2017 (11) TMI 519 - HC - Income Tax

Denial of deduction under Section 80-IC - profits of the Assessee were more than ordinary - denial by invocation of Section 80-IA (10) - what percentage of GP ratio should be considered to be more than ordinary ? - Held that - For the purposes of Section 80-IA (10) it is not enough for the AO to show that there was a close connection between the Assessee carrying on the eligible business and the other person with whom it has transactions. The AO has to further show that the business between them is so arranged that it produces for the Assessee more than the ordinary profits which might be expected to arise in such eligible business. Section 80-IA (10) of the Act further requires the AO to compute the profits and gains of the eligible business by taking the amount of profits as may be reasonably deemed to have been derived therefrom . The adjective reasonably carries with it the responsibility of the AO to base his conclusion on some empirical data. In the present case the AO s conclusion that the profits of the Assessee were more than ordinary was based on surmises and conjectures. During the course of his submission, Mr Singh sought to suggest that a 40% GP ratio by itself should be taken to be more than ordinary . Neither the Court nor the CIT (A) or the ITAT can take judicial notice of what percentage of GP ratio should be considered to be more than ordinary . That decision will hinge upon a variety of factors including the line business, the market conditions, the geographical location, the standard practices peculiar to the line of business and so on. To be fair, Mr Singh pointed out that by a subsequent amendment with effect from 1st April 2013, the legislature has inserted a proviso to Section 80-IA (10) of the Act to acknowledge the complexity of the exercise. It is not in every case that the CIT (A) has to ask for a remand report from the AO to make up for what was missed to be done in the first place by the AO. In the circumstances, the CIT (A) and the ITAT cannot be faulted for not undertaking themselves the required exercise under Section 80-I (10) of the Act.

Summary

Issues:
Appeal under Section 260A of the Income Tax Act, 1961 against ITAT order for AY 2006-07; Denial of deduction under Section 80-IA (10) based on close connection between Assessee and other entities; AO's rejection of accounts under Section 145 before denying deduction; Requirement of showing 'more than ordinary profits' under Section 80-IA (10); AO's conclusion based on surmises and conjectures; Judicial notice of 'more than ordinary' GP ratio; CIT (A) and ITAT's role in undertaking the required exercise under Section 80-IA (10).

Analysis:

1. The appeal before the Delhi High Court was filed by the Revenue under Section 260A of the Income Tax Act, 1961, challenging the order passed by the ITAT for the Assessment Year 2006-07. The issue revolved around the denial of deduction under Section 80-IA (10) of the Act based on the close connection between the Assessee and other entities involved in the business.

2. The primary contention raised by the Revenue was that the CIT (A) erred in reversing the AO's order and the ITAT erred in upholding the CIT (A)'s decision. The argument was centered on the requirement for the AO to reject the accounts submitted by the Assessee under Section 145 of the Act before proceeding to deny the deduction under Section 80-IC read with Section 80-IA.

3. The Court emphasized that for the application of Section 80-IA (10) of the Act, it is essential to demonstrate that the business arrangement between the Assessee and other entities results in 'more than ordinary profits' for the Assessee. The AO must compute the profits based on empirical data and not on conjectures. The judgment highlighted that determining what constitutes 'more than ordinary' GP ratio is a nuanced decision influenced by various factors specific to the business.

4. The Court rejected the argument that a 40% GP ratio should be considered 'more than ordinary' without a factual basis. It was noted that the legislative amendment in 2013 acknowledged the complexity of such determinations. The judgment emphasized that the CIT (A) and ITAT were not at fault for not conducting the necessary analysis under Section 80-IA (10) as it is not mandatory in every case to seek a remand report from the AO.

5. Consequently, the Court found no substantial question of law arising from the ITAT's order and dismissed the appeal without costs. The judgment provided a detailed analysis of the legal provisions and the responsibilities of the AO, CIT (A), and ITAT in cases involving the denial of deductions under the Income Tax Act.