Special Bench of ITAT, Mumbai in assessee's own case for A.Y 1986-87 reported at 88 ITD 273(SB) and the Tribunal confirmed its earlier decision in assessee's own case for assessment years 1984-85 and 85-86 that the sales tax subsidy granted to the assessee is in the nature of capital receipt not liable to tax. It was contended that the Tribunal also considered the decision of the Hon'ble Apex Court in the case of Sahney Steel and Press Works Ltd.(supra). He submitted that the Special Bench while deciding the issue in favour of the assessee also considered the decision of another Bench of ITAT Mumbai in the case of Bajaj Auto Limited (supra) which had taken a contrary view that the subsidy is revenue receipt. It was contended that in subsequent assessment years ITAT has allowed similar claim of the assessee and even in the just preceding assessment year 2001-02 the claim for deduction of notional sales tax was held in the nature of capital receipt not liable to tax. The ld. CIT(A) accepted the above contention of the assessee and held that the claim for deduction of notional sales tax of Rs. 1024,34,61,999/- should be allowed as deduction as it is in the nature of capital receipt not liable to tax.
4.4 The assessee has also taken an alternative submission before the ld. CIT(A) that if the amount of subsidy is regarded as revenue receipt then such sales tax incentives received should be allowed as a deduction under section 43B of the Act while computing the total income of the assessee. It is relevant to state that the ld. CIT(A) has stated that the main contention of the assessee regarding notional sales tax being capital receipt not liable to tax has been allowed, it is not considered necessary to go into the alternative plea of the assessee claiming notional sales tax as deductible under section 43B of the Act. He has also stated that a similar alternative plea taken by the assessee in A.Y 2001-02 had been rejected by his predecessor for the reason that CBDT Circular No.496 dated 25/9/1987 clarified the position regarding applicability of the provisions of section 43B only to sales tax 5 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) deferral scheme. This circular did not apply to the sales tax exemption scheme availed by the assessee.
4.5 Hence, the assessee as well as department are in appeal before the Tribunal.
4.6 At the time of hearing of the appeal, the ld. Representatives of both the parties conceded that deletion of addition on account of sales tax incentives holding the same to be a capital receipt is covered in favour of the assessee by the Special Bench decision of the Tribunal in assessee's own case reported in 88 ITD 273. In the light of the said decision of the Special Bench in assessee's own case, the order of ld. CIT(A) to hold that the claim of deduction of the assessee of notional sales tax of Rs. 1024,34,61,999/- is to be held as capital receipt not liable to tax.
4.7 Respectfully following the above decision of the Special Bench of ITAT in assessee's own case we uphold the order of ld. CIT(A) that the claim for treatment of notional sales tax of Rs. 1024,34,61,999/- is capital receipt. Hence, we uphold the order of ld. CIT(A) on this issue and ground No.1 of the appeal taken by the department is rejected. Since ground No.1 in assessee's appeal is an alternative ground, we hold that ld. CIT(A) has rightly held that it is not necessary to go into the alternative plea of the assessee as claiming the notional sales tax as deductible under section 43B of the Act. Therefore, ground No.1 of the appeal taken by the assessee is rejected.
5. In ground No.2 of the appeal of the assessee, the assessee has disputed the order of ld. CIT(A) in confirming the disallowance of interest of Rs.11,19,382/- being interest referable to interest free loans and advances given to subsidiary companies.
6 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)5.1 The AO has stated that assessee has advanced interest free loans to its subsidiary companies. The AO has stated that assessee was asked to prove the nexus between source of funds out of which advances were given to its subsidiary companies and interest free or own funds available with the assesse. The assessee filed details and stated that the assessee had given loans and advances of Rs.2988.98 crores to its subsidiaries as on 31/3/2002, out its own funds and internal accruals except to he extent of Rs.9,89,04,473/-. The amount of interest on the advances of Rs. 9.89 crores given out of other than own funds worked out to Rs. 11,19,382/-. The AO relying upon the decision of Hon'ble Kerala High Court in the case of V.I. Baby & Company, 254 ITR 248 and decision of the Hon'ble Bombay High Court in the case of Phalton Sugar Works Ltd., 208 ITR 989 disallowed the said interest of Rs. 11,19,382/-. Being aggrieved the assessee filed appeal before the first appellate authority.
5.2 It was contended on behalf of the assessee that assessee's own funds were far in excess of the interest free loans given to its subsidiaries. It was contended that as per audited accounts, assessee's own funds as on 31/3/2002 stood at Rs.25,136.76 crores and, therefore, interest free loans given to its subsidiaries should be considered as having been given out of its own funds. It was contended that assessee had not taken any specific interest bearing loans for advancing interest free loans to its subsidiaries. It was submitted that in view of the fungibility of the funds available, it can be legitimately presumed that the interest free loans given to the subsidiaries had been given out of own funds of the assessee company deployed in the business. It was also contended that the net profit after tax and before depreciation during the year stood at Rs.7054.84 crores. Thus, the net profit for the year under consideration exceeded not only the incremental loans given to the subsidiaries during the year but even 7 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) exceeded the total interest free loans of Rs.2988.98 crores given to the subsidiaries as on 31/3/2002. It was also contended that in the absence of any nexus between the interest bearing borrowed funds and the interest free loans given to subsidiaries and considering the fungibility of funds and the fact that own funds far exceeded such loans, it has to be presumed that such interest free loans had been given out of own funds.
5.3 The ld. CIT(A) after considering the submissions of the assessee and cases relied upon on behalf of the assessee, details given at page 18 of the impugned order, held that borrowed funds to the extent of Rs. 9.89 crores was actually utilized for advancing interest free advances to subsidiaries. Therefore, ld. CIT(A) confirmed the action of the AO in disallowing interest on account of diversion of funds for non-business purposes, which comes to Rs. 11,19,382/-. Hence, the assessee is in appeal before the Tribunal.
5.4 During the course of hearing the ld. A.R reiterated the submissions as were made before the first appellate authority that the assessee had its own funds far more than the interest free loans and advances given to its subsidiary company. The ld. A.R relying on the decision of the Hon'ble Bombay High Court in the case of Reliance Utilities & Power Ltd., vs. CIT 313 ITR 340 submitted that no disallowance out of interest expenditure is to be made if interest free funds were sufficient to meet the investment made. He further submitted that the Hon'ble Apex Court has also held in the case of S.A.Builders Ltd., vs. CIT, 288 ITR 1 that when loan to its subsidiary is given in the course and for the purpose of business of its business, no disallowance of interest has to be made. He submitted that in view of above decisions, the disallowance of interest is not justified and the same should be deleted.
5.5 On the other hand, ld. D.R relied on the orders of the authorities below.
8 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)5.6 We have carefully considered the submissions of the ld. representatives of the parties and orders of the authorities below. We have also considered the cases relied upon by the authorities below as well as the cases cited by ld. A.R (supra). There is no dispute to the fact that the assessee's own funds are far in excess of the interest free loans and advances given by the assessee to its subsidiary companies . The Hon'ble Bombay High Court has held in the case of Reliance Utilities & Power Ltd.(supra) that if there were funds available both interest free and overdraft / or loans taken, then presumption would arise that investment would be out of interest free funds generated or available with the company. It was held that if interest free funds were sufficient to meet the investments made, in that case a presumption is established that the borrowed capital was used for the purpose of business and the interest expenditure is deductible under section 36(1)(iii) of the Act. The similar view has also been considered by the Hon'ble Calcutta High Court in Wool Combers of India Ltd., 134 ITR 219 (Cal), wherein it was held that if there were sufficient profits available to meet the advance tax liability and the profits were deposited in the overdraft account of the assessee; in such a case it should be presumed that the taxes were paid out of profits of the year and not out of the overdraft account for the running of the business. Considering subsequent decision of the Hon'ble Jurisdictional High Court in the case of Reliance Utilities & Power Ltd.(supra), wherein it was specifically held that if interest free funds available to an assessee is sufficient to meet its investment, it can be presumed that the investments were made from the interest free funds available with the assessee. Therefore, considering the fact that the assessee had its own funds more than the loans given to its subsidiaries and also in the absence of any nexus establishing that the interest bearing borrowed funds were given as interest free to its subsidiaries, we hold that the disallowance of interest is not justified.
9 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)Therefore, interest is allowable under section 36(1)(iii) of the Act. Hence, ground No.2 of the appeal taken by the assessee is allowed.
6. Ground No.3 of the appeal of the assessee relates to confirmation of the additions made by the AO of Rs. 9,30,61,010/- on account of interest on income tax refund granted to the assessee.
6.1 At the time of hearing ld. A.R conceded that identical issue came up for consideration before the Tribunal in assessee's own case for the assessment years 1996-97 and 1997-98 and the Tribunal vide its order dated 23/3/2007 in ITA No.3430/M/01 & 4401/M/02 decided the issue against the assessee. He conceded that similar issue again came up before the Tribunal in assesssee's own case in A.Y 2001-02 and the Tribunal vide its order dated 30/4/2008 by following its earlier order decided the issue against the assessee by reversing the order of the ld. CIT(A).
6.2 In view of the above we reject Ground No.3 of the appeal taken by the assessee by confirming the order of the CIT(A).
7. In ground No.4 the assessee has disputed the order of the ld. CIT(A) in confirming the disallowance of an estimated expenses of Rs. 2,56,58,887/- out of administrative expenses under section 14A of the Act being expenditure incurred in relation to earning the dividend income exempt under section 10(33) and interest income exempt under section 10(23G) of the Act while computing book profit as well as under the normal provisions of the Act.
7.1 This ground of appeal of the assessee is connected with Ground No.4 of the appeal of the department which reads as under:
"4. On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the disallowance of expenditure 10 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) incurred for earning exempt income from Rs. 66,71,05,360/- to 1% of the exempted income."
7.2 The relevant facts are that assessee earned dividend income of Rs. 23,77,75,384/- and interest income of Rs.232,81,13,284/-, which were claimed exempt under section 10(33) and 10(23G) of the Act respectively. The assessee stated that it had not incurred any expenditure towards earning of the said exempt income. However, the AO estimated Rs.62.34 crores being proportionate interest on borrowed funds and Rs. 3.97 cores being proportionate administrative and other expenses towards earning exempt income and disallowed the same under section 14A of the Act. Being aggrieved assessee filed appeal before the first appellate authority.
