2025 (1) TMI 597 - AT - Income Tax

Disallowance of sales promotion expenses - HELD THAT - Assessee declares certain incentives to its own employees and based on that, employees who achieved the targets were awarded as per the promotional policy promoted by the assessee. Based on that, assessee determines the total liability on such sales promotion expenses. Based on that, assessee records the expenditure on gross basis and settles the vendors on actual basis based on the actual utilisation. Since assessee has to pick the relevant expenditure based on the concept of matching principle and accordingly we observed that assessee has settled about 88% of the gross provision created for this purpose. Whether the expenditure is booked in this year or reversed in the subsequent year, it has effect revenue neutral considering the fact that tax rates are similar for both the years under consideration. Therefore, the assessee has brought on record complete details of creation of provisions as well as actual reversal of provisions and to the portion of unutilized provisions are being reversed in the subsequent assessment year and this is the regularly followed method of accounting, therefore, we do not see any reason to sustain the additions made by the AO. Accordingly, the abovesaid sales promotion expenses claimed by the assessee are allowed on the basis of matching the relevant expenses with the revenue recorded during the year. Allowability of insurance expenditure - AO observed that the assessee has made the payment to National Insurance Company Limited and for what purpose, they could not explain - HELD THAT - From the receipt, it shows that the assessee has enhanced the sum of insurance during the current year and the insurance amounts for such enhancement were effective from 09.04.2012. The assessee has already made the premium payments of Rs. 6,45,256/- and fresh insurance renewal was taken for the FY 2012-13. Since the assessee has taken an open policy for transportation of goods, the assessee has created a provision as well as claimed expenditure of Rs. 3,20,000/- which is part of the premium policy already paid by the assessee of Rs. 6,45,256/-. Since the payment was made to National Insurance Company Ltd., a part of the policies taken for transportation and the existing policy is being renewed ever year based on the premium it pays. Therefore, the assessee also filed affidavit indicating the above shows that the genuineness of the transaction since the provisions of Rs. 3,20,000/- is part of the actual payment made by the assessee of Rs. 6,45256/-, therefore, it is an allowable expenditure. Grant of interest on delayed payment - payment of interest is treated as part of the business assets and by treating it as capital in nature, the same was disallowed - HELD THAT - Based on the agreement and factual matrix, we observed that the assessee has utilized the funds and also it is for the assessee s convenience to settle the abovesaid amount in 12 installments. Therefore, it is not part of the principal amount and the payment of interest is in the interest of the assessee, therefore, it can only be an obligation on the assessee. Therefore, it is not connected to the acquisition of any capital asset, it is only a convenient method of settlement and the connected cost of retaining the funds or withholding the amount. Therefore, it is in the nature of revenue. Accordingly, it is an allowable financial charges.

Summary

1. ISSUES PRESENTED and CONSIDERED

The legal judgment from the Appellate Tribunal ITAT Delhi involved the following core legal questions:

• Whether the disallowance of sales promotion expenses by the Assessing Officer (AO) was justified.
• Whether the disallowance of insurance expenses was appropriate.
• Whether the interest on delayed payment to Kilburn Office Automation Ltd. should be treated as capital expenditure or revenue expenditure.

2. ISSUE-WISE DETAILED ANALYSIS

Issue 1: Disallowance of Sales Promotion Expenses

• Relevant legal framework and precedents: The appellant relied on accounting standards and judicial precedents to argue that the provision for sales promotion expenses was a known liability and should be allowed as a deduction. Key precedents cited included Rotork Controls India (P.) Ltd., CIT V/s Hero Management Services Ltd., and Bharat Earth Movers V/s CIT.
• Court's interpretation and reasoning: The court observed that the appellant had consistently followed a method of accounting where unutilized provisions were reversed in the subsequent year, making the exercise revenue neutral. The court found that the appellant had provided sufficient evidence to justify the creation of provisions for sales promotion expenses.
• Key evidence and findings: The appellant provided detailed evidence of the incentive schemes and the basis for creating provisions, including cost estimates and actual expenditures.
• Application of law to facts: The court applied the matching principle and found that the appellant's method of accounting was consistent and justified the claimed expenses.
• Treatment of competing arguments: The court considered the Revenue's argument that the provision was fictitious but found the appellant's evidence and accounting practices credible.
• Conclusions: The court allowed the sales promotion expenses claimed by the appellant.

Issue 2: Disallowance of Insurance Expenses

• Relevant legal framework and precedents: The appellant argued that the insurance expenses were necessary for business operations and should be deductible.
• Court's interpretation and reasoning: The court found that the appellant had taken an open insurance policy for the transportation of goods, which was renewed annually. The provision for insurance expenses was part of the premium already paid.
• Key evidence and findings: The appellant provided evidence of the insurance policy and payment details, demonstrating the genuineness of the transaction.
• Application of law to facts: The court found that the insurance expenses were part of the business's regular operations and should be allowed as a deduction.
• Treatment of competing arguments: The court considered the Revenue's contention that the liability was unascertained but found the appellant's evidence compelling.
• Conclusions: The court allowed the insurance expenses claimed by the appellant.

Issue 3: Interest on Delayed Payment to Kilburn

• Relevant legal framework and precedents: The appellant argued that the interest on delayed payment was a revenue expenditure, citing Explanation 8 to Section 43 and relevant case law such as CIT v Sandvik Chokshi Ltd..
• Court's interpretation and reasoning: The court found that the interest was compensatory in nature and not related to the acquisition of a capital asset. It was a cost of retaining funds and should be treated as a revenue expenditure.
• Key evidence and findings: The appellant provided the Business Transfer Agreement and evidence of the interest payment terms.
• Application of law to facts: The court applied the legal principles to determine that the interest was not a capital expenditure but a revenue expense.
• Treatment of competing arguments: The court rejected the Revenue's argument that the interest was part of the capital expenditure, finding it to be a separate financial charge.
• Conclusions: The court allowed the interest on delayed payment as a deductible revenue expenditure.

3. SIGNIFICANT HOLDINGS

• Preserve verbatim quotes of crucial legal reasoning: "The assessee has brought on record complete details of creation of provisions as well as actual reversal of provisions and to the portion of unutilized provisions are being reversed in the subsequent assessment year and this is the regularly followed method of accounting, therefore, we do not see any reason to sustain the additions made by the Assessing Officer."
• Core principles established: The judgment reinforced the principles of matching expenses with revenues, the allowance of provisions based on scientific estimates, and the treatment of interest as revenue expenditure when it is compensatory in nature.
• Final determinations on each issue: The court allowed the appellant's claims for sales promotion expenses, insurance expenses, and interest on delayed payment, treating them as deductible business expenditures.

Overall, the judgment provided a detailed analysis of each issue, applying relevant legal principles and precedents to reach conclusions favorable to the appellant. The court emphasized the importance of consistent accounting practices and the distinction between capital and revenue expenditures.