2012 (8) TMI 271 - AT - Income Tax

Provision for Warranty claim - dis-allowance on ground that assessee was following the mercantile system of accounting - Held that - As soon as the sale is made, the assessee incurs the liability on account of warranty claim even though the expenditure may be actually incurred in subsequent years. Therefore, the claim of deduction on account of provision for warranty claim is allowable as deduction in mercantile system of accounting and this view is also supported by the judgment of Supreme Court in case of Rotork Controls India (P) Ltd(2009 (5) TMI 16 - SUPREME COURT OF INDIA ). As regards quantum of claim the assessee had been consistently making claim @ 2% of sales and, in case, in the subsequent year, the provision made is found to be excessive, balance amount is offered for income and, in case, expenditure actually incurred is found to be more, further deduction is claimed in subsequent year. Since assessee has consistently followed the system and adjustments have been made in future, no reason is seen to interfere with the system being consistently followed by the assessee - Decided in favor of assessee.

Summary

Issues:
Allowability of provision for warranty claim under the mercantile system of accounting.

Analysis:
The appeal was against the addition of Rs.22,79,776 on account of provision for warranty claim for the assessment year 2007-08. The Assessing Officer (AO) disallowed the claim, stating that under the mercantile system of accounting, the claim could only be allowed if the liability had been incurred during the year. The Commissioner of Income Tax (Appeals) [CIT(A)] also did not accept the claim, distinguishing it from a judgment of the Hon'ble Supreme Court in a similar case. The CIT(A) observed that the warranty provision was not justified as an integral part of the sale price, as the assessee had not provided sufficient details or past events of defects. The assessee, however, argued that detailed information regarding warranty obligations was provided, including warranty periods, calculations, and copies of contracts with customers.

The Tribunal noted that the dispute centered around the deduction claim for the warranty provision. The assessee manufactured conveying and handling equipment used in foundry and sand preparation plants, and provisions for warranty were made in the year of sale. The AO and CIT(A) had disallowed the claim, citing the contingent nature of the liability. The Tribunal disagreed with this view, stating that as per the mercantile system of accounting, the liability for warranty claim arises at the time of sale, even if the actual expense is incurred later. The Tribunal emphasized that the claim was allowable, supported by the judgment of the Hon'ble Supreme Court in a similar case. The Tribunal found that the assessee had provided detailed information and copies of contracts, justifying the provision for warranty claim. The consistent practice of making a 2% claim on sales was deemed acceptable, with adjustments made in subsequent years based on actual expenses. The Tribunal, therefore, set aside the CIT(A)'s order and allowed the claim of the assessee.

In conclusion, the Tribunal allowed the appeal of the assessee, emphasizing the allowability of the provision for warranty claim under the mercantile system of accounting and supporting it with detailed information and contractual evidence.