2015 (11) TMI 1762 - AT - Income Tax

Allowability of provision for warranty - Held that - As decided in favour of assessee 2012 (3) TMI 627 - ITAT BANGALORE we are concerned with Product Warranties. To give an example of Product Warranties, a company dealing in computers gives warranty for a period of 36 months from the date of supply. The said company considers following options (a) account for warranty expense in the year in which it is incurred; (b) it makes a provision for warranty only when the customer makes a claim; and (c) it provides for warranty at 2% of turnover of the company based on past experience (historical trend). Under the circumstances, the third option is most appropriate because it fulfills accrual concept as well as the matching concept. For determining an appropriate historical trend, it is important that the company has a proper accounting system for capturing relationship between the nature of the sales, the warranty provisions made and the actual expenses incurred against it subsequently. If warranty provisions are based on experience and historical trend(s) and if the working is robust then the question of reversal in the subsequent two years, in the above example, may not arise in a significant way. - decided against revenue

Summary

Issues Involved:
1. Disallowance of warranty provision for assessment years 2007-08 and 2008-09.
2. Consistency of the method used for warranty provision.
3. Applicability of previous ITAT decisions and Supreme Court judgment.

Detailed Analysis:

Disallowance of Warranty Provision for Assessment Years 2007-08 and 2008-09:
The primary issue revolves around the disallowance of Rs. 7,63,57,022/- for the assessment year 2007-08 and Rs. 10,85,61,747/- for the assessment year 2008-09, which were made by the Assessing Officer (AO) on account of the provision for warranty debited to the Profit & Loss account. The assessee argued that these provisions were scientifically and technically estimated based on past experiences and industry trends. The CIT(A) accepted the assessee's method, noting its consistency and alignment with previous years' practices and judicial decisions.

Consistency of the Method Used for Warranty Provision:
The CIT(A) observed that the method adopted by the assessee in computing provisions for warranty was consistent year-to-year and scientifically based. The CIT(A) referenced the Financial Statements and noted that the method had not changed over the years. This consistency was crucial in determining the legitimacy of the provision for warranty as a deductible expense.

Applicability of Previous ITAT Decisions and Supreme Court Judgment:
The CIT(A) and the Tribunal relied on previous ITAT decisions in the assessee's own case for the assessment years 2004-05 and 2005-06, where similar provisions were allowed. Additionally, the Supreme Court's decision in Rotork Controls India Pvt. Ltd. Vs CIT (314 ITR 62) was cited, which held that provisions made on past experience are scientific and thus allowable. The Tribunal noted that the warranty provisions were based on historical trends and past data, fulfilling both the accrual and matching concepts.

Analysis of Department's Grounds of Appeal:
The department contested the CIT(A)'s decision, arguing that the provision for warranty was excessive and not scientifically justified for the relevant years. They also pointed out that the ITAT decisions in the assessee's favor had not reached finality, as appeals were pending before the High Court. Despite these arguments, the Tribunal upheld the CIT(A)'s decision, emphasizing the consistency and scientific basis of the warranty provisions.

Tribunal's Conclusion:
The Tribunal reviewed the facts, materials, and previous decisions, concluding that the assessee's method of creating warranty provisions was appropriate and consistent with judicial precedents. The Tribunal dismissed the revenue's appeal, affirming the CIT(A)'s decision to allow the warranty provisions as deductible expenses.

Summary:
The judgment addressed the disallowance of warranty provisions for the assessment years 2007-08 and 2008-09, emphasizing the consistency and scientific basis of the method used by the assessee. The Tribunal upheld the CIT(A)'s decision, relying on previous ITAT rulings and the Supreme Court's judgment in Rotork Controls India Pvt. Ltd., thereby dismissing the revenue's appeal.