2018 (3) TMI 69 - AT - Income Tax

Disallowance of deduction on account of payment of service charges - genuineness of expenditure - Held that - When the purchases have been accepted as genuine, the payment of service charges cannot be disallowed by raising the bogey of business expediency or lack of evidence to show rendering of services. When the assessee has submitted documentary evidences to establish that the payment of service charges were in terms with contractual obligation and parties to the contract have also confirmed payment of service charges, such evidence cannot be ignored on flimsy ground. As far as the business expediency relating to payment of such service charges is concerned, it has to be seen from the perspective of the businessman. AO certainly cannot step into the shoes of the businessman to decide whether such expenditure was for the purpose of business or not. From the details furnished by the assessee towards payment of service charges it is seen that Golden Tobacco Co. Ltd. was not only involved as an intermediary arranging supply of palm kernel fatty acid to the assessee through other importers but it has itself directly effected sales to the assessee. Notably, in respect of palm kernel fatty acid directly supplied by the Golden Tobacco Co. Ltd. to the assessee service charges have been paid to two intermediaries viz. PPL Plastics Ltd. and Raigarh Papers Ltd. amounting to ₹ 12.50 lakh and ₹ 5.59 lakh. When Golden Tobacco Co. Ltd. itself is providing all ancillary and incidental services to the assessee in procuring palm kernel fatty acid through other importers, in case of direct supply of such material by Golden Tobacco Co. Ltd. Why service charges have to be paid to other intermediaries is not understood. When the Golden Tobacco Co. Ltd. itself is capable of providing such service, there is no necessity of paying service charges to others. In case of direct supply of goods by Golden Tobacco Co. Ltd., the payment of service charges to other parties acting as intermediaries is not in the business interest of the assessee. Therefore, service charges paid of ₹ 12.50 lakh and ₹ 5.59 lakh, totalling to ₹ 18.09 lakh, to PPL Plastics Ltd. and Raigarh Papers Ltd. should not be allowed as deduction. We direct the AO to allow the balance amount of service charges paid as deduction - Decided partly in favour of assessee.

Summary

Issues Involved:
1. Addition of ?2,56,39,000 claimed as deduction by the assessee on account of payment of service charges.

Issue-wise Detailed Analysis:

1. Addition of ?2,56,39,000 Claimed as Deduction by the Assessee on Account of Payment of Service Charges:

The assessee company filed its return of income for the assessment year 1985-86 on 22nd November 1985, declaring total income of ?36,64,31,940. The Assessing Officer (AO) made various additions/disallowances, including the disallowance of ?2,56,39,000 claimed as service charges towards the purchase of split palm kernel fatty acid. The AO disallowed the payment on the grounds that the assessee failed to provide conclusive evidence that services were actually rendered, deeming the payments as motivated by extra-commercial considerations and not incurred wholly and exclusively for business purposes.

The learned Commissioner (Appeals) (CIT(A)) initially restored the issue to the AO to examine all details furnished by the assessee and to allow the assessee to cross-examine the witnesses whose statements were relied upon. Upon re-examination, the AO accepted the purchases of palm kernel fatty acid as genuine but disallowed the service charges for lack of evidence of actual services rendered. The CIT(A) upheld this disallowance, agreeing that the assessee failed to establish the necessity and business expediency of the payments.

The assessee argued that the necessity of purchasing the split palm kernel fatty acid arose due to a government ban on the import of tallow, leading to a shortage of soap-making oil and increased demand and prices for oils/fatty acids. The assessee contended that traders with import licenses cornered the imported oil and sold it at their terms, including service charges, which were commercially viable and necessary for continuing manufacturing activities. The assessee provided contracts and confirmations from sellers and intermediaries to substantiate the payments and argued that other soap manufacturers also paid similar service charges.

The Departmental Representative maintained that the assessee failed to produce conclusive evidence of services rendered and questioned the necessity of paying service charges when the purchases were made directly from the suppliers. The Department argued that the payments were not incurred wholly and exclusively for business purposes.

The Tribunal examined the factual aspects and found that the assessee's claim of purchasing imported palm kernel fatty acid due to local shortages and higher prices was correct and undisputed. The Tribunal noted that the price paid for the purchases was at arm's length and that the contracts provided by the assessee indicated that services were indeed rendered by the intermediaries. The Tribunal also considered that other soap manufacturers paid similar service charges, supporting the assessee's claim of market practice.

However, the Tribunal observed that in cases where Golden Tobacco Co. Ltd. directly supplied the palm kernel fatty acid to the assessee, there was no necessity to pay service charges to other intermediaries, as Golden Tobacco Co. Ltd. itself was capable of providing the required services. Consequently, the Tribunal disallowed service charges of ?12.50 lakh and ?5.59 lakh paid to PPL Plastics Ltd. and Raigarh Papers Ltd., respectively, totaling ?18.09 lakh. The Tribunal directed the AO to allow the balance amount of service charges paid as a deduction.

In conclusion, the assessee's appeal was partly allowed, with the Tribunal directing the AO to allow the deduction of service charges except for the amounts paid to PPL Plastics Ltd. and Raigarh Papers Ltd.

Order pronounced in the open Court on 26.02.2018.