2012 (12) TMI 253 - AT - Income Tax

Provision of warranty expenses - held that - Provisions for warranty charges is not a contingent liability and is deductible in computation of taxable income. It is an accrued liability - no infirmity in the order of CIT(A), on the issue of warranty provisions. - Decision in CIT vs. Vinitec Corporation Pvt. Ltd. 2005 (5) TMI 54 - DELHI HIGH COURT followed - In the result, department s appeal is dismissed.

Summary

Issues:
1. Disallowance of warranty provisions as contingent liability.
2. Deletion of disallowance based on scientific basis and case laws.

Analysis:
1. The appeal was filed against the deletion of disallowance of warranty provisions amounting to Rs.40,74,428 for the assessment year 2007-08. The Assessing Officer disallowed the provision based on it being a contingent liability and not a liability in praesenti. The assessee, engaged in manufacturing/trading/assembling telecom power equipments, claimed the deduction based on 1% of the net sales and service income. The CIT(A) deleted the addition relying on the decision in M/s. Rotork Controls India Pvt. Ltd. vs. CIT (2009) 314 ITR 62, stating that warranty provisions are not contingent liabilities but accrued liabilities. The ITAT upheld the CIT(A)'s decision based on the Delhi High Court ruling in CIT vs. Vinitec Corporation Pvt. Ltd. (2005) 278 ITR 337 and the subsequent confirmation by the Supreme Court.

2. The assessee followed a scientific and historical method of accounting for warranty provisions, considering past experience. The process involved reducing total sales and service income by related party purchases, calculating 1% of the amount, adjusting for opening balance of warranty provision, and reversing excess provision. The actual warranty expenses were directly charged to the Profit & Loss account. The ITAT, following the decisions of the Delhi High Court and the Supreme Court, concluded that warranty provisions are not contingent liabilities but accrued ones, hence upholding the CIT(A)'s deletion of the disallowance. The appeal by the department was dismissed, affirming the treatment of warranty provisions as deductible in the computation of taxable income.

This detailed analysis of the judgment showcases the reasoning behind the decision to uphold the deletion of the disallowance of warranty provisions and the legal principles applied in determining the treatment of such provisions in the context of income tax assessments.