2006 (9) TMI 369 - AT - Income Tax

Summary

Issues Involved:
1. Disallowance of Rs. 2,38,168 out of labour charges.
2. Disallowance of claim of deduction under section 80-IA of the I.T. Act.

Detailed Analysis:

1. Disallowance of Rs. 2,38,168 out of Labour Charges:

Facts:
The assessee paid labour charges for cutting and polishing diamonds, which increased significantly from the previous year. The Assessing Officer (AO) noticed a substantial increase in labour charges and a decrease in gross profit, leading to the disallowance of Rs. 7,25,563 under section 37 of the I.T. Act. The CIT(A) reduced the disallowance to Rs. 2,38,168.

Assessee's Argument:
The assessee argued that the increase in labour charges was due to inflation and reimbursement of P.F. expenses to contractors. All relevant evidence, including job agreements and payment details, were provided. The assessee cited judgments from the jurisdictional High Court, asserting that the AO does not have the power to disallow expenses deemed excessive or unreasonable if they were genuinely incurred for business purposes.

Revenue's Argument:
The Revenue contended that the assessee failed to justify the increased labour charges and reimbursement of P.F. expenses. The CIT(A) had already provided sufficient relief, and no further relief was warranted.

Tribunal's Findings:
The Tribunal found that the assessee had provided sufficient documentary evidence to support the labour charges. The AO's disallowance was based on an estimate without specific evidence of excess payments. The Tribunal referenced the jurisdictional High Court's judgment, which limits the AO's power to disallow genuine business expenses. Consequently, the Tribunal set aside the CIT(A)'s order and deleted the disallowance.

2. Disallowance of Claim of Deduction under Section 80-IA:

Facts:
The assessee claimed a deduction under section 80-IA, considering cutting and polishing diamonds as a manufacturing activity. The AO disallowed the claim, stating that the activity did not result in the production of a new article or thing. The CIT(A) upheld the AO's decision, referencing the Supreme Court's judgment in CIT v. Zem India Mfg. Co., which held that converting rough diamonds into polished diamonds is not a manufacturing process.

Assessee's Argument:
The assessee argued that the processing of rough diamonds into polished diamonds should be considered a manufacturing activity. Various judgments were cited to support this view. The assessee also referred to the definition of 'industrial undertaking' in section 33B and the clarificatory nature of Explanation 4 to section 10A, which includes cutting and polishing of precious stones as manufacturing.

Revenue's Argument:
The Revenue maintained that for claiming deduction under section 80-IA, the industrial undertaking must be involved in manufacturing or producing an article or thing. The definition in section 10A is specific to that section and cannot be extended to section 80-IA. The Supreme Court's judgment in Zem India Mfg. Co. was cited to support the view that cutting and polishing diamonds is not a manufacturing activity.

Tribunal's Findings:
The Tribunal upheld the CIT(A)'s decision, agreeing that the assessee's activity did not qualify as manufacturing under section 80-IA. The Tribunal emphasized that the definition in section 10A could not be applied to section 80-IA and that the Supreme Court's judgment in Zem India Mfg. Co. was binding. Therefore, the assessee was not entitled to the deduction under section 80-IA.

Conclusion:
The appeal was partly allowed. The Tribunal deleted the disallowance of Rs. 2,38,168 out of labour charges but upheld the disallowance of the deduction under section 80-IA.