2009 (4) TMI 1 - HC - Income Tax

Assessee-company develop/manage franchisees for running restaurants assessee created an intermediary in the form of a wholly owned subsidiary, to carry on a co-operative advertising on the behalf of its franchisees - claim on account of accrued marketing expenditure and on account of contributions towards advertising, marketing and promotional activities towards wholly owned subsidiary not proved that expenditure were on account of commercial expediency so rightly disallowed by tribunal

Issues Involved:
1. Disallowance of Rs 27,61,882/- on account of accrued marketing expenditure.
2. Disallowance of Rs 44,44,002/- for contributions towards advertising, marketing, and promotional activities (APM activities).

Issue-Wise Detailed Analysis:

1. Disallowance of Rs 27,61,882/- on Account of Accrued Marketing Expenditure:
The assessee-company was aggrieved by the disallowance of Rs 27,61,882/- related to accrued marketing expenditure, which was an incentive paid to franchisees calculated at 2% of sales made by the franchisees from December 2000 to March 2001. The assessee introduced an incentive scheme in April 2001, stating that if franchisees commenced construction or operation of three additional outlets by November 30, 2001, the company would reimburse advertising contributions made by them to the extent of 2% of sales for the period from December 1, 2000, to November 30, 2001.

The Assessing Officer disallowed this expenditure, reasoning that the scheme was communicated only in April 2001, making it impossible for the assessee to predict which franchisees would meet the target by March 30, 2001. Consequently, the expenses were deemed to relate to the following financial year.

The Tribunal upheld the disallowance, stating that the liability had not arisen during the year under consideration since the provision for expenses would be utilized only when the contingency happens, which would be known only in the subsequent financial year. The High Court agreed with this view, concluding that the incentive scheme came to the knowledge of the franchisees only in April 2001, and thus, the assessee's claim for accrued marketing expenditure was not sustainable for the financial year ending March 31, 2001.

2. Disallowance of Rs 44,44,002/- for Contributions Towards APM Activities:
The second issue involved the disallowance of Rs 44,44,002/- out of the contributions made by the assessee-company towards APM activities to its wholly-owned subsidiary, YRMPL. The Assessing Officer noted that the assessee-company had contributed Rs 1.15 crores to YRMPL, divided into advertising and sales promotion (Rs 27,48,394/-) and contributions towards APM activities (Rs 87,86,318/-). While the former was allowed, the latter was disallowed because the assessee-company had no obligation to contribute under clause 4.1 of the tripartite agreement. The Assessing Officer also noted that YRMPL had excess funds, questioning the need for the assessee-company's contribution.

The Tribunal upheld the disallowance, reasoning that the payment to YRMPL was voluntary and there was no demonstrable business expediency or benefit to the assessee-company. The High Court concurred, stating that the assessee-company had created an intermediary in the form of YRMPL to claim expenses indirectly. The court emphasized that for an expenditure to be deductible under Section 37(1) of the Income Tax Act, it must be commercially expedient and not of a capital nature. The assessee-company failed to prove that the contributions to YRMPL were made in the course of business or for commercial expediency.

Conclusion:
The High Court sustained the Tribunal's judgment on both issues, finding no substantial question of law. The court concluded that the assessee-company's claims for accrued marketing expenditure and contributions towards APM activities were not justified within the relevant financial year and were not commercially expedient. Consequently, the appeal was dismissed.

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