7.3 On behalf of the assessee it was contended that interest, administrative and other expenses were incurred by the assessee in the normal course of carrying on its business and for maintaining its corporate status. It was also contended that the AO has not demonstrated any nexus between incurring of the said expenses and earning of exempt income. It was also contended that assessee's own funds were far greater than its investments and interest free advances given, and it cannot be said that part of the borrowed funds were utilized for making investments. It was contended that no part of interest and administrative and other expenses can be disallowed.
7.4 However, the ld. CIT(A) has held that the AO has not brought on record any evidence to show that the expenditure had actually been incurred by the assessee for earning exempt income. He has further stated that it has not been shown that borrowed funds had been employed for making investment which yielded the interest income and in absence of any nexus, disallowance made out of the interest expenses cannot be sustained, particularly when own funds of the assessee company were far in excess of 11 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) the total amount of investment made. Ld. CIT(A) has held that the disallowance made under section 14A of the Act out of the interest expenditure incurred by the assessee is deleted. However, the ld. CIT(A) has held that while earning exempt income some administrative expenditure must inevitably be incurred on the management of portfolio, taping skills for taking investment decisions, bank collection charges etc. The ld. CIT(A) has stated that from the records of the preceding years the amount of disallowance has been restricted by his predecessor to Rs. 20.00 lacs for A.Y 2000-01 and Rs. 40.00 lacs for the A.Y 2001-02, which works out to about 1% of the exempt income. Therefore, ld. CIT(A) on the same basis, has restricted the disallowance @1% of the exempt income of Rs.256,858,88,668/- which works out to Rs.2,56,58,887/-. Hence ld. CIT(A) restricted disallowance under section 14A to Rs. 2,56,58,887/- for the purpose of computation of income under normal provisions of the Act and also for computing book profit under section 115JB of the Act. Therefore, the assessee as well the department are in appeal before the Tribunal.
7.5 At the time of hearing ld. A.R submitted that ground No.4 of the appeal taken by it is not pressed for. However, in respect of the ground No.4 of the appeal taken by the Department, Ld. A.R made his submissions on the lines of the submissions made before the authorities below and also placed reliance on the decision of the Hon'ble Jurisdictional High Court in the case of Reliance Utilities & Power Ltd.(supra).
7.6 On the other hand, ld. D.R relied on the order of the A.O. 7.7 We have carefully considered the submissions of the ld. representatives of the parties. In respect of ground No.4 of the appeal taken by the assessee, ld. A.R submitted that this ground is not pressed for and it is rejected. However, in respect of ground No.4 of the appeal of 12 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) the Department, we for the reasons given herein above in para 5.6 while considering ground No.2 of the appeal of the assessee that its own funds are far in excess than the investments made by the assessee giving exempt income, the disallowance of the interest made by the A.O is not justified as it has to be presumed that the investments had come from the interest free funds available with the assessee Hence, ground No.4 of the appeal of the department is also rejected.
8. Ground No.5 of the appeal comprised of four parts. Further it is also connected with ground Nos.5,6 & 7 of the appeal of the department.
8.1 The relevant facts giving rise to these grounds of appeal of the assessee as well as the department are that the assessee claimed deduction under section 80 HHC of the Act at nil under normal provisions of the Act and Rs.1123,39,00,259/- for computing book profit under section 115JB of the Act in its revised return of income. The AO worked out the claim for deduction under section 80 HHC of the Act at nil under normal provisions of the Act as well as for computing book profit under section 115JB of the Act.
8.2 The assessee computed the claim under section 80 HHC of the Act as under : (From page 24 of CIT(A) ):
(a) Computing profits of the business by excluding:
(i) 90% of rent receipt of Rs.8104.63 lacs included in other income and
(ii) deduction u/s. 80IA/80IB allowable of only three exporting units. i.e. HDPE-1, MEG and PVC worked out in proposition of export turnover to total turnover of the particular unit.
(b) Considering sales excluding excise duty and sales tax.
However, the AO has computed the claim u/s. 80 HHC by:
A) (i) excluding 90% of the following Other income
(1) Interest 54111.11 lacs
(2) Rent 8104.63 lacs
(3) Adhoc Miscellaneous
Income 1000.00 lacs
13 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)
Total 63215.74 lacs
90% of above 56894.17 lacs
(ii) excluding total deduction allowable under section 80IA/80IB of the Income Tax Act, 1961 relating to all the units aggregating to Rs.
68020.84 lacs ( as against the claim of the Appellant of Rs. 63461.26 lacs.) B) Considering sales including excise duty and sales tax."
8.3 In respect of exclusion of 90% of interest by the A.O, the assessee contended that interest income is earned in the normal course of business and it forms part of the business defined under section 80IA of the Act . It was also contended that interest income is to be set off against interest paid and only if there is surplus interest income, the same needs to be considered while working out the figure of profit of business in accordance with provisions of section 80 HHC of the Act. It was contended that interest paid exceeded the interest received and hence, no deduction @90% of interest received is required to be made while computing claim for deduction u/s. 80 HHC of the Act.
8.4 It was also contended that 90% of only net interest received should be considered for reducing from the profit of business for computing deduction under section 80 HHC of the Act.
8.5 Further AO considered on an adhoc basis 90% of Rs. 10 crores out of total miscellaneous income as disallowable under Explanation (baa) to section 80 HHC of the Act for computing deduction under section 80 HHC of the Act.
8.6 With reference to exclusion of profit under section 80IA/ 80IB the assessee contended that it should be restricted to only those units with reference to which u/s. 80 HHC claim is worked out. The AO is not justified to reduce the profit allowed as deduction under section 80IA / 80 IB with 14 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) reference to all units i.e. exporting and non-exporting units. It is relevant to state that the assessee has 12 units and has claimed deduction u/s. 80 IA and 80 IB of the Act with reference to all the 12 units. However, there are only three exporting units i.e. HDPE-1, MEG and PVC against which the assessee has claimed deduction under section 80 HHC of the Act. The AO while working out the claim of deduction under section 80 HHC reduced the profit allowed as deduction u/s. 80 IA and 80 IB with reference to all the 12 units i.e. three exporting and nine non-exporting units. Therefore, the assessee contended before the CIT(A) that restriction with reference to deduction of the claim contained in sub-section (9) of section 80IA applies only to computation of deduction of these three units i.e. exporting units and that too to the extent of such profit which have been allowed under section 80 HHC of the Act subject to the condition that the total deduction under Chapter-VA in no case shall exceed the profit of the undertaking. Therefore, the claim under section 80 HHC is to be worked out as provided in section 80 HHC of the Act and thereafter, while giving deduction such profit has to be reduced by the proportionate profit allowed as deduction under section 80IA/ 80IB with reference to export turnover. In other words, the deduction under section 80 IA /80IB be allowed with reference to exporting units only should be reduced from the profits of the business under section 80 HHC of the Act of these exporting units and that too in proportion of export turnover to total turnover. It was contended that AO has wrongly reduced the total claim allowed under section 80 IA relating to exporting and non-exporting units while working out u/s. 80 HHC claim of the exporting units.
8.7 It was also contended that the total turnover for computation of Sec. 80 HHC claim does not include excise duty and sales tax. The total turnover should be considered exclusive of excise duty and sales tax and 15 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) reliance was placed on the decision of the Hon'ble Bombay High Court in the case of Sudarshan Chemical Industries Ltd., vs. CIT 245 ITR 769.
8.8 It was also contended that the claim for deduction under section 80 HHC is to be worked out on the basis of book profit as profits of the business and AO was not justified to hold that the amount of deduction under section 80 HHC be computed on the basis of profits of the business as per normal provisions of the Act and to allow the deduction while computing book profit under section 115JB of the Act. Hence, AO restricted the claim for deduction under section 80HHC for computing book profit at nil.
8.9 The ld. CIT(A) considered the submissions of the assessee and held as under:
(a) AO has correctly excluded interest receipt from the profit of the business while considering deduction under section 80 HHC of the Act. He has further stated that AO has rightly reduced the profits of the business by 90% of the gross interest receipt. Therefore, ld. CIT(A) has not agreed with the contention of the assessee that interest received should be set off against the interest paid and 90% of only net interest receipt should be reduced from the profit of the business.
(b) Action of AO to estimate to reduce 90% Rs. 10.00 crores from miscellaneous income is fair and reasonable while considering eligible deduction under section 80 HHC of the Act. The ld. CIT(A) has stated that assessee has not furnished complete details of the nature of other income and had not explained proximate nexus of the other income with the export business of the assessee.
(c) As regards reduction of profit allowed as deduction under section 80IA / 80IB while computing claim under section 80 HHC, the ld. CIT(A) 16 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) has held that the restriction contained in sub-section (9) of section 80 IA is referable to the specific undertaking, the profits of which are deductible under section 80 IA /80IB and also qualify for deduction under another section. Thus the same unit must qualify for both deduction under section 80 IA and some other deduction. That the restriction under sub-section (9) of section 80 IA will not apply where one unit gets deduction under section 80 IA and some other units gets another deduction. The ld. CIT(A) has stated that the deduction under section 80 HHC has been claimed and allowed to the assessee only with reference to three exporting units i.e. HDPE-1, MEG and PVC units at Hazira, whereas under section 80 IA / 80 IB deduction has been allowed with reference to these three units and also nine other units engaged in power generation and infrastructure activities.
Therefore, the restrictive clause in section 80 IA(9) will operate only with reference to those three exporting units alone. He has held that he agrees with the assessee for computing the deduction under section 80 HHC, with reference to the exporting units, the profit allowed as deduction under section 80 IA/ 80 IB with reference to those three exporting units alone should be reduced and not the entire 80 IA / 80 IB units of the assessee in respect of all units. Further ld. CIT(A) has not agreed with the contention of the assessee as well as the orders of his predecessors in the immediately preceding assessment year that restriction under section 80 IA(9) would mean to the extent of the profits which are allowed as deduction under section 80 HHC. He has held that the entire deduction allowed under section 80 IA/ 80 IB of the Act of the exporting units should be reduced while computing deduction under section 80 HHC of the Act.
