2016 (10) TMI 175 - AT - Income Tax

TDS u/s 195 - Non-deduction of TDS on AMC contract - existence of PE in India - CIT(A) held that the same was not taxable in the hands of non-resident payee, because that was business income of the non-residents and since they had no PE in India - DTAA - Held that - CIT(DR) has referred to the various services, covenants and pointed out that services had been rendered by communication only in India. Ld. CIT(DR) s contention cannot be accepted in view of specific covenant contained in the agreement, which, inter alia, includes covenant no. 2.6, which deals with product replacement and repair as per which Gillette shall repair or replace any failed or defective part or parts of the hub station equipment in accordance with the provisions of sub para 2.6.1 to 2.6.4. Therefore, it is not correct to say that the entire services were rendered in India. As a matter of fact the replacement could be effected only by Gillette. It is not the case of AO that the non-resident payee had any PE in India and, therefore, the business income in the hands of non-resident payee could not be taxed in India. Further, we are in agreement with the detailed analysis carried out by ld. CIT(A) in holding that no technical services were provided to the assessee and the services were in the nature of normal maintenance/ repairs/ replacement etc., performed outside India. Therefore, such payments did not fall within the purview of Explanation 2 to section 9(1)(vii) of the Act. Further, we are in agreement with ld. CIT(A) s conclusion regarding taxability under the provisions of relevant tax treaty/ DTAA, wherein after elaborate discussion he has concluded that no technical knowledge was made available to assessee. From the above it is clear that the amount paid by the assessee to non-resident was not chargeable to tax in terms of the provisions of the Act or DTAA. - Decided in favour of assessee. Revision u/s 263 - justification for writing off of stock as per the books of a/c - Held that - It cannot be said that by adopting an ad hoc method of arriving at net realizable value by impairing the value of service stock by 25%, in the absence of any detailed technical estimate, the assessee had resorted to correct method of valuation. Under such circumstances, the assessment order was prejudicial to the interests of revenue. Ld. CIT(A) completely overlooked the fact that true profits of an year could not be deduced without resorting to proper technical estimate of net realizable value. He failed to appreciate that spares had no shelved life of 4/5 years inasmuch as assessee itself had written back considerable sum by way of write back. It is true that in the long run this exercise will be revenue neutral keeping in view the concept of going concern of an organization but the main object of employing correct method of accounting is to determine the true profits of an year. We, accordingly, uphold the order passed by ld. CIT u/s 263. Writing down of inventories - Held that - We have discussed in detail the decisions relied upon by ld. counsel for the assessee, from which it is evident that the claim was advanced in both th cases on the basis of proper estimation on technical basis resorted by assessee and not on ad hoc basis as has been done in the present case. We are in agreement with the contention of ld. counsel for the assessee that the AO s conclusion that there was no fall at all in the value of spares also is not correct because it cannot be held that there was no decline in the net realizable value of spares. However, estimation should have proper technical backing. In view of section 145(3), the AO is required to examine the correctness of method employed by assessee in preparation of its accounts. The method employed by assessee should be such from which true profits of an year can be deduced. However, in the present case since the assessee has debited the P&L a/c merely on presumptive basis, therefore, we restore the matter to the file of AO for providing the assessee an opportunity to furnish the details of net realizable value of spares backed with proper evidence in order to substantiate its claim. Disallowance made u/s 14A - whether no investment was made out of interest bearing funds? - Held that - As observed that the interest of ₹ 274.68 lakhs was paid for the loans taken from Cisco Systems and HSBC for utilization of the same for NSE project and for business purposes. The assessee also paid interest of ₹ 3.20 lakhs for vehicles taken on lease. Apart from the above, the assessee had paid ₹ 147.47 lakhs on account of bank charges during the period. He pointed out that none of the financial charges were related to the investment made by the assessee and investment in dividend yielding assets was made out of assessee s own funds or funds borrowed from the holding company and no part of the interest expenditure could be held as incurred for earning exempt income. This specific finding of ld. CIT(A) has not at all been controverted by the department by bringing any evidence on record and, therefore, we confirm the findings of ld. CIT(A) in deleting the disallowance of ₹ 79,18,827/- made on account of interest expenditure relatable to earning of exempt income by AO. In the result this ground is dismissed.

Summary

Issues Involved:
1. Non-deduction of TDS on AMC payments.
2. Disallowance of provision for warranty.
3. Write-off of inventory and its tax implications.
4. Disallowance under Section 14A regarding expenditure related to tax-free income.

Detailed Analysis:

1. Non-deduction of TDS on AMC payments:
The primary issue was whether the assessee was liable to deduct tax at source on payments made for Annual Maintenance Contracts (AMC) to non-residents. The Assessing Officer (AO) disallowed the deduction of ?2,55,57,990/- under Section 40(a)(i) due to non-deduction of TDS. The CIT(A) held that the AMC payments were not taxable in the hands of the non-resident payees as they did not have a Permanent Establishment (PE) in India and the payments were not in the nature of fees for technical services under Section 9(1)(vii). Consequently, no TDS was required under Section 195. The Tribunal upheld the CIT(A)'s decision, agreeing that the payments were business income of the non-residents and not taxable in India under the relevant Double Taxation Avoidance Agreements (DTAA).

2. Disallowance of provision for warranty:
The AO disallowed ?1,54,02,000/- claimed by the assessee towards the provision for warranty, treating it as an unascertained liability. The CIT(A) referred to the ITAT's earlier decision and the Supreme Court's ruling in Rotork Controls India Pvt. Ltd., which allowed such provisions if they were based on a scientific method of estimation. The CIT(A) deleted the disallowance, and the Tribunal upheld this decision, recognizing the provision as a legitimate business expense.

3. Write-off of inventory and its tax implications:
The CIT invoked Section 263, questioning the AO's acceptance of the assessee's write-off of ?458.13 lakhs on inventory. The CIT argued that the write-off was not based on actual valuation but a notional policy, making the AO's order erroneous and prejudicial to the revenue. The Tribunal agreed with the CIT, stating that the AO had not critically examined the basis for the write-off, which should have been backed by proper technical estimates. The Tribunal emphasized that the method employed by the assessee should result in true profits and gains, and a mere consistent accounting practice was not sufficient if it did not reflect the correct financial position.

4. Disallowance under Section 14A regarding expenditure related to tax-free income:
The AO made a disallowance of ?1,06,61,713/- under Section 14A read with Rule 8D, related to expenditure incurred in earning tax-free income. The CIT(A) restricted the disallowance to ?27,42,886/- based on 0.5% of the average investment. The Tribunal, referring to the Delhi High Court's decision in Joint Investments P. Ltd. vs. CIT, held that the disallowance should not exceed the exempt income earned, which was ?4,10,000/-. Consequently, the Tribunal restricted the disallowance to this amount.

In the revenue's appeal for AY 2006-07, the Tribunal restored the matter to the AO for re-examination, emphasizing the need for proper technical backing for the write-off claims. For AY 2009-10, the Tribunal upheld the CIT(A)'s decision that no part of the interest expenditure was related to the investment in tax-free income, as the investments were made from the assessee's own funds or interest-free loans from the holding company.

Conclusion:
The Tribunal's decisions across the issues highlight the importance of proper documentation, scientific estimation, and adherence to legal provisions in tax matters. The judgments emphasize that consistent accounting practices must align with true financial representation and statutory requirements.