2018 (2) TMI 1592 - AT - Income Tax

Disallowance on marketing and distribution expenses - Held that - It is evident from quantum assessment order that Ld. AO has not doubted the genuineness or bonafides of the expenses but made adhoc disallowance of 5% only on the premise that the assessee failed to justify the apportionment of the expenses, which was nothing but a business decision for the assessee. No material has been brought on record by AO to support the contention that the impugned expenses were excessive or unreasonable in any manner. Secondly, we find that the assessee and payee are subsidiary of a third entity namely HDFC Ltd. and during impugned AY, the transactions between two such subsidiary entities were not covered by clause 40A(2)(b)(iv). The said relation has subsequently been covered by Finance Act, 2012 w.e.f. 01/04/2013. Disallowance of certain legal & professional fees being reimbursed by the Assessee to HDFC AMC to carry out investigations pursuant to certain SEBI directions - Held that - A perusal of the above give strength to our findings that complete responsibility to conduct the affairs of the mutual fund rested with the Trustee Assessee. As per the terms of the directions, the Trustees of the mutual fund were required to set up an investigation committee to examine all the transactions / dealings by Mr. Nilesh Kapadia. The Trustees were required to submit a plan to overhaul the internal control systems and the internal preventive measures of HDFC AMC to avoid recurrence of such instances in future. Hence, upon conjoint reading of Trust Deed and SEBI directions as above, we conclude that the said expenditure was incurred by the assessee to safeguard / protect its business interest and therefore, allowable to the assessee in terms of Section 37. CIT(A) clinched the issue in the right perspective but had no justification to restrict the impugned expenditure to 50%. We find that genuineness of the expenditure was not in dispute. If the expenditure was restricted to 50% then as a logical consequence, the remaining expenditure was to be allowed to HDFC AMC since as per the logic of Ld. first appellate authority, the said expenditure was to be shared equally between the two entities. Even in that eventuality, the whole exercise would remain revenue neutral as both entities fall in the same tax bracket and we see no fruitful reason to disturb the already concluded assessments. We uphold that the impugned disallowance was not justified - Decided in favour of assessee.

Summary

Issues Involved:
1. Deletion of disallowance on marketing and distribution expenses.
2. Disallowance of legal and professional fees reimbursed for SEBI-directed investigations.

Issue 1: Deletion of Disallowance on Marketing and Distribution Expenses

The revenue's appeal contested the deletion of disallowance on marketing and distribution expenses made by the Assessing Officer (AO). The AO had disallowed 5% of these expenses, arguing that the allocation between the assessee and HDFC Asset Management Company (HDFC AMC) lacked a rational basis and was designed to always result in a loss to the assessee. The AO also invoked Section 40A(2) of the Income Tax Act, 1961, which pertains to disallowance of excessive or unreasonable payments to related parties.

However, the CIT(A) deleted the disallowance, relying on the Supreme Court's judgment in CIT Vs. Glaxo Smithkline Asia (P.) Ltd., which supported the assessee's position. The CIT(A) found that the expenses were in line with SEBI regulations and approved by the Board of Directors.

In the appeal before the ITAT, the Departmental Representative argued that the assessee failed to justify the apportionment of expenses. The assessee's representative countered that the genuineness of the expenses was not in question and that the apportionment was a business decision within the framework of SEBI regulations. It was also argued that the transaction was tax-neutral as both the assessee and HDFC AMC were in the same tax bracket.

The ITAT concurred with the assessee, noting that the AO had not doubted the genuineness of the expenses and had made an ad-hoc disallowance. The ITAT also found that Section 40A(2) was not applicable as both entities were subsidiaries of HDFC Ltd. and had no inter-se shareholding. Therefore, the ITAT upheld the CIT(A)'s decision, dismissing the revenue's appeal for both AY 2010-11 and AY 2011-12.

Issue 2: Disallowance of Legal and Professional Fees

The assessee's appeal pertained to the disallowance of legal and professional fees reimbursed to HDFC AMC for investigations directed by SEBI. The AO disallowed these expenses, arguing that they were the responsibility of HDFC AMC, not the assessee.

The CIT(A) partially allowed the appeal, concluding that the expenses should be shared equally between the assessee and HDFC AMC, and thus restricted the disallowance to 50%.

In the appeal before the ITAT, the assessee argued that the responsibility for these expenses lay with the Trustee Assessee as per the Deed of Trust and SEBI's directions. The assessee also pointed out that the revenue had not appealed against the CIT(A)'s order. The Departmental Representative contended that the expenses should be shared equally.

The ITAT found that the Trustee Assessee had overall responsibility for managing the mutual fund's affairs and ensuring compliance with SEBI regulations. The SEBI directions also required the Trustees to set up an investigation committee and overhaul internal control systems. Therefore, the ITAT concluded that the expenses were incurred to safeguard the assessee's business interests and were allowable under Section 37 of the Income Tax Act.

The ITAT also noted that the genuineness of the expenses was not in dispute and that disallowing 50% would be revenue-neutral as both entities were in the same tax bracket. Therefore, the ITAT deleted the disallowance and allowed the assessee's appeal.

Conclusion:

The ITAT dismissed the revenue's appeals for AY 2010-11 and AY 2011-12, and allowed the assessee's appeal for AY 2011-12, thereby upholding the deletion of disallowances on both marketing and distribution expenses and legal and professional fees.

Order pronounced in the open court on 21st February, 2018.