(d) The ld. CIT(A) has accepted the contention of the assessee to exclude excise duty and sales tax from the total turnover while computing deduction allowable under section 80 HHC of the Act by following the 17 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) decision of the Hon'ble Bombay High Court in the case of Sudarshan Chemical Industries Ltd. (supra).
(e) The ld. CIT(A) has agreed with the contention of the assessee that for computing book profit under section 115JB of the Act, amount of deduction to be reduced under section 80 HHC is to be worked out on the basis of book profits and not on the basis of profits & gains of business as computed under normal provisions of the Act.
8.10 In view of the above findings of ld. CIT(A), the assessee as well as department are in appeals before the Tribunal.
8.11 In respect of order of ld. CIT(A) to reduce 90% of the gross interest received while computing deduction under section 80 HHC of the Act, ld. A.R submitted that above issue is now covered by the decision of the Hon'ble Apex Court in the case of M/s. ACG Associates Capsules Pvt. Ltd. vs. DCIT by order dated 8/2/2012 in Civil Appeal No.1914 of 2012 (arising out of SLP (c) No.32450 of 2010), copy filed at the time of hearing, in favour of the assessee. In the said case, Hon'ble Apex Court has held that 90% of net receipts are to be excluded under Explanation (baa) to section 80 HHC of the Act for determining the profits of business The ld. D.R has not disputed the above contention of the ld. A.R. 8.12 In view of the above submission that issue is covered in favour of assessee by the decision of Hon'ble Apex Court (supra), we reverse the orders of authorities below and accordingly ground No.5 (a) & (b) of the appeal taken by the assessee are allowed in favour of the assessee by directing that 90% of net interest expenses have to be considered while computing deduction under section 80 HHC of the Act.
18 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)8.13 In respect of ground NO.5(c) of the appeal disputing the order of ld. CIT(A) in confirming the reduction of profit of the assessee by 90% of adhoc disallowance of Rs. 10.00 crores out of other income while computing deduction under section 80 HHC of the Act, ld. A.R submitted that this ground is not pressed for. Hence, ground No.5(c) of the appeal taken by the assessee is rejected.
8.14 In respect of ground No.5(d) of the appeal disputing the order of CIT(A) that entire deduction allowed under section 80 IA / 80 IB of the Act of exporting unit should be reduced while computing deduction under section 80 HHC of the Act, ld. A.R made his submissions on the lines of the submissions made before the CIT(A) as mentioned herein above. He submitted that sub-section (9) of section 80 IA provides that where profits and gains of an undertaking or an enterprise is allowed as deduction under section 80 IA of the Act, deduction to that extent for such profits and gains shall not be allowed under any other provisions of this Chapter i.e. Chapter - VA under the head "C- deduction in respect of certain incomes" and in no such case the total deduction shall exceed the profit of the undertaking or enterprise as the case may be. He submitted that claim under section 80 HHC is required to be worked out as per section 80 HHC of the Act and thereafter while giving deduction, such profit has to be reduced by proportionate profit allowed as deduction under section 80 IA /80 IB of the Act with reference to export turnover. He submitted that deduction under section 80 IA / 80 IB of the Act with reference to exporting units should be reduced in proportion of export turnover to total turnover for excluding profit on export. The ld. D.R relied on the order of ld. CIT(A) without making any further submission on the above issue.
8.15 We have carefully considered the submissions of the ld. Representatives of the parties and the orders of the authorities below as well 19 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) as provisions of sub-section (9) of section 80 IA of the Act. Sub-section (9) of section 80 IA reads as under:
"where any amount of profits and gains of an undertaking or..... in the case of an assessee is claimed and allowed under this section for any assessment year, deduction to the extent of such profits and gains shall not be allowed under any other provisions of this Chapter under the heading "C- Deductions in respect of certain income", and shall in no case exceed the profits and gains of such eligible business of undertaking or enterprise, as the case may be."
On considering the above sub-section (9) of section 80 IA of the Act in the context of the claim to be allowed under section 80 HHC of the Act of the exporting unit we find merit in the contention of ld. A.R that deduction under section 80 HHC of the Act is computed in proportion of export turnover to total turnover. Further sub-section (9) of section 80 IA provides that when an amount of profits and gains of an undertaking is claimed and allowed as deduction under section 80 IA of the Act for any assessment year, deduction to the extent of such profits and gains shall not be allowed under any other provisions of this chapter under the head "C- deduction in respect of certain incomes" and subject to the condition that the total deduction should not exceed profits and gains of such eligible business of undertaking or enterprise, as the case may be. This provision has been inserted with a view to avoid double benefit under the Act on the same profit of an undertaking or enterprise. Hence, Sec.80 IA (9) relates to deduction and not to computation of deduction. It does not refer to method of computing deduction under other provisions under heading C of Chapter VI-A. Hon'ble Bombay High Court in the case of Associated Capsules P. Ltd. vs. Dy. CIT , 332 ITR 42 has held that Sec. 80 IA(9) is not applicable at the stage of computation of deduction under Sec. 80 HHC (3) but is applicable at the stage of allowing deduction u/s. 80 HHC(1). The Hon'ble High Court in para 41 has given an illustration that if Rs. 100 is the profit of the business of the undertaking, Rs. 30 is the profits allowed as deduction u/s. 80 IA(1) and 20 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) the deduction computed as per Section 80 HHC is Rs. 80, then, in view of Sec. 80 IA (9) the deduction u/s. 80 HHC would be restricted to Rs.70, so that the aggregate deduction does not exceed the profits of the business. Hence, we are of the considered view that when the deduction under section 80 HHC of the Act is to be considered, it is to be allowed in proportion to export turnover to the total turnover of an undertaking and accordingly that proportion of the deduction allowed under section 80 HHC is to be considered and reduced while allowing deduction under section 80 IA of the Act of those three exporting units subject to the condition that total deduction will not exceed the eligible profits of the undertaking. Hence, we hold that the entire deduction allowed under section 80 IA / 80 IB of the Act should not be reduced while computing deduction under section 80 HHC of the Act. On the other hand, the claim of export profits of these three units under section 80 HHC should be reduced while allowing deduction under section 80 IA of the Act in proportion of export turnover to total turnover. Accordingly Ground No.5 (d) of the appeal of the assessee is allowed.
8.16 In respect of Ground No.5 of the appeal of the department disputing order of ld. CIT(A) to exclude profit allowed as deduction under section 80 IA / 80 IB of the Act of those three exporting units only for the purpose of computing deduction under section 80 HHC of the Act and not excluding the amount of deduction allowed under section 80 IA / 80 IB of the Act for all the units of the assessee, we hold that this issue is covered in favour of assessee by the decision of the Hon'ble Jurisdictional High Court in the case of Associated Capsules Pvt. Ltd. vs. DCIT(supra) as discussed herein above and also the decision of ITAT Mumbai Benches in the case of ACIT vs. Grasim Industries Ltd., (2010) 35 SOT 249. Hence, we confirm the order of ld. CIT(A) and reject Ground No.5 of the appeal taken by the department.
21 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)8.17 In respect of Ground No.6 of the appeal of the department to dispute the order of ld. CIT(A) in deleting the inclusion of excise duty and sales tax in the total turnover for the purpose of computing deduction under section 80 HHC of the Act, it was conceded that above issue is covered in favour of the assessee not only by the decision of the Hon'ble Jurisdictional High Court on which reliance has been placed by the ld. CIT(A) (supra) but is also covered by the decision of the Hon'ble Apex Court in the case of CIT vs. Laxmi Machine Works, 290 ITR 667. The Hon'ble Apex Court in the case of Laxmi Machines Works (supra), has been held that excise duty has to be excluded from the total turnover for the purpose of computing deduction under section 80 HHC of the Act. Further the Hon'ble Jurisdictional High Court as held in the case of Sudarshan Chemical Industries Ltd.(supra) that sales tax is not to be included in the total turnover for computing deduction under section 80 HHC of the Act. Hence, we uphold the order of the ld. CIT(A) and reject Ground No.6 of the appeal taken by the department.
8.18 In respect of ground No.7 of the appeal of the department disputing the order of ld. CIT(A) in directing the AO to compute the deduction under section 80 HHC of the Act under the provisions of section 115JB with reference to the profits as worked out on the basis of adjusted book profits, it was submitted by ld. A.R that this issue is now covered in favour of the assessee by the decision of the Hon'ble Apex Court in the case of CIT vs. Bhari Information Tex System Pvt. Ltd., 340 ITR 549 and ld. D.R has not disputed the above contention of ld. A.R. 8.19 We agree with the ld. A.R that this issue is covered in favour of the assessee as the Hon'ble Apex Court in the case of Bhari Information Tex System Pvt. Ltd. (supra), after considering the decision of the Special Bench of ITAT, Mumbai in the case of DCIT vs. Syncome Formulations (India) Ltd. 108 TTJ 105 and has held that deduction under chapter VIA of I.T Act has 22 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) to be worked out not on the basis of regular income tax profits but it has to be worked out on the basis of the adjusted book profits in a case where section 115JA is applicable. Since section 115JA is in para materia to section 115JB, we uphold the order of ld. CIT(A) of rejecting ground No.7 of the appeal taken by the department.
9. Ground No.6 of the appeal of the assessee is in regard to disputing the order of ld. CIT(A) in confirming the disallowance of expenses on account of traveling of spouse of executives at Rs. 80,57,477/-.
9.1 During the course of assessment proceedings the AO asked the assessee to submit details of the expenses incurred on spouses of the executives who had accompanied them on tour, alongwith detailed reasoning for claiming these expenses as business expenses. The assessee stated vide a letter dated 15/1/2005 that the expenses incurred on spouses accompanying family members are at Rs.80,57,477/- during the year. The AO has stated that no commercial expediency or business prudence can be attributed to the traveling of spouses with the executives specially with the trip of the executive is purely in connection with the business affairs of the assessee company. The A.O made disallowance of Rs.80,57,477/- on the ground that the expenditure incurred on the wives who accompanied her husband on the foreign tour cannot be regarded as expenditure allowed wholly and exclusively for business purposes as the wife could not be said to have attributed directly to the business of the assessee concerned. In the first appeal ld. CIT(A) has confirmed the action of the AO. Hence, the assessee is in further appeal before the Tribunal.
