2018 (6) TMI 604 - AT - Income Tax

Reopening of assessment - change of opinion - huge anomaly in the percentage of profit ratio apportioned - absence of live link between the reasons recorded and the factual matrix of the case. - Held that - Re-assessment proceedings are purely based on change of opinion and not attributable to the failure on the part of the assessee to disclose fully and truly all material information. Even under the amended provisions we are of the firm opinion that the notice issued by the AO cannot be said to have been based on reasons to believe that income chargeable to tax has escaped assessment . He has proceeded mainly on the ground that there is a huge anomaly in the percentage of profit ratio apportioned which implies that there is a subjective approach and not objective approach on the part of the Assessing Officer. AO has not satisfied the pre-conditions specified in section 147 in order to assume jurisdiction for reopening of assessment and accordingly the notice issued u/s 148 deserves to be quashed and we hold accordingly. Reasons to suspect rather than reasons to believe which fact was impliedly accepted by the Learned Commissioner wherein he has attributed the issuance of notice on the ground that excessive deduction claimed may be sufficient for formation of requisite belief to initiate proceedings u/s 147 of the Act . Re-assessment proceedings are not valid and consequently the additions / disallowance made therein do not stand in the eye of Law. R & D expenditure and ESOP expenses - apportionment of cost to the units which claimed exemption u/s 10B 80IB and 80IC - Held that - both AO as well as CIT (A) have proceeded on presumption that R & D expenses will benefit the exempted units in the long run overlooking the fact that there is nothing on record to show that all the R & D inventions / patents were never sold in outside market but only captively utilised in the exempted units. Respectfully following the decision in Bush Boake Allen (India) Pvt Ltd vs. ACIT (2003 (12) TMI 10 - MADRAS HIGH COURT) we are of the view that the Revenue has not made out a case for apportionment of R & D expenditure and ESOP cost to the exempt units. In the result we hold that the Tax Authorities were not justified in apportioning R & D expenditure and ESOP cost to the units which claimed exemption u/s 10B 80IB and 80IC of the Act. Appeals filed by the assessee are allowed.

Summary

Issues Involved:
1. Validity of reopening assessments under Section 147 of the Income Tax Act.
2. Allocation of Research and Development (R&D) expenditure and Employee Stock Option Plan (ESOP) expenses to tax-exempt units.

Issue-wise Detailed Analysis:

1. Validity of Reopening Assessments:

The assessee challenged the reopening of assessments under Section 147, arguing that the Assessing Officer (AO) lacked fresh material and merely changed his opinion. The AO issued notices beyond the four-year limit, asserting that the assessee failed to disclose fully and truly all material facts, particularly regarding R&D and ESOP expenses. The Tribunal examined whether the AO had "reason to believe" that income had escaped assessment due to the assessee's failure to disclose material facts.

The Tribunal noted that the AO's reasons for reopening included non-apportionment of expenses to special units, resulting in an anomaly in profit ratios. However, the Tribunal found that these reasons were based on information already available during the original assessment, indicating a change of opinion rather than new material evidence. The Tribunal emphasized that reopening should be based on objective satisfaction, not subjective suspicion, and concluded that the AO did not satisfy the preconditions for reopening under Section 147. Consequently, the Tribunal quashed the notices issued under Section 148, deeming the reassessment proceedings invalid.

2. Allocation of R&D and ESOP Expenses:

The AO allocated R&D and ESOP expenses to tax-exempt units, arguing that these expenses were common and should be apportioned to determine the correct income of special units. The assessee contended that R&D activities were conducted in a separate unit (IPDO) and had no direct nexus with the products manufactured in the exempt units. The assessee also argued that the profits and gains of each unit were computed separately, and expenses not directly related to the undertaking should not be allocated on an ad hoc basis.

The Tribunal reviewed the case law and found that the AO's allocation of R&D and ESOP expenses was based on presumptions rather than concrete evidence of a direct link between the R&D activities and the exempt units. The Tribunal cited the Bombay High Court's decision in Zandu Pharmaceuticals, which held that R&D expenses should not be allocated to units unless there is evidence of a direct nexus. The Tribunal concluded that the AO and CIT(A) erred in apportioning these expenses to the exempt units, as there was no evidence that the R&D activities directly benefited the products manufactured in those units.

Conclusion:

The Tribunal allowed the assessee's appeals, ruling that the reopening of assessments under Section 147 was invalid due to the lack of new material evidence and the reassessment being based on a change of opinion. Additionally, the Tribunal held that the AO and CIT(A) were not justified in allocating R&D and ESOP expenses to the tax-exempt units, as there was no direct nexus between the R&D activities and the products manufactured in those units.