2017 (10) TMI 580 - AT - Income Tax

Disallowance of the expenditure equal in percentage of reduction in the revenue recognized - Held that - In the present case, it appears that the AO made the disallowance of the expenses only on this basis that there was reduction in the sharing of the revenue in comparison to the earlier years, no other reasons has been given. In the instant case, it is also noticed that there was increase in the income earned by the assessee in comparison to the earlier year i.e. 53% more than the preceding year as is evident from the chart furnished by the assessee before the ld. CIT(A), which shows that even after reduction in the percentage of share, the assessee earned more revenue in comparison to the earlier year. In the present case, the AO did not point out any defect in the books of account maintained by the assessee in the regular course of business, it was also not brought on record that any of the expenses was not incurred wholly and exclusively for the purpose of the business. The AO made the disallowance only on the basis of surmises and conjecture which is not tenable in the eyes of law. Moreover, the AO did not bring anything on record to substantiate that by reducing the percentage of share of fee, the assessee was looser in terms of earning the revenue and that the extra expenses were incurred by the assessee in the same ratio in which the revenue sharing was reduced. The contention of the assessee that the reduction in the fees from leasing of equipments/maintenance of the office building was on account of business exigency, had not been rebutted at any stage. - Decided against revenue

Issues Involved:
1. Disallowance of expenditure equal to the percentage of reduction in revenue recognized.
2. Ad-hoc disallowance on account of sales to a related party at cost price.

Issue-Wise Detailed Analysis:

1. Disallowance of Expenditure Equal to the Percentage of Reduction in Revenue Recognized:

The department's primary grievance was the deletion of disallowance made by the Assessing Officer (AO) out of the expenditure equal to the percentage of reduction in the revenue recognized. The AO observed that the assessee had entered into agreements with M/s Devki Devi Foundation, which were revised to reduce the revenue share percentages from 10% to 8% and from 6% to 5%. The AO questioned the commercial prudence of reducing these percentages, especially since the agreements were long-term and initially fixed considering all business aspects. The AO concluded that no prudent business would agree to a downward adjustment in the revenue share percentages and disallowed the expenditure equal to the reduction in revenue, amounting to ?2,30,93,000/-.

The assessee contended that the reduction in revenue percentages was due to financial difficulties faced by M/s Devki Devi Foundation and was done for commercial expediency. The assessee provided evidence of increased revenue despite the reduced percentages, demonstrating a business necessity for the adjustments. The CIT(A) supported the assessee's claim, emphasizing that the AO had not provided any material evidence to dispute the commercial expediency or the business purpose of the expenditure. The CIT(A) referenced several legal precedents, including CIT Vs B. Dalmia Cement Ltd., which established that the revenue cannot question the reasonableness of business expenditures if they are incurred for business purposes.

The Tribunal upheld the CIT(A)'s decision, noting that the AO's disallowance was based on conjecture without any defects pointed out in the assessee's books of accounts. The Tribunal found that the assessee's revenue had increased despite the reduced percentages, indicating that the adjustments were commercially justified. Therefore, the Tribunal saw no reason to interfere with the CIT(A)'s well-reasoned order.

2. Ad-hoc Disallowance on Account of Sales to a Related Party at Cost Price:

The AO also made an ad-hoc disallowance of ?8,62,274/- (5% of ?1,72,45,488/-) for goods sold to M/s Max Healthcare Institute Ltd. at cost price, questioning the commercial rationale behind selling at cost. The assessee explained that these sales were made on a cost-to-cost basis to benefit from bulk purchases and quantity discounts, and the transactions were commercially expedient.

The CIT(A) found that the AO had not provided any evidence of undisclosed income or any specific defects in the transactions. The CIT(A) emphasized that ad-hoc disallowances without tangible evidence are not justified, referencing several case laws supporting this view, including Dwarka Prasad Agarwal Vs ITO and Shriram Pistons and Rings Ltd. Vs IAC.

The Tribunal agreed with the CIT(A), noting that the AO's disallowance was arbitrary and not supported by any material evidence. The Tribunal concluded that the sales were made for business purposes and that the AO's ad-hoc disallowance was unwarranted.

Conclusion:

The Tribunal dismissed the department's appeals for both assessment years 2010-11 and 2011-12, upholding the CIT(A)'s orders. The Tribunal found that the AO's disallowances were based on conjecture and lacked material evidence, while the assessee had demonstrated commercial expediency and business purpose for the expenditures and transactions in question.

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