9.2 During the course of hearing ld. A.R stated that similar issue was considered by the Tribunal in assessee's own case on identical facts and circumstances in assessment year 2001-02 vide order dated 30/04/2008 in 23 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) ITA No.5971/M/04, copy placed at pages 221 to 229 of the paper book against the assessee and confirmed the disallowance made by the ld. CIT(A).
9.3. In view of the above submissions of ld. A.R and the fact that assessee has not been able to establish that above expenses pertaining to wives/family members of the executives was necessary for the purpose of the business, we uphold the order of ld. CIT(A) by rejecting ground No.6 of the appeal taken by the assessee.
10. In ground No.7 of the appeal the assessee is disputing the order of the ld. CIT(A) in confirming the disallowance of an amount of Rs. 36,75,561/- out of prior period expenses of Rs. 4,23,69,309/- accounted in previous year relevant to A.Y 2003-04, on the ground that supporting evidence has not been furnished in respect of the same.
10.1 The A.O for making the above disallowance of Rs. 36,75,561/- has stated as under:-
" In the revised return of income filed, the assessee company has reduced the income pertaining to Asstt. Year 2001-02, which has been assessed as income in A.Y 2001-02, and income pertaining to A.Y 2003-04 and offered for taxation in that assessment year. Similarly, the assessee has added back the expenses pertaining to A.Y 2001-02 and reduced the expenses pertaining to the current assessment year but book in A.Y 2003-04 as per the tax audit report and computation of income for A.Y. 2003-04. In respect of the expenses pertaining to the current assessment year but booked in A.Y 2003-04, the assessee could not produce the relevant vouchers amounting to Rs. 36,75,561/-."
10.2 In the first appeal the ld. CIT(A) has confirmed the action of the A.O to make above disallowance by observing that during the appellate proceedings the assessee only filed an extract of the tax audit report of the subsequent year giving details of such expenses and the assessee failed to substantiate with any original evidence that these expenses pertained to 24 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) the year under consideration. Being aggrieved the assessee is in further appeal before the Tribunal.
10.3 At the time of hearing ld. A.R submitted that identical issue was considered in the assessee's own case for A.Y 1994-95, 1996-97 and 1997- 98 and the Tribunal restored the matter to the file of the AO with direction to decide the allowability of the same in the year in which expenditure was actually got crystallized. The ld. A.R submitted that the Tribunal following its earlier order in the assessment year 2001-02 by its order dated 30/4/2008 in ITA No.5971/M/04 also restored the matter back to the file of the AO with direction to allow the said expenditure as deduction in the year in which they got crystallized. He submitted that the matter may be restored to the AO with direction to allow the expenditure in the year in which it has actually got crystallized. The ld. D.R submitted that he has not objection to restored the matter to the file of the AO with above direction.
10.4 After hearing the ld. representatives of the parties and respectfully following the earlier order of the Tribunal in the assessee's own case for assessment year 2001-02 (supra), we restore this issue back to the file of AO with a direction to allow the said expenditure as deduction in the year in which it got crystallized. Hence, ground No.7 of the appeal taken by the assessee is allowed for statistical purposes.
11. Ground No.8 of the appeal taken by the assessee is as under:-
"8. The learned CIT(A) erred in confirming the action of the AO of taking the total consideration received on sale of shares of Larsen & Toubro for computing Capital Gains.
The Appellant submits that 25% of sale consideration pertaining to restrictive covenant as per the Sale Agreement signed with Grasim Industries Limited is in the nature of capital receipt not liable to tax.25 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)
The Appellant submits that the AO shall be directed to recompute taxable capital gain after reducing 25% of the sale consideration relatable to the restrictive covenant."
11.1 The relevant facts are that the assessee company and its subsidiaries are holding 2.5 crore equity shares of M/s. Larsen & Toubro Ltd. (herein after to be referred in short L&T) as part of their investment. During the previous year relevant to the assessment year under consideration, the assessee sold the said 2.5 crore equity shares of L&T @ 306.60 per share for a total sales consideration of Rs.766.50 crores to M/s. Grasim Industries Ltd and entered into an agreement dated 18/11/2001, which contained inter alia restrictive covenant imposing restriction upon assessee not to acquire any equity shares of L&T or another instrument that provides voting rights of L&T to assessee or to any person on its behalf for a period of five years. The assessee company filed revised return of income on 8/3/2004 and computed the long term / short term capital gain in respect of sale of said L&T shares by excluding 25% of sale consideration in the nature of capital receipt as relatable to restrictive covenant in sale agreement dated 18/11/2001. The AO asked the assessee to submit the details of the computation of capital gain and also the basis for excluding 25% of sale consideration as pertaining to restrictive covenant and assessee filed its submission dated 21/2/2005, inter alia stating as under : (page 30 of assessment order)
(a) That assessee company entered into an agreement dated 18/11/2001 with M/s. Grasim Industries Ltd., whereby the assessee company agreed to sell its total equity share holding of 2.5 crores equity shares @ Rs.306.60 per share for aggregate consideration of Rs. 766.50 cores. Besides other terms and conditions for sale of shares of L&T, the assessee company also agreed for a restrictive covenant imposing restriction upon itself not to acquire any equity share of L&T at least for a period of five years.
26 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)(b) That the assessee company and its subsidiaries, affiliates or associates will not acquire any equity shares of L&T or any other instrument that would confer a right to acquire any equity shares of L&T.
(c) That the assessee company further undertakes not to deal in shares of L&T and/or any other instrument that would confer a right to acquire any equity shares of L&T or any other instrument that provides voting rights.
(d) That the assessee company will be obliged with these obligations to comply the same for a minimum period of 5 years from the date here of i.e. 18/11/2001.
(e) That no separate consideration relatable to the restrictive covenant is specifically stated in the agreement dated 18/11/2001. However SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 dealing with take over regulations in clause 20(8) provides the guidelines that 25% of the offer price may be considered to be attributable to the restrictive covenant accepted as part of the sale consideration.
11.2 The A.O has stated that this is universal restriction which has been considered by the company on sale of substantial number of shares held by it in L&T. The restrictive covenant incorporated in the sale agreement does not in any way restrict or place any kind of restriction on the right to carry on normal business of the assessee. The AO stated that the assessee's reliance on clause 20(8) of SEBI Regulations 1997 is not correct. SEBI is the regulatory authority in dealing in shares and securities in stock exchanges. SEBI Regulations do not apply to the Income Tax Act either in its interpretation or implementation. He has further stated that clause 20 deals with the computation of "offer price" to be made to the public when there is substantial acquisition of share as part of take over bid and 27 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) various modalities of working out the offer price are dealing in clause 20 with various situations which may arise concerning take over bids, AO has stated that clause 20 (8) does not in any manner let out that 25% of the sale consideration is to treated as payment towards Non Compete Agreement as capital receipt under the Income Tax Act. Therefore, no part of sale consideration is to be attributed to restrictive covenant for computing capital gains. The AO by rejecting the contention of the assessee and has computed the short term capital gain at Rs.178,50,28,235/-. Being aggrieved the assessee filed the appeal before first appellate authority.
11.3 On behalf of the assessee, the submissions made before the AO were reiterated before Ld. CIT(A). It was contended that harmonious reading of the provisions of the agreement dated 18/11/2001 and the relevant SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 brings out the fact that the assessee company has accepted the restrictive covenant and 25% of the agreed sale consideration ascribable for accepting such restrictive covenant. It was submitted that a sum of Rs. 191.62 crore being 25% of the sale consideration of Rs. 766.50 crores is to be considered as attributable to the restrictive covenant. It was contended that clauses 3.2 & 3.3 of the agreement dated 18/11/2001 with M/s. Grasim Industries Ltd. stipulate that the assessee company will not acquire shares or any other security carrying voting rights of L&T for a minimum period of five years. The assessee by agreeing these restrictions has foregone its right to acquire the shares of L&T and, therefore, the consideration for foregoing the said right constitute a capital receipt not liable to tax. It was contended that the AO himself has stated that clause 20 of the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 provides for the computation of offer price after taking into consideration the restrictive covenant. Therefore, once the offer price is determined in pursuance of the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 , the same has to be 28 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) taken into account for computing capital gain for Income Tax purposes also. On behalf of the assessee reliance was also placed before ld. CIT(A) on the following decisions:
1. Gillanders Arbuthnot & Co. Ltd. vs. CIT (1964) (53 ITR 283 ) (SC)
2. CIT vs. Best & Co. (Private) Ltd. (1966) 60 ITR 11 (SC)
3. CIT vs. Saraswathi Publicities 132 ITR 207 (Mad)
4. CIT vs. Late G.D.Naidu 165 ITR 63 (Mad)
5. CIT vs. Automobile Products of India Ltd. (140 ITR 159) (Bom)
6. Addl. CIT vs. Dr. K.P.Karanth ( 139 ITR 479)(AP)
7. M/s. Parry and Co. Ltd. vs. DCIT (269 ITR 177)(Mad)
8. K.S.S.Mani vs. ITO 54 ITD 76 (Mad)
9. M.N.Karani vs. ACIT, 64 ITD 119 (Bom) 11.4 The ld. CIT(A) after considering the submissions of the assessee has held that he agrees with the AO that the claim of the assesee is not tenable.
He has further stated that the decisions cited by the assessee are mainly in the context of Non Compete Agreement. The ld. CIT(A) has stated that in the case of the assessee it has not been shown that the restrictive covenant involved a valuable right, the surrender of which by the assessee resulted in giving a real and enduring benefit to M/s. Grasim Industries Ltd., The mere acceptance of restriction cannot invest it with pecuniary value. He further stated that reference to 25% sale consideration under SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 is for the purpose of take over code which requires the making of a public offer for purchase of shares at a particular price. Accordingly the ld. CIT(A) has confirmed the action of the A.O that total consideration received on sale of shares of L&T has to be considered for computing capital gain liable to tax. Hence, the assessee is in further appeal before the Tribunal.
