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2013 Supreme(Kar) 1103
IN THE HIGH COURT OF KARNATAKA AT BANGALORE
N. Kumar and B. Manohar, JJ.
Commissioner of Income Tax —Appellant
Vs.
Raman Boards Ltd. —Respondent
Income Tax Appeal No. 8 of 2007
Decided on : 01-04-2013
Advocate Appeared:
E.I. Sanmathi, for the Appellant
S. Parthasarathi, for the Respondent
The main legal point established in the judgment is that the provisions of Section 40A(2)(b) of the Income-tax Act apply when the payment is made to a person referred to in the clause (b) of the sub-section, and the Assessing Authority deems the expenditure excessive or unreasonable.
Headnote:
Expenditure - Disallowance - Section 40A(2)(b) - [MANUFACTURE OF INSULATION PAPER BOARDS] - [Section 40A(2)] - The court discussed the provisions of Section 40A(2)(b) of the Income-tax Act, which allows the disallowance of excessive or unreasonable expenditure. The court emphasized that the provision applies when the payment is made to a person referred to in the clause (b) of the sub-section, and the Assessing Authority deems the expenditure excessive or unreasonable. The court also referred to the case law Commissioner of Income Tax Vs. V.S. Dempo and Co. (P) Ltd., (2011) 336 ITR 209 Bom to establish that a subsidiary company does not fall under the capacities mentioned in the clause (b) of Section 40A(2). Additionally, the court considered the applicability of Section 37(1) of the Act, which allows any expenditure laid out or expended wholly and exclusively for the purposes of the business or profession to be allowed in computing the income chargeable under the head 'Profits and gains of business or profession'. The court concluded that the subsidiary company's failure to fulfill its obligations did not render the transaction illegal, and the expenditure was wholly for the business of the assessee-company.
Fact of the Case:
The assessee, engaged in the manufacture of insulation paper boards, entered into an agreement with a subsidiary company for the manufacture of footwear soles. The Assessing Officer disallowed a portion of the expenditure claimed by the assessee under Section 40A(2)(b) of the Income-tax Act, leading to a series of appeals.
Finding of the Court:
The court found that the subsidiary company's failure to fulfill its obligations did not render the transaction illegal, and the expenditure was wholly for the business of the assessee-company. Therefore, the court dismissed the appeal.
Issues: The issues revolved around the disallowance of expenditure claimed by the assessee under Section 40A(2)(b) of the Income-tax Act and the applicability of Section 37(1) of the Act.
Ratio Decidendi: The court held that the provisions of Section 40A(2)(b) apply when the payment is made to a person referred to in the clause (b) of the sub-section, and the Assessing Authority deems the expenditure excessive or unreasonable. The court also established that a subsidiary company does not fall under the capacities mentioned in the clause (b) of Section 40A(2) and concluded that the expenditure was wholly for the business of the assessee-company.
Final Decision: The court dismissed the appeal, ruling in favor of the assessee.
N. Kumar, J.—The revenue has preferred this appeal challenging the order passed by the Tribunal directing the deletion of disallowance. The assessee was engaged in the manufacture of insulation paper boards. During the year 1995-96, the assessee entered into an agreement with M/s. Flexsole Raman Limited, a subsidiary company for manufacture of footwear soles. The subsidiary company was supposed to handle and manage the Stiffener division of the company. The project started in November 1993. The assessee entered into an agreement dated 01.12.1993. Under that agreement, the subsidiary company was to undertake manufacture assembly test and quality control of stiffener materials in accordance with the technical data of the assessee. The other manufacturing related jobs were also to be done by the subsidiary company for which, the assessee shall pay management fee of Rs. 4,00,000/- per month. Accordingly, the assessee claimed Rs. 48,00,000/- payment made to the subsidiary company as expenditure.
2. The Assessing Officer allowed 50% of the claim of the assessee and disallowed Rs. 24,00,000/- under Section 40A(2)(b) of the Income-tax Act. Aggrieved by the said order, the assessee preferred an appeal. The appellate authority confirmed the said order. Aggrieved by these two orders, the assessee preferred an appeal before the Tribunal.
3. The Tribunal held that the genuineness of the agreement and the services rendered by the subsidiary company are not doubted. There is no reason as to why 50% of the expenditure is to be allowed. There is no finding that payment made by the assessee is excessive under Section 40A(2)(b). The expenditure incurred by the assessee under the aforesaid provision can be disallowed if the Assessing Authority is of the opinion that such an expenditure is excessive or unreasonable having regard to the fair market value of the goods and services or the facilities for which the payment is made. No comparative date was brought on record by the assessing authority that the payment made by the assessee is excessive. Over and above the services mentioned in the agreement, they might have been given some more services like preparation of feasibility report etc. However, there cannot be a valid reason for making disallowance under Section 40A(2)(b) of the Act. Accordingly, he allowed the appeal and permitted deletion of the disallowance. Aggrieved by the said order, the revenue is in appeal.
4. The learned counsel for the revenue assailing the impugned order contended that the material on record discloses that the subsidiary company incurred an expenditure of Rs. 21,05,520/- being the cost of the goods supplied to the assessee. Therefore, the amount paid by the assessee is excessive and accordingly, deduction of 50% is proper and therefore, he submits a case for interference is made out.
5. Per contra, the learned counsel for the assessee supported the impugned order.
6. The appeal was admitted to consider the following substantial question of law on 20.09.2007.
Whether the Tribunal is right "in setting aside the finding recorded by the Assessing Officer that the expenditure allowed to an extent of Rs. 24,00,000/- to Flexsole Raman Limited, which is a subsidiary company out of Rs. 48,00,000/- under the head of manufacture and other expenses under Section 40A sub-section 2 clause (b) of the Income-tax Act?"
7. Section 40A(2) on which reliance is placed reads under:
Where the assessee incurs any expenditure in respect of which payment has been or is to be made to any person referred to in clause (b) of this sub-section, and the Assessing Officer is of opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made to the legitimate needs of the business or profession of the assessee or the benefit derived by or accruing to him therefrom, so much of the expenditure as is so considered by him to be excessive or unreasonable s
