2008 (8) TMI 909 - AT - Income Tax

Interpretation of statutes - Exemption u/s 10B on interest - receipt of interest on margin monies - export sale proceeds were utilised for making fixed deposits with the banks as margin monies in order to open the LCs - Whether the interest income can be considered as profits and gains derived by the EOU from the export of articles or things within the meaning of sub-section (1) of Section 10B? - expression profits of the business of the undertaking - manufacture and export of gold bullion, jewellery and medallions - also deals in gold bullion locally - HELD THAT - The expression profits of the business of the undertaking is wider in scope than the expression profits derived from the industrial undertaking . This aspect of the matter has been examined by the Delhi High Court in CIT v. Eltek SGS P.Ltd. 2008 (2) TMI 17 - DELHI HIGH COURT . In this decision, the Sections involved were 80HH and 80IB. While Section 80HH required that the profits and gains should be derived from the industrial undertaking, Section 80IB required that they should be derived from any business of the industrial undertaking. No contrary judgement of any other Court on the scope of the expression profits of the business of the undertaking as contrasted with the expression profits derived by/from the industrial undertaking was brought to our notice. The facts of the case undisputedly show that it is only for the purpose of making imports that the assessee had to open LCs with the banks and that it was only to comply with the direction of the banks that the assessee was compelled to make fixed deposits with them as margin monies. It is not in dispute that the proceeds of the fixed deposits came out of the export sale proceeds and not out of any surplus monies available with the assessee. Therefore, not only is there an inextricable link between the margin monies and the business of the undertaking, but there is also a link between the interest arising from the margin monies and the assessee's business. Thus, the receipt of interest on margin monies arises out of business transactions and, therefore, has to be considered as profits of the business of the undertaking. If it is found, as we have been able to from the facts of the case, that the interest is incidental to the business carried on by the undertaking, then Section 56(1) comes into play and it is not permissible in law to treat the interest as income from other sources , the reason being that the interest is assessable as profits of the business of the undertaking. Therefore, in our humble opinion, the departmental authorities were not right in taxing the interest under the residuary head. They ought to have assessed the same as profits of the business of the undertaking. Therefore, it appears to us that it would not be correct in law to treat the interest income under the residuary head. The mere fact that the fixed deposits were retained well beyond the realization of the related export proceeds cannot justify the assessment of the interest income under the residuary head, the reason being that the margin monies have to continue with the banks until the LCs are honoured. In any case, it cannot be disputed that when the fixed deposits were made with the banks as margin monies they were made as part of the business operations of the undertaking, subject to all the risks of the business, and the character of the deposits cannot change merely because they were retained by the bank beyond the realization of the export proceeds. Therefore, we are of the humble opinion that the departmental authorities were not right in treating the interest as income from other sources . In our opinion, the interest falls to be assessed as profits of the business of the undertaking. If that is so, the interest becomes eligible for the deduction u/s.10B. We, accordingly, direct the AO to allow the deduction and modify the assessment. Thus, ground are allowed. Disallowance of the commission payment to M/s. Virgo Polymers (India) Ltd.- The functions of Virgo Polymers were described for the first time before the Commissioner of Income-tax (Appeals) and we have already reproduced them. One of the functions was that Virgo Polymers would ensure that there were no bad debts and if there were any, they would make good the same. If such a term is included in the agency agreement, the agent would be a del credre agent which means that the agent will be responsible for any bad debts.We are unable to appreciate why this term was included as one of the functions of Virgo Polymers because in the course of the arguments before us, the ld counsel for the assessee did state that all the sales of bullion were for cash. It is generally known that in the bullion market transactions are put through only in cash and if really Virgo Polymers had an insight into the functioning of the bullion market, it would not have accepted such a term as one of its functions. Be that as it may, absolutely no evidence has been led to prove that Virgo Polymers did carry out any of the eight functions assigned to them. It may be that the assessee had filed some papers before the Income-tax authorities and it may even be that the commission payment was made by cheque. But the Income-tax authorities are not bound by the mere existence of the documents to hold that the payment was made wholly and exclusively for the purpose of the assessee's business. Assessee and Virgo Polymers are not related to each other in any manner is not of any consequence. The fact that this was the only year in which any commission was paid is also of no relevance. Merely because of these facts the AO cannot be compelled to allow the commission as deduction in the absence of any evidence to show the rendering of any service by Virgo Polymers. Therefore, we are unable to hold that the departmental authorities were not justified in disallowing the commission payment to Virgo Polymers. The disallowance is confirmed and ground nos.5 and 6 are dismissed.