29 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)11.5 During the course of hearing before us, the ld. A.R reiterated the submissions as made before the authorities below and also referred to page 519 of the paper book which is an annexure of letter dated 21/2/2005 addressed to the AO and submitted that Clause-3 of the agreement entered into by the assessee with M/s. Grasim Industries Ltd., the buyer of L&T shares; the assessee undertook the obligation by way of restrictive covenant not to acquire any equity shares of L&T or any other instrument that would confer a right to acquire any equity shares of L&T. He submitted that the assessee company i.e. the seller made the said covenant and bound itself, its affiliates, associates or any person acting at their behest. He submitted that the said restrictive covenant has a minimum period of five years from the date of the agreement entered into. The ld. A.R submitted that the assessee company alongwith its subsidiaries was holding 7.7% of L&T shares and was the biggest shareholder of L&T. Therefore, the assessee company had say in the management of L&T. The ld. A.R referred to SEBI (Substantial Acquisition of Shares and Takeovers) Regulation 1997 and submitted that as per clause 20(8) it is specifically provided in the guidelines that 25% of the offer price may be considered as attributable to the restrictive covenant accepted as part of sale consideration. Therefore, 25% of the sale consideration of Rs. 766.50 crores which comes to Rs.191.625 crores is the consideration received by the assessee company towards restrictive covenant and therefore, it is capital receipt, not liable to tax. The ld. A.R submitted that upto assessment year 2002-03, the assessment year under consideration, the capital receipt for restrictive covenant was not liable to tax. He submitted that sub-section (va) to section 28 has been introduced by the Finance Act 2002 w.e.f. 1/4/2003 to treat it as taxable business receipt. He, further, submitted that section 55(2)(a) of the Act was also amended by the Finance Act 2002 to include and provide that cost of a "right to carry on business" shall be nil. He submitted that prior to assessment year 2003-04 the Non Compete Fee or right to carry on 30 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) business was neither a revenue receipt in the nature of business receipt nor was a capital receipt chargeable to tax as capital gain. The ld. A.R submitted that the sale consideration received by the assessee to the extent of 25% cannot be considered as capital gain in the assessment year under consideration as the same was towards restrictive covenant as per agreement dated 18/11/2001. To substantiate his submission ld. A.R referred to the decision of the Hon'ble Apex Court in the case of Guffic Chem P. Ltd. vs. CIT 332 ITR 602 and submitted that it was held by Their Lordship that the Non Compete Fee received during the assessment year 1997-98 was a capital receipt and prior to April 2003 such payment was in the nature of capital receipt. The ld. A.R further submitted that the cases referred before the ld. CIT(A), mentioned herein above in para 11.3 are also applicable to the case of the assessee. He submitted that the sum of Rs. 191.625 crores be considered as capital receipt towards restrictive covenant not liable to tax.
11.6 On the other hand, ld. D.R in his submissions relied on the orders of the authorities below. He submitted that the ld. CIT(A) has rightly considered total consideration received on sale of shares of L&T for computing capital gains liable to tax.
11.7 We have carefully considered the submissions of the ld. Representatives of the parties and the orders of the authorities below. We have also carefully considered the cases cited before us(supra).
11.8 We observe that the assessee company alongwith its subsidiaries was holding 2.5 crores equity shares of L&T as part of its investment. The said shares were sold by the assessee to M/s. Grasim Industries Ltd. under an agreement dated 18/11/2001 @ Rs. 306.60 per share for an aggregate consideration of Rs. 766.50 crores. There is no 31 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) dispute that under the said agreement dated 18/11/2001, there was covenant and as per clause 3.2 thereof the assessee and its subsidiaries, affiliates or associates agreed not to acquire any equity shares of L&T or any other instrument that provides voting rights. During the course of hearing it was submitted before us that the assessee company alongwith its subsidiaries was holding 7.7% of L & T shares and was the biggest shareholders at the relevant time. Therefore, the assessee company was having a say in the management of L&T at the relevant time. There is no dispute to the fact that the assessee company and its subsidiaries sold all the shares to one company namely M/s. Grasim Industries Ltd. and entered into an agreement dated 18/11/2001. Therefore, it is evident that M/s. Grasim Industries Ltd. also became the biggest share holders of L&T after acquiring the shares from the assessee company and its subsidiaries. SEBI is a Regulatory Authority and also keep a watch when there is substantial acquisition of shares or there is an attempt to take over of a public limited company. In this regard SEBI has laid down regulations which are known as SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997and clause 20(8) of the said regulation which reads as under:-
"(8) Any payment made to the persons other than the target company in respect of non compete agreement in excess of twenty five percent of the offer price arrived at under sub-regulations (4) or (5) or (6) shall be added to the offer price."
On perusal of above clause of SEBI (Substantial Acquisition of Shares and Takeovers)Regulations 1997 it is evident that if there is substantial acquisition of share and there is a Non Compete Agreement, the payment made to the concerned persons could be considered to the extent of 25% of the sale consideration, towards consideration for accepting such restrictive covenant. In the case before us there is no dispute that the assessee entered into restrictive covenant not to deal in the shares of L&T or any other L & T instrument which would provide voting rights to the assessee and its subsidiary companies or to any person acting on its behest for a 32 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) minimum period of 5 years. Therefore, the said sale of 2.5 crores equity shares of L&T by the assessee to M/s. Grasim Industries Ltd. could not be considered as simple sale and if it is so, then there was no need to enter into any such kind of restrictive covenant. We are of the considered view that the said obligation in the nature of a restriction had been undertaken by the assessee with M/s. Grasim Industries Ltd., the purchaser of the shares, to ensure that the buyer may have controlling interest in the affairs of L&T being the biggest shareholder without any threat from the assessee or its associate. Therefore, we are of the considered view that a part of the sale consideration received by the assessee on sale of shares comprised of towards restrictive covenant/obligations for a minimum period of five years as per agreement entered into. We also observe that the AO himself has stated that clause 20 of SEBI (Substantial Acquisition of Shares and Takeovers) Regulations 1997 provides of computation of offer price after taking into consideration the restrictive covenant. Since clause 20(8) of SEBI (Substantial Acquisition of Shares and Takeovers) Regulation 1997 provides that payment to the extent of 25% of the agreed sale consideration could be in respect of restrictive covenant i.e. non compete agreement, we find merit in the contention of ld. A.R that 25% of the offer price received was for Non Compete Agreement for sale of shares by the assessee to M/s. Grasim Industries Ltd as per agreement entered into.
11.9 Now the question arises as to whether 25% of Rs.766.50 crores which comes to Rs.191.625 crores is taxable in the assessment year under consideration as business receipt or capital receipt.
11.10 During the course of hearing our attention was drawn to the fact that the consideration received under an agreement for not carrying out any activity in any relation to any business is taxable as business income only from assessment year 2003-04 as clause (va) to section 28 has been inserted 33 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) by the Finance Act 2002 w.e.f. 1/4/2003. The question arises as to whether the said section i.e. section 28(va) is retrospective or is applicable from A.Y 2003-04 onwards. The said issue had been considered by the Hon'ble Apex Court in the case of Guffic Chem Pvt. Ltd. (supra) and it has been held by Their Lordships that the compensation received by the assessee under Non Competition Agreement was a capital receipt not taxable under the Act prior to assessment year 2003-04. It has become taxable w.e.f. 1/4/2003. We consider it prudent to reproduce para-7 at page Page 607 of the said order which reads as under:
"Two questions arose for determination, namely, whether the amounts received by the appellant for loss of agency was in normal course of business and therefore whether they constituted revenue receipt? The second question which arose before this court was whether the amount received by the assessee (compensation) on the condition not to carry on a competitive business was in the nature of capital receipt? It was held that the compensation received by the assessee for loss of agency was a revenue receipt whereas compensation received for refraining from carrying on competitive business was a capital receipt. This dichotomy has not been appreciated by the High Court in its impugned judgment. The High Court has misinterpreted the judgment of this court in Gillanders' case (supra). In the present case, the Department has not impugned the genuineness of the transaction. In the present case, we are of the view that the High Court has erred in interfering with the concurrent findings of fact recorded by the Commissioner of Income-tax (Appeals) and the Tribunal. One more aspect needs to be highlighted. Payment received as non-competition fee under a negative covenant was always treated as a capital receipt till the assessment year 2003-
04. It is only vide Finance Act, 2002 with effect from April 2003 that the said capital receipt is now made taxable (See section 28(va)). The Finance Act, 2002 itself indicates that during the relevant assessment year compensation received by the assessee under non-competition agreement was a capital receipt, not taxable under the 1961 Act. It became taxable only with effect April, 2003. It is well settled that a liability cannot be created retrospectively. In the present case, compensation received under the non-competition agreement became taxable as a capital receipt and not as a revenue receipt by specific legislative mandate vide section 28(va) and that too with effect from April1, 2003. Hence, the said section 28(va) is amendatory and not clarificatory. Lastly, in CIT v. Rai Bahadur Jairam Valji reported in 34 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) (1959) 35 ITR 148 it was held by this court that if a contract is entered into in the ordinary course of business, any compensation received for its termination (loss of agency) would be a revenue receipt. In the present case, both the Commissioner of Income Tax (Appeals) as well as the Tribunal, came to the conclusion that the agreement entered into by the assessee with Ranbaxy led to loss of source of business ; that payment was received under the negative covenant and therefore the receipt of Rs. 50 lakhs by the assessee from Ranbaxy was in the nature of a capital receipt. In fact, in order to put an end to the litigation, Parliament stepped in to specifically tax such receipts under non-
competition agreement with effect from April 1, 2003."
Therefore, we are of the considered view that prior to A.Y 2003-04 i.e. in the assessment year under consideration the 25% of the sale consideration received by the assessee is the consideration received towards restrictive covenant and is a capital receipt.
11.11 The Hon'ble Apex Court has also held in the case of Gillanders Arbuthnot & Co. Ltd. (supra) that compensation paid for agreeing to refrain from carrying on competitive business in the commodities in respect of the agency terminated or for loss of goodwill, is prima facie of the nature of capital receipt. Since in the case before us the assessee entered into a restrictive covenant not to deal in the shares of L&T for a period of five years from the date of agreement, the assessee has refrained itself under a restrictive covenant to compete with the purchaser of shares, we are of the considered view that a part of the same proceeds has right been considered towards receipt on account of restrictive covenant and same is in the nature of capital receipt.
