2013 (7) TMI 392 - HC - Income Tax

Provision for Warranty - Whether the Tribunal was right in law in holding that the warranty liability is only a provision for unascertained liability Held that - The provision for warranty claims created by the assessee was a contingent liability and the same was not deductible - whether such act of non-consideration or omission would result in an erroneous order or prejudicial to the interests of the Revenue has been considered by this court in the decision reported in K. A. Ramaswamy Chettiar v. CIT (1995 (9) TMI 31 - MADRAS High Court) - wherein it was observed that when the Income-tax Officer is expected to make an enquiry of a particular item of income and if he does not make an enquiry as expected - that would be a ground for the Commissioner of Income-tax to interfere with the order passed by the Income-tax Officer under section 263 Here also such an order passed by the Income-tax Officer is erroneous and prejudicial to the interests of the Revenue. Following precedents - Whether the Tribunal was right in law in not referring to and following the judgment of the Supreme Court in the case of Rotork Controls India P. Ltd. v. CIT 2009 314 ITR 62 relied on and cited before it at the time of hearing - Court explained the provision by quoting the judgement of Rotork Controls India P. Ltd. v. CIT (2009 (5) TMI 16 - SUPREME COURT OF INDIA) - in considering the claim on a provision made for warranty claim, the apex court held that a provision is recognised when (a) an enterprise has a present obligation as a result of a past event ; (b) it is probable that an outflow of resources will be required to settle the obligation ; and (c) a reliable estimate can be made of the amount of the obligation - If these conditions are not met no provision can be recognized - the apex court pointed out that the provision has to be made based on reliable estimation of the obligations - Unless the three conditions recognising the liability are satisfied the claim could not be automatically allowed as a provision made on a historical trend - the provision for service charges payable by the assessee by way of warranty provision was not made on any scientific data - it was further observed therein that the provision made was only on ad hoc basis which was a fact recorded by the Tribunal. The assessee had not proved the provision of warranty expenses based on any scientific method in such circumstances - Even otherwise the assessee has to pass through the triple test as declared therein in order to succeed in his claim on provision for warranty - In the absence of any such finding in its favour satisfying the said triple test, the assessee can not rely on the said decision of the apex court decided against the assesse.

Summary

Issues:
1. Whether the Appellate Tribunal was correct in holding that 'warranty liability' is a provision for unascertained liability?
2. Whether the Appellate Tribunal was correct in not referring to and following a specific judgment of the Supreme Court?

Issue 1: Warranty Liability Provision
For the assessment year 2004-05, the assessee, engaged in shock absorber manufacturing, claimed a loss of Rs. 4,89,62,328. The Commissioner of Income-tax issued a notice under section 263, stating that a sum of Rs. 32,93,438 for warranty cost provision was not added back to the income, directing the Assessing Officer to revise the assessment. The assessee contended that the provision was based on technical estimates and not ad hoc, with no revenue loss to the Department as the provision would be carried forward. The Commissioner held the provision as a contingent liability and non-deductible. The Tribunal upheld this view, emphasizing that the provision was unascertained. Citing precedents, including K. A. Ramaswamy Chettiar v. CIT and Malabar Industrial Co. Ltd. v. CIT, the court agreed with the Tribunal's findings, noting the Assessing Officer's failure to examine the provision's admissibility, leading to an erroneous order prejudicial to Revenue.

Issue 2: Referral to Specific Supreme Court Judgment
The assessee relied on Rotork Controls India P. Ltd. v. CIT to argue for the provision's allowability. However, the Division Bench in CIT v. Forbes Campbell Finance Ltd. rejected this claim, citing Rotork Controls India P. Ltd., which requires a provision to meet specific conditions for recognition. It was noted that the provision for warranty expenses was not based on scientific data but ad hoc, as confirmed by the Tribunal. The court held that the provision did not satisfy the triple test outlined in Rotork Controls India P. Ltd., thus dismissing the appeal against the Tribunal's decision. The court emphasized that the facts did not align with the judgment cited by the assessee, concluding that the provision was not allowable based on the specific legal criteria set forth by the Supreme Court.

This detailed analysis of the judgment highlights the issues of warranty liability provision and the reference to a specific Supreme Court judgment, providing a comprehensive understanding of the court's decision in this case.