Summary

Issues Involved:
1. Eligibility for exemption under Section 10B of the Income-tax Act, 1961 for interest income.
2. Disallowance of commission payment to Virgo Polymers (India) Ltd.
3. Levy of interest under Sections 234A to 234D of the Income-tax Act.

Detailed Analysis:

1. Eligibility for Exemption under Section 10B for Interest Income:

The primary issue was whether the interest income earned on fixed deposits kept as margin money for opening Letters of Credit (LCs) could be considered as profits derived by the export-oriented undertaking (EOU) from the export of articles or things under Section 10B of the Income-tax Act, 1961. The assessee argued that the interest income was directly connected with its business of exporting gold bullion, jewellery, and medallions, as the fixed deposits were made using export sale proceeds and were necessary for obtaining LCs for importing gold. The Assessing Officer (AO) rejected this claim, stating that the immediate source of the interest was the fixed deposits and not the export activity, citing various judgments including Pandian Chemicals Ltd. v. CIT and CIT v. Menon Impex (P) Ltd. The Commissioner of Income-tax (Appeals) upheld this view, emphasizing that the interest income was not directly linked to the export business and should be assessed under "Income from other sources" (IFOS).

On further appeal, the Tribunal considered the statutory formula in sub-section (4) of Section 10B, which defines "profits derived from export of articles or things" as the amount proportional to the export turnover relative to the total turnover of the business. The Tribunal noted that the expression "profits of the business of the undertaking" is broader than "profits derived by the undertaking" and includes income incidental to the business activities. The Tribunal held that the interest income, being incidental to the business operations and arising from margin monies deposited for business purposes, should be treated as "profits of the business of the undertaking" and not as IFOS. Consequently, the interest income was deemed eligible for exemption under Section 10B.

2. Disallowance of Commission Payment to Virgo Polymers (India) Ltd.:

The assessee claimed a deduction for a commission payment of Rs. 2 Crores to Virgo Polymers for procuring additional business. The AO disallowed the claim, citing a lack of evidence regarding the services rendered by Virgo Polymers, which was engaged in the polymer business and had no apparent connection to the jewellery business. The AO noted several discrepancies and the absence of documentation supporting the nature of services rendered.

The Commissioner of Income-tax (Appeals) upheld the disallowance, emphasizing the lack of substantiation and the improbability of Virgo Polymers, a company in the polymer business, facilitating sales in the jewellery market. The Tribunal also rejected the assessee's application to admit additional evidence under Rule 29 of the Appellate Tribunal Rules, 1963, due to the failure to provide substantial cause and the presence of inconsistencies in the additional evidence.

Upon reviewing the evidence presented before the income-tax authorities, the Tribunal noted the absence of proof regarding the services rendered by Virgo Polymers and upheld the disallowance. The Tribunal emphasized that mere documentation of an agreement and payment does not suffice to prove that the expenditure was incurred wholly and exclusively for business purposes.

3. Levy of Interest under Sections 234A to 234D:

The assessee contested the levy of interest under Sections 234A to 234D of the Income-tax Act. However, no specific arguments were advanced in support of this ground during the proceedings. The Tribunal, therefore, did not adjudicate on this issue but noted that the assessee would be entitled to consequential relief, if any, based on the outcome of the other issues.

Conclusion:

The appeal was partly allowed, with the Tribunal directing the AO to allow the exemption under Section 10B for the interest income and confirming the disallowance of the commission payment to Virgo Polymers. The issue regarding the levy of interest under Sections 234A to 234D was left to be resolved consequentially.