11.12 The Hon'ble Madras High Court in the case of CIT vs. G.D.Naidu (supra) also held that the compensation received by the assessee for the restrictive covenant is capital receipt not liable to tax. In the said case the assessee was a partner in a firm. He retired from the firm w.e.f. 1/4/1963 and agreed not to enter into the business for plying buses which 35 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) was carried on by the firm in which he was a partner. Thus the assessee agreed not to enter into competition with firm for a period of five years to ply buses on the designated routes. The firm paid Rs. 15,95,000/- in consideration of this non-competition. The AO held that the compensation received is revenue in character. The first appellate authority also held it to be a revenue receipt. However, the Tribunal held that the compensation relatable to the restrictive covenant is capital receipt. The Hon'ble High Court held that the compensation received by the assessee for the restrictive covenant was a capital receipt not liable to income tax. Further in the case of K.S.S.Mani (supra) the Tribunal held that the agreement contains prohibitive covenant in consideration of which the assessee, who was a director of company received a sum of Rs. 2.00 lacs from the company for agreeing not to carry on any activity or employment for a period of three years which could be prejudicial to the interest of the company was a capital receipt and the ld. CIT(A) was not justified to hold that the said compensation of Rs. 2.00 lacs was profit in lieu of salary under section 17(3)(i) or (ii) of the Act and directed the AO to exclude the compensation which is a capital receipt.
11.13 In view of above, we hold that the amount to the extent of 25% of the total consideration received by the assessee on sale of shares of L&T is in the nature of capital receipt towards restrictive covenant.
11.14 Further the question arises as to whether the said consideration received for restrictive covenant which is a capital receipt is taxable in the assessment year under consideration or not. Section 55(2)(a) has also been amended by the Finance Act 2002 to include and provide that "right to carry on any business" shall be nil. Therefore, prior to assessment year 2003-04 Non Compete Fee which is received as restrictive covenant for right to carry on business was a capital receipt not liable to tax. We hold accordingly.
36 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)11.15 Accordingly, we allow ground No.8 of the appeal of the assessee that 25% of sale consideration received on sale of shares of L&T is in the nature of capital receipt and in the assessment year 2002-03 not liable to tax.
12. Ground No.9 of the appeal of the assessee reads as under:
"The CIT(A) erred in confirming the disallowance u/s. 92C of the Act of Rs.1,85,24,385/- out of the charter hire charges paid to its associate enterprise M/s. Reliance Europe Limited (REL) by your appellant. The Appellant submits that the charter hire charges paid by the Appellant to REL is at arm's length price and no adjustment is called for to such payments."
12.1 This ground is considered alongwith Ground No.9 of the appeal field by the Department, which is as under:
"On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the adjustment of Rs. 4,28,81,833/- made by the Assessing Officer on account of international transactions entered into by the assessee with its associated enterprises."
12.2 The relevant facts in respect of the ground of appeal taken by the assessee are that the assessee entered into a time charter party agreement (C/P) dated 20/10/1993 in terms of which Reliance Europe Ltd. ( hereinafter to be referred in short REL) gave its vessel, Relchem Isha to the assessee on time charter hire for carrying of cargos as per terms of the said C/P at US$ 6,000 PDR. Assessee holds more than 26% of the voting power in REL and thus an associated enterprises of the assessee. The vessel Relchem Isha is Semi-Refrigerated LPG/ Chemicals carrier and is equipped to carry liquefied gases at minus 48 degree Celsius temperature as well as chemical products. The capacity of such vessel is 3,256 DWT. It is fitted with two stainless steel tanks having total capacity of 2,242 cubic meters. The assessee paid to REL of Rs. 10,52,88,711/- The AO made a reference to TPO under section 92CA(1) of the Act for determination of Arm's Length Price(ALP). The TPO vide his order dated 25/3/2005 has stated that the 37 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) assessee was requested to determine ALP of international transaction being charter hire charges in accordance with any one of the methods prescribed under Income Tax Act. The assessee was also requested to provide details of the cost incurred by the associate entity on a regular basis on the said vessel hired to the assessee. The TPO has stated the assessee explained that the said vessel is used for transfer operation of chemicals and petrochemicals and liquefied gases. The associate entities had to carry out various specific modifications in the vessel in order to meet the requirement of the assessee. It was also stated that the charter hire charges payable by the assessee are approved by the Director General of Shipping which is the apex body of the Government of India and the said approval is a Comparable Uncontrolled Price (CUP) for the international transaction. Hence the charter hire charges may be considered to be an arm's length compensation. The assessee vide its letter dated 28/10/2004 submitted that the associated entity had incurred an expenses US$ of 2.50 million for improvement of the said vessel. The TPO stated that the assessee has not furnished the original cost and day to day maintenance expenses. However, the assessee furnished an extract from the Drewry Monthly Report April, 2003 issue which is stated to be a reputed shipping weekly published by Drewry Shipping Consultants Ltd. UK and the monthly charter hire rates as per the weekly report is indicated as US$ 195000 for a vessel having carrying capacity of 3000 cubic meters. The vessel provided by the associate entity i.e. REL has a lesser carrying capacity and hence UD$ 180000 is reasonable. It was stated that the general rates prevailing in market needs to be further adjusted to take into account the specific technical capabilities of the vessel hired to the assessee and its ability to operate under tidal conditions in order to make them comparable. The assessee contended that approval given by the Director General of Shipping should be considered as an arm's length compensation. However, the TPO stated that the approval of Director General of Shipping in the context of 38 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) remittance of foreign exchange does not take into account the transfer pricing provisions. The TPO has stated that the ALP of this international transaction has not been determined nor has it bench marked in accordance with transfer pricing provisions. The TPO considered of two comparable prices as published in the shipping publications - The Shipping Intelligence Weekly- Issue 639 dated 1st October, 2004, which is published by Clarkson Research Studies and the Drewry Monthly, April 2009- Issue published by the Drewry shipping Consultants Ltd. UK, and determined arms's length price by taking average therefrom. He adjusted the rate for the capacity and computed arm's length price of the charter hire charges at the rate of US$ 3819, as against the rate of US$ 6000 paid by the assessee. Thus the TPO vide his order dated 25/3/2005 suggested adjustment of Rs.3,78,13,087/-. Being aggrieved the assessee filed appeal before the first appellate authority.
12.3 Ld. CIT(A) after considering the submissions of the assessee has taken the mean of the ALP determined by the TPO and prices actually paid by the assessee. Thus out of the adjustment of Rs. 3,78,13,087/- made by TPO he confirmed the adjustment of Rs. 1,85,24,376/- and deleted the balance amount. Hence, the assessee is in appeal before the Tribunal.
12.4 Relevant facts in respect of the ground of appeal taken by the Department viz. ground No.9 are that the the TPO, in his order dated 25th March 2005, passed under section 92CA(3) of the Act, has dealt with the issue vide Para-12 at Page-6 of his order. The assessee paid consultancy charges of Rs.17,62,68,906, to REL. The assessee's claim has been brought out by the TPO as follows:
a) In this connection the assessee has submitted a copy or an agreement dtd. 19.4.1997 entered into between the assessee and the associated enterprise. The assessee has also furnished the approval of 39 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) P81 dtd. 24.9.2001 for remittance of the fees under the said agreement.
b) As per the agreement the associated entity is required to provide the following services.
o Competitive information and market intelligence on products process and technology relating to the assessee.
o Short listing of professional experts such as scientists, engiheers, consultants etc. o Maintaining an ongoing industrial activity.
o Selecting potential supply of equipment.
o Dealing with international bankers, insurance companies for raising of financial resources.
o Attending to and dealing with international stock exchanges where the assesse's security are dealt with.
o Providing in formation about latest economic, political & other developments in Europe, Middle East etc. o Negotiating and securing critical raw materials.
c) As per the agreement the assessee has received service fees of USD 3.75 million for the relevant previous year. The fixed lumpsum fee has been fixed in the agreement itself and is payable in four equal installment.
12.5 The TPO called for information on the resources available with REL. The assessee replied vide letter dated 31st January 2005. The assessee had explained that the services rendered by REL were examined by two leading management consultancy firms who are rendering similar services. These management consultants were Mackinzy & Co. and The "D" Group. These 40 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) quotations were bench marked against the consultancy charges paid to the A.E. and "CUP" method was applied.
12.6 The TPO rejected the contentions of the assessee on the ground that a quotation given by third party do not constitute "comparable uncontrolled transactions". He held that both the letters submitted by the assessee were issued much after the end of the previous year and did not constitute actual transactions and, hence, cannot be regarded as comparable under the "CUP" method. He further held that the estimation on valuation of services attempted by the assessee through third parties do not fall within any of the prescribed methods for determination of ALP. He held that the A.E. had minimal risk and whereas the risk of Mackinzy & Co., and The "D" Group have grater risk as they operate at global level and also that no foreign exchange fluctuation risk is involved; as for difference in the reasons such as basis of estimation, etc., by The "D" Group and Mackinzy & Co. The TPO applied "Cost Plus" method with 5% mark-up. He made certain adjustments.
12.7 On appeal, the first appellate authority, vide Para-3.20/Page-61 of his order, accepted the contentions of the assessee. He held that in the absence of comparable instances, an estimate of reasonable mark-up can only be made after taking into account all material factors and indices. He held that the consideration paid by the assessee to REL during the year under consideration towards consultancy services is reasonable having regard to the net profit disclosed by REL and also the fact that the net profit of REL includes income from time charter of Relchem Isha where a transfer pricing adjustment had been made. The Commissioner (Appeals) has not applied any method prescribed under the Act and the Rules. He has not found fault with the methods employed by the assessee or T.P.O. Aggrieved, the Revenue is in appeal before the Tribunal.
