2014 (9) TMI 18 - HC - Income Tax

Order of the Tribunal u/s 263 Commission paid u/s 36(1)(ii) Inflation of profits by booking majority expenses against trading unit for exemption u/s 80IC Held that - assessee was maintaining separate books of accounts for the manufacturing unit receipts and expenditure which was exempt under Section 80-IC; and the trading activities - there were certain common expenses, which were to be segregated. Common expenses were/are not unusual, abnormal or unique in such cases - when the AO had adopted one of the courses permissible and available to him, and this has resulted in loss to Revenue; or two views were possible and the AO has taken one view with which the CIT may not agree. Tribunal did record and has reproduced the relevant portions of the notice u/s 143(2) wherein details of the commission paid to related parties, etc. were mentioned - it did not notice the letters/ replies dated 22nd June, 2009, 2nd July, 2009; and, 17th August, 2009, filed before the AO and has observed that the assessee was unable to furnish the details enclosed with the reply or to show that the questions in this regard were asked by the AO - the order of the Tribunal upholding the order of CIT passed u/s 263, cannot be sustained - the Tribunal has not considered the factual matrix or the various documents on record and has not examined the scope of Section 36(1)(ii), the matter is remitted back to the Tribunal for re-examination and re-hearing of appeal Decided in favour of Assessee.

Summary

Issues Involved:
1. Validity of the Income Tax Appellate Tribunal's decision sustaining the order of the Commissioner of Income Tax under Section 263 of the Income Tax Act, 1961.
2. Disallowance of commission paid to Managing Directors under Section 36(1)(ii) of the Income Tax Act.
3. Allocation of common expenses between trading and manufacturing units and its impact on profits exempt under Section 80-IC.

Issue-wise Detailed Analysis:

1. Validity of the ITAT's Decision Sustaining the CIT's Order under Section 263:

The High Court examined whether the ITAT was correct in upholding the CIT's order under Section 263. The CIT had issued a notice under Section 263 on two grounds: disallowance of commission paid to Managing Directors under Section 36(1)(ii) and improper allocation of expenses between trading and manufacturing units. The CIT's order was based on the suspicion that the allocation of expenses might have been manipulated to inflate profits of the exempt manufacturing unit, thus being prejudicial to the interest of the Revenue. However, the High Court found that the CIT had not provided a definitive finding that the Assessing Officer's (AO) order was erroneous; rather, the CIT's observations were based on mere possibilities and suspicions. The High Court emphasized that under Section 263, the CIT must establish that the AO's order was erroneous and prejudicial to the Revenue, which was not done in this case. The ITAT's decision was thus found to be unsustainable.

2. Disallowance of Commission Paid to Managing Directors under Section 36(1)(ii):

The CIT had questioned the commission payments to two Managing Directors, suggesting these should be disallowed under Section 36(1)(ii). The CIT directed the AO to verify whether the directors were shareholders entitled to profits or dividends, which would invoke Section 36(1)(ii). The High Court noted that the CIT did not provide a clear finding on this issue and merely directed further verification. The Tribunal also failed to record or consider the arguments raised by the appellant-assessee regarding the applicability of Section 36(1)(ii). The High Court found this approach insufficient and remanded the matter back to the Tribunal for a detailed examination.

3. Allocation of Common Expenses Between Trading and Manufacturing Units:

The CIT had raised concerns about the allocation of common expenses, suggesting that the appellant-assessee might have inflated expenses for trading activities to reduce taxable profits and shifted these expenses to the exempt manufacturing unit. The appellant-assessee had provided detailed apportionment ratios and justifications to the AO, who had accepted these allocations after due verification. The High Court observed that the CIT did not provide a conclusive finding that the AO's acceptance of the allocations was erroneous. Instead, the CIT's observations were based on the possibility of manipulation without concrete evidence. The High Court emphasized that the CIT must provide specific findings to prove the AO's order was erroneous, which was not done in this case.

Conclusion and Remand:

The High Court concluded that the ITAT's decision upholding the CIT's order under Section 263 could not be sustained due to the lack of specific findings and reliance on mere possibilities by the CIT. The matter was remanded back to the Tribunal for a thorough re-examination of the factual matrix and the applicability of Section 36(1)(ii). The question of law was answered in favor of the appellant-assessee, and the appeal was disposed of with no costs.