41 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)12.8 During the course of hearing of the appeal before us ld. A.R submitted that the vessel Relchem Isha is fitted with several sophisticated equipments so that it is in a position to carry LPG as well as chemicals and petrochemicals at the Jetties in low draft of 2.8 meters to 3.5 meters. He submitted that assessee submitted relevant extract of two comparable publications which gave time charter hire charges for vessels of different capacity of similar categories namely of the Shipping Intelligence Weekly Issue 639 dated 1/10/2004, published by Clarkson Research Studies, copy placed at page 596 to 601 of paper book and Drewry Monthly April 2003, published by Drewry Shipping Consultants Ltd. U.K, copy placed at pages 602 to 603 of paper book. He submitted that TPO determined ALP by taking average of the two comparable prices as published in above mentioned publication and this was prorated for a vessel of 2250 cubic meter capacity, which is hired by the assessee. Accordingly TPO worked out ALP of the charter hire charges @ UD$ 3819 per day. He submitted that ld. CIT(A) accepted the fact that determination of rates on the basis of proportionate adjustment of tank capacity is misleading because rates depend upon many technical and commercial factors. During the course of hearing ld. A.R was asked to point out the said special factor which could be said to weight in favour of the assessee. It is relevant to state that the assessee stated factors herein after stated and contended that they are to be taken into consideration for the purpose of payment of higher charter higher charges by the assessee to REL. Ld. A.R pointed out that REL made major and costly modifications to make the vessel suitable for specific operational requirement of the assessee by incurring expenses of US$ 2.5 million. He submitted that if the interest cost is worked out in respect of said capital expenditure incurred by REL by considering the official rate of interest @ 5.94% per annum prevailing in UK the annual interest cost will comes to US$ 1,48,000 and per day interest cost goes to US$ 407 . He submitted that a reasonable percentage to be considered for additional 42 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) capital cost. Ld. A.R further submitted that REL has incurred expenses to meet cost of deployment, insurance etc. which had not been considered by TPO. Ld. A.R further submitted that TPO also did not consider the cost towards mobilization and demobilization of such unique vessel. He further submitted that no consideration has been given towards repair and maintenance of such unique vessel, therefore, the adjustment of prevailing charter higher rates in proportion to carrying capacity of the vessel was misleading. The ld. A.R filed a chart at the time of hearing of the appeal giving the adjustment to ALP by stating that beside the interest cost per day towards capital expenditure incurred by REL, adjustment on account of following factors to the extent of 25% of charter rate per day have to be considered which comes to US$ 1190 . The assessee has listed out the following special factors to justify his submission for enhancement required to be made while determining ALP of the charter hire charges vis-à-vis the market rate given in the two publication which are as under:-
"The ALP of charter hire charges is arrived at without considering the following factors for which an enhancement is required to the market rates given in the 2 publications to determine an arm's length consideration
1. Unique vessel: Charter hire rates is to be increased for vessel 'Relchem Isha' carrying both liquefied gas as well as chemicals and petrochemicals, since the rates given in the publication are only for LPG.
2. Additional cost towards certification of vessel 'Relchem Isha' which was used for carrying gas as well as chemicals. Further, officers and crew holding both gas and chemical endorsements command a premium as compared to their counterparts, since availability of such officers and crew for manning the vessel is scarce.
3. Cost towards mobilization and de-mobilization of such vessel, on account of unavailability of such custom built vessel in India which is capable of lifting upto 1500 tonnes at a draft of 3.5 meters. In the event of 'Relchem Isha' not being chartered, the assessee would have to pay substantial cost for mobilization and demobilization of alternate vessel from Far East/ European Region.
4. Due to close water navigation in a narrow channel, frequent Ship to Ship transfer & Sponson tanks (outside projections), more wear & tear 43 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) takes place than normal. This results in additional charges towards repair and maintenance of the vessel.
5. Due to the factors listed out in Sr 4 above, the officers & crew are working under stressful conditions for longer periods of time and may require to work overtime. This results in payment of overtime charges which adds to the normal daily outgo towards salary of officers and crew."
Ld. A.R submitted that if the profit adjustment to ALP is made then the total cost goes to US$ 6358 per day which is more than the payment made by the assessee and accordingly no adjustment on account of ALP is required. Ld. D.R in his submission while justifying orders of the authorities below submitted that the adjustment claimed by the assessee on account of interest and other factors mentioned herein above, were not furnished before the TPO and, therefore, same have not been examined by her while determining ALP. He submitted that the details now furnished by the assessee could be examined by TPO if the matter is restored to TPO to determine the ALP. Ld. A.R submitted that he has no objection if this issue is restored to TPO for consideration and as to whether the vessel hired by the assessee from REL contains special features and modifications that was required by the assessee and for which the REL incurred an expenses of US$ 2.50 million for making the improvements and also the other factors which has been stated by the assessee before us at the time of hearing, as mentioned herein, above due to which an adjustment is required for determining the charter rate per day for the vessel Relchem Isha.
12.9 Neither the assessee, nor the TPO, nor the Assessing Officer or the Commissioner (Appeals) has followed any of the method prescribed in the Act and Rules, for arriving at the arm's length price. The assessee's case was that the charter hire charges were approved by the D.G. (Shipping) and, hence, it is a comparable under the "CUP" method. The TPO took the average of the rate published by the Shipping Intelligence Weekly and Drewry Monthly, which is the rates in the public domain and without making any 44 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) adjustment for variation in capacity, cost, finance, risk, etc., computed the arm's length price. The Commissioner (Appeals) took the mean of the arm's length price determined by the TPO and price actually paid by the assessee and determined the arm's length price. Thus, the assessee as well as the authorities have not computed the arm's length price in accordance with law. Hence, we have to quash the arm's length price determined by all the parties.
12.10 Both the parties agreed before us that the "CUP" method should be followed. As there is no comparable transactions, in view of the fact that "Reichem Isha", is a Unique Vessel, with no comparable ship available, as suggested by both the parties, we set aside the issue to the file of the Assessing Officer for the limited purpose of re--computing the arm's length price by taking the date available in the public domain in the form of publication of Shipping Intelligence Weekly and Drewry Monthly as a "comparable price", and thereafter to make various adjustments towards weight, capital cost, risk, etc., and then arrive at the arm's length price. The assessee has furnished its calculation. The Assessing Officer shall examine this calculation of arm's length price given by the assessee wherein various adjustments are claimed on account of variation and arrive at the arm's length price. Needless to say, opportunity of being heard should be given to the assessee.
12.11 Therefore, we consider it prudent and reasonable to restore this issue to the file of the A.O to make a reference to the TPO to determine the ALP afresh in respect of the hire chartered vessel Relchem Isha by a speaking order after considering such documents filed by the assessee and after giving due opportunity of hearing after considering the above special features and capital cost incurred by REL . Hence, Ground No.9 of the appeal taken by the assessee is allowed for statistical purposes.
45 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)12.12 In respect of ground No.9 of the appeal of the department the learned Departmental Representative submitted before us that the third party quotations cannot be considered as what is contemplated under Rule- 1OB(1), is "price" charged or paid. He submitted that the quotation is not a price charged or paid and, hence, "CUP" method cannot be applied. He also relied on the provisions of Rule-1O(B)(1). He pointed out to the assessee's paper book Pages-712 and 713, and submitted that the two quotations have the same wording and doubted the genuineness of the same. He wondered as to how the quotation can be similarly worded when they have been taken from two different reputed parties who are located at two different places . He submitted that obtaining RBI approval, is no ground on which the Commissioner (Appeals) can grant relief. He argued that the order of the Commissioner (Appeals) is perverse and has to be reversed.
12.13 The learned Counsel for the assessee, on the other hand, submitted that the assessee is not disputing the application of "Cost Plus" method. He only says that the working is wrong. He filed a chart and submitted that if the correct figures were taken, then even under the "Cost Plus" method, no adjustment would be called for.
12.14 In reply, the learned Departmental Representative submitted that the working can always be verified if there is no dispute on the method applied.
12.15 After hearing rival contentions and on a careful consideration of the facts and circumstances of the case and on a perusal of the papers on record, we find that the TPO has rightly applied the "Cost Plus" method. The CIT(A) has granted relief for reasons which cannot be sustained. No method was followed. Any how, the TPO has committed an error in 46 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) computing cost under the "Cost Plus" method. The working of the TPO as well as the assessee, are as follows:
Working by the TPO Particulars U.S. Dollar Rupees Total cost 45,22,947 Less: Cost in respect of activities other 22,61,474 than consultancy services Cost relating to charter hire activity 22,61,474 (estimated @ 50% of total cost) Cost (estimated) relating to consultancy 1,13,074 activity (1-2) Optimal Operating Profit earned @ 5% 10,15,849 of Sr.3 Actual operating profit earned 9,02,775 4,28,81,828 Adjustment due to transfer pricing (5-4) 17,62,68,906 Value of international transaction 13,33,87,078 Arms length price Working by the Assessee Total Cost 45,22,947 Less: Cost in respect of activities other than consultancy services Cost relating to charter hire 4,58,284 activity (At actual as per CIT(A) order Cost relating to export 4,52,295 9,10,578 commission 9estimated @ 10% of total cost - As adopted for A.Y 2003-04 by TPO Cost relating to consultancy 36,12,369 activity (1-2) Optimal Operating Profit earned 1,80,618 @ 5% of Sr.3 Actual Operating Profit earned 10,15,859 Less: Operating Profit earned from activities other than consultancy services Charter hire charges received 21,50,000 (-) Expenses incurred 4,54,284 16,91,717 Export Commission 7,14,668 (-) Estimated expenses 4,52,295 2,62,373 19,54,090 Balance Operating Profit earned (9,38,241) from Consultancy services 47 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) Adjustment due to transfer Nil Nil pricing A perusal of the above workings clearly demonstrates that the TPO has taken the cost relating to charter hire activity as 50% of total cost and whereas the assessee has taken the actual cost relating to charter hire activity. This has made a difference to the calculation of cost. Actuals have to be taken to arrive at the correct cost and only then cost plus method can be applied. Cost plus method does not contemplate estimation of cost. When actual figures are replaced in the calculation made by the TPO, then, no adjustment is called for as the payment is at arm's length price. As we are convinced with the working of the assessee, we hold that no adjustment is called for under the transfer pricing provisions. Consequently, we uphold the conclusions of ld. CIT(A) on this issue for different reasons as mentioned above and dismiss ground No.9 of the appeal raised by the revenue.
13. Now we take up ground No.2 of the appeal of the department disputing the order of ld. CIT(A) in restricting the allowance of depreciation of Rs. 4331,32,16,746/- as against assessee's claim of Rs. 5798,16,03,243/- and accordingly disallowing Rs. 1446,83,86,497/-.
13.1 In the return filed, the assessee had not been claiming depreciation on the power plant at Hazira, STG, GTG- V& VI at Patalganga and CPP-II. The assessee had also not been claiming depreciation at Cracker Unit at Hazira, Oil & Gas division, SBM & Polypropylene & Paraxylene complex at Jamnagar. The AO allowed depreciation in the earlier year however, ld. CIT(A) deleted the said allowance of depreciation of the earlier years but department filed appeals' before the Tribunal. Accordingly the AO considered the claim of depreciation by considering the written down value and worked out at Rs.4331,32,16,746/- as against the claim of Rs. 5798,16,03,243/-. In the first appeal ld. CIT(A) considering the decision of the Hon'ble Apex Court in the case of CIT vs. Mahindra Mill & Others, 243 48 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) ITR 56 and various other decisions, stated that prior to insertion of Explanation-5 to section 32 of the Act the claim of deprecation was optional. Therefore, the depreciation could not be thrust upon the assessee. Accordingly ld. CIT(A) allowed the claim of depreciation of Rs. 5798,16,03,243/- on the basis of written down value of the year and directed the AO to recompute the depreciation on the basis of the written down value arrived at after giving effect to the orders of the preceding years. Hence, department is in appeal before the Tribunal.
13.2 During the course of hearing ld. D.R relied on the order of the AO, whereas ld. A.R submitted that ld. CIT(A) is justified to restore the written down value to its original figure i.e. before claiming depreciation. He submitted that prior to assessment year 2002-03, claim for deprecation was optional as per the decision of Hon'ble Apex Court in the case of Mahindra Mills (supra). He submitted that the written down value should be considered considering consequential orders of the earlier years and the depreciation should be allowed accordingly.
13.3 We agree with ld. A.R that claim of depreciation prior to insertion of clause 5 to section 32(1) of the Act, inserted w.e.f. 1/4/2002 as applicable from A.Y 2002-03, the claim for depreciation was optional in view of decision of the Hon'ble Apex Court in the case of Mahindra Mills(supra). Therefore, the written down value of the assets as on 31/3/2001 has to be taken for considering the depreciation to be allowed to the assessee.
13.4 In view of above, we hold that AO while giving effect to this order will consider the WDV as on 31/3/2001 and allow the depreciation claim accordingly. Subject to above, ground No.2 of the appeal of the department is rejected.
49 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)14. In ground No.3 of the appeal the department has disputed the order of ld. CIT(A) in deleting disallowance of pre-operative expenses of Rs.1,81,48,738/-.
14.1 The assessee capitalized in its books of account pre-operative expenses of Rs. 1,81,48,738/- but claimed as revenue in computation of total income. AO disallowed the claim for deduction on the ground that such expenses was incurred for the erection of plant and machinery in units which had not been commissioned during the year under consideration. Therefore, these expenses were not laid out or expended for the purpose of business operation of the existing units. He further stated that in the books of account expenses in the nature of salary, travelling etc. were capitalized as cost of assets on the basis that these expenses had been incurred on those assets which went into the erection of plant and machinery. The AO relied on various decisions, as mentioned at pages 38 to 41 of the assessment order in para 10.11 and 10.12 including the decision of the Hon'ble Supreme Court in the case of Chellapally Sugar Mills Ltd., 98 ITR 167, wherein it was held that accounting standards and accounting practice regarding accounting of income and expenditure etc. have to be followed and accepted so long as same are not contrary to any law. Accordingly AO disallowed the expenses of Rs. 1,81,48,738/- and held that it is a capital expenditure. Being aggrieved, the assessee filed appeal before the first appellate authority.
14.2 On behalf of the assessee it was contended that though the said expenditure aggregating Rs. 1,81,48,738/- was capitalized in the books account but is claimed as deductible revenue expenditure as the assessee is already in the manufacture of fiber yarn. It was contended that following the strategy of backward integration the assessee company ventured in the production of PFY and PSF, the raw materials required for the 50 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) manufacture of yarn and fabrics. The plants for the manufacture of PSF and PFY were put up at Patalganga. One of the raw materials required for the manufacture of PSF & PFY is PTA and polyester chips. Assessee went for production of PTA by putting up a plant at Patalganga. Pursuant to the same strategy the assessee put up a plant for manufacture of LAB. Thereafter assessee went for the gas Cracker Plant which manufactures Ethylene, MEG and Polypropylene which are raw materials for PFY and PSF. Thus various manufacturing activities of the assessee are fully coordinated, inter connected, inter laced and inter-woven. It was contended that for storing various liquid raw materials the assessee ventured into A3 Tankfarm project, whereby the storing capacity of various liquid materials and their production is increased substantially. Therefore, the projects under commissioning in respect of which the above expenses were incurred have to be regarded as an integral part of the existing business of the assessee. It was also contended that the question whether these are separate activities of the assessee or could be considered to be one and the same had come before the various courts including the Hon'ble Supreme Court in a number of cases, and it has been held that expansion of business or setting up of separate unit constitute one and the same business. The assessee relied following cases details given at page 13 of CIT(A)'s order to substantiate its submission. These are as under:
(i) CIT vs. Prithvi Insurance Co. Ltd. (63 ITR 632) (SC)
(ii) Produce Exchange Corporation Ltd. vs. CIT (77 ITR 739) (SC)
(iii) B.R. Ltd. v. V.P.Gupta, CIT (113 ITR 647) (SC)
(iv) Addl. CIT v. Aniline Dyestuffs and Pharma P. Ltd. (138 ITR 843)-Bom)
(v) CIT vs. Alembic Glass Industries Ltd. Guj (103 ITR 715)
(vi) KSB Pumps Ltd. vs. CIT (64 ITD 377)
(vii) Bansidhar (Pvt) Ltd. vs. CIT (127 ITR 65) (Guj)
(viii)Veecumsees v. CIT (220 ITR 185) (SC)
(ix) Standard Refinery & Distillery Ltd. vs. CIT (79 ITR 589) (SC) 51 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)
(x) Grasim Industries Ltd. vs. DCIT (ITA No.1523/Mum/97)
(xi) Tata Chemicals Ltd. vs. DCIT (72 ITD 01)Mum 14.3 It was contended that pre-operative expenses in question have been incurred for the purpose of business of the assessee and the expenditure was incurred for expansion of its existing activities. Hence, these pre-
operative expenses represent revenue expenditure incurred for the purpose of business and be allowed as deduction under section 37 of the Act. Ld. CIT(A) considered the submissions of the assessee and also considering that similar issue had been considered in the assessee's own case in the preceding assessment year and held that the pre-operative expenses of Rs.1,81,48,738/- are allowable as revenue expenditure. It is also relevant to state that ld. CIT(A) has also considered specifically the case of ITAT Pune Bench in the case of Kalyani Steel Ltd., vs. DCIT, 62 ITD 233. He has held that where there is common management, common office and common control, then expenditure incurred on expansion / extension of the existing business is of revenue nature. Hence, department is in appeal before the Tribunal.
14.4 At the time of hearing ld. D.R relied on the order of the AO, whereas ld. A.R besides supporting the order of ld. CIT(A) submitted that identical issue on similar facts came up before the Tribunal in assessee's own case for assessment year 1997-98 in ITA No.6118/M/2003 and the Tribunal by its order dated 19/12/2006 after discussing all the case laws, decided the issue in favour of the assessee. He submitted that copy of said order is placed at pages 336 to 363 of the paper book. He further submitted that this issue again came up before the Tribunal in preceding assessment year in the appeal filed by the department in ITA No.6269/M/2004 and the Tribunal by its order dated 30/4/2008 by following its order dated 19/12/2006 confirmed the order of ld. CIT(A) to allow pre-operative expenses by rejecting the ground of appeal taken by the department. To 52 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03) substantiate his submissions he referred to pages 221 to 229 of the paper book, copy of said order of the Tribunal placed at.
14.5 We have carefully considered the orders of the authorities below, submissions of the ld. representatives of the parties and earlier orders of the Tribunal. We observe that this issue is covered in favour of the assessee by the earlier order of the Tribunal dated 19/12/2006 and 30/4/2008 (supra) and following the reasons given in the order of A.Y 1997-98 (supra) we do not find any reason to interfere with the order of ld. CIT(A). Hence, we uphold his order by rejecting Ground No.3 of the appeal taken by the department.
15. Now we take ground No.8 of the appeal of the department which is as under:
" On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in deleting the disallowance made u/s. 115JB of the Income Tax Act, 1961 in respect of provision of doubtful debt of Rs.51,65,21,352/-."( correct figure is Rs.51,67,21,352/-) 15.1 The A.O observed while computing book profit u/s.115JB of the Act the assessee company had not added provision for doubtful debts and advances, though the provision for doubtful debts and advances added back in the computation of income under normal provisions. The AO stated that the provision made by the assessee for doubtful debts and advances is uncertain liability and accordingly added the sum of Rs. 51,67,21,352/- in the computation of book profit under section 115JB of the Act. Being aggrieved, the assessee filed appeal before the first appellate authority.
15.2 Ld. CIT(A) deleted the said addition made by the AO by accepting the contentions of the assessee. Hence, department is in appeal before the Tribunal.53 ITA NO.3082 & 3420/MUM/06(A.Y.2002-03)
15.3 At the time of hearing ld. D.R submitted that in view of the amendment made by the finance (No.2) Act 2009 with retrospective effect from 1/4/2001 by inserting clause " i " in Explanation -1 to section 115JB of the Act the issue is to be decided against the assessee and thus the action of the AO is to be confirmed. Ld. A.R has not disputed the above contention.
15.4 In view of above submissions of the ld. representatives of the parties and considering the amendment made by Finance (No.2) Act 2009 with retrospective effect by inserting clause " i " of Explanation - 1 to section 115 JB of the Act we reverse the order of ld. CIT(A), by confirming action of the AO to make the said addition of Rs. 51,67,21,352/- while computing deduction under section 115JB of the Act. Hence, ground No.8 taken by the department is allowed.
16. In the result, both the appeals filed by the assessee as well as department for assessment year 2002-03 are allowed in part.
Order pronounced in the open court on the 28th day of May 2012 Sd/- Sd/-
(J.SUDHAKAR REDDY ) (B.R.MITTAL) ACCOUNTANT MEMBER JUDICIAL MEMBER Mumbai, Dated 28th 4 May 2012
Copy to: 1. The Appellant 2. The Respondent 3. The CIT City -concerned
4. The CIT(A)- concerned 5. The D.R"L" Bench.
(True copy) By Order
Asst. Registrar, ITAT, Mumbai Benches
MUMBAI.
Vm.