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TMI Blog1986 (5) TMI 70X X X X Extracts X X X X X X X X Extracts X X X X ..... ubmissions of the appellant that the warranty charges were an item debitable to profit and loss account and therefore could not be included in calculating the cost of refrigerators for purposes of closing stock. 2.1 The learned Commissioner (Appeals) erred in upholding the addition of Rs. 11,200 being perquisite in respect of use of the car by managing director. 2.2 The learned Commissioner (Appeals) erred in upholding the addition of Rs. 1,717 as telephone expenses for the personal office/home of the managing director as a perquisite. he learned Commissioner (Appeals) erred in upholding the addition of Rs. 16,774 out of bonus paid to the staff." 3. As regards ground Nos. 1.1 to 1.5, in fairness to both the parties, we are reproducing hereunder in verbatim from the impugned order of the learned Commissioner (Appeals), the facts of the case and the stand of the parties along with the reasoning of the learned lower authorities as detailed in paragraph 2 of the impugned order : "During the relevant accounting period the manufacturers, i.e., Kelvinator of India Ltd. allowed the appellant company to exercise the option to buy the warranty or not to buy the same. Up to 10-4-198 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nty paid in respect of refrigerators and deep-freezes shown as closing stock in the trading account. The contention of the appellant was that the appellant had paid the entire amount and was entitled to the deduction of the expenditure as outgoings and as the warranty paid to the manufacturing company was not part of the cost of the refrigerators but a separate item there was no reason to show the balance amount of warranty pertaining to the refrigerators, etc., held in stock either as part of the value of the closing stock or as separate item. The IAC, however, rejected the contention of the appellant and added the above amount to the value of the closing stock of the refrigerators and deep-freezes. The contention of the appellant was that the IAC was not justified in making the said addition as it was the option of the purchasers either to buy the warranty or not to buy the warranty. The appellant company had exercised its option while purchasing the warranty from the manufacturers and had paid the above amount was outgoing and rightly debited to the profit and loss account and as the customers were at liberty either to buy the warranty or not to buy the warranty. The appellant w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ntention that the warranty with a right to get the sealed-in unit replaced is the same to the consumer service is without any basis. It is also not acceptable that even if the appellant allows option to a purchaser of a refrigerator to either purchase the warranty or not to purchase the warranty there will not be any such customer which will take risk to buy the refrigerator without buying the warranty against the manufacturing defects either in the refrigerator or in the sealed-in unit. As stated earlier even this option was not available to any customer during the relevant period. Even if it is assumed that the appellant-company was dealing in something called warranty a separate item then it will be treated as if the appellant is dealing in a commodity like warranty by purchasing the warranty from the manufacturer of the refrigerators and in turn selling the warranty to the customer. As the appellant has purchased warranties in respect of thousands of refrigerators and deep-freezes during the period 11th April onwards and has also sold warranties in respect of thousands of refrigerators sold to the customers during the above period the balance amount of warranty purchased by the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... from the date of sale and the latter being for four years from the date of sale. Now this advantage can in no case be said to be goods or a property, but is an advantage and a warranty gives right to the person, who buys a refrigerator, a right to sue. A mere right to sue cannot be said to be any goods, much less, property since a mere right to sue is not an actionable claim even. Section 12 of the Sale of Goods Act, 1913 defines 'Conditions and Warranties' and reads as under : " 12. Conditions and Warranties (1) A stipulation in a contract of sale with reference to goods which are the subject thereof may be a condition or a warranty. (2) A condition is a stipulation essential to the main purpose of the contract, the breach of which gives rise to a right to treat the contract as repudiated. (3) A warranty is a stipulation collateral to the main purpose of the contract, the breach of which gives rise to a claim for damages but not to a right reject the goods and treat the contract as repudiated. (4) Whether a stipulation in a contract of sale is a condition or a warranty depends in each case on the construction of the contract. A stipulation may be a condition, though ca ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e buyer in case of a breach of warranty is not entitled to refect the goods. So the irrejutable inference is that the warranty is an advantage and not a goods, much less, a part of the property or the goods covered by the warranty. On the facts and in the circumstances of the case and in view of sections 12 and 59 the warranty cannot be said to be a goods or property, but gives rise only to a right sue for damages. The warranty amount, as such, made subject-matter of addition as closing stock of the assessee was not warranted in the light of discussion as above. The same stands deleted. 6. That apart, the assessee has placed on our file, a booklet issued by the Institute of Chartered Accountants of India titled as Accounting Standard --- Valuation of Inventories. Paragraph 6 in the said booklet deals with 'definitions' and reads as under : "6. Definitions : The following terms are used in the statement with the meanings specified : 6.1 'Inventories' means tangible property held; (i) for sale in the ordinary course of business, or (ii) in the process of production for such sale, or (iii) for consumption in the production of goods or services for sale, including maintenan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y forward the cost related to inventories until the inventories are sold or consumed. However, if there is no reasonable expectation that net realisable value would cover the cost incurred (as a result, for example, of deterioration, obsolescence or a change in demand), it is necessary that cost which cannot be recovered should be charged against the revenue of the current period. Therefore, inventories are normally stated at the lower of historical cost and net realisable value." A reading of the above paragraphs makes it clear that 'inventories' means tangible property held : (i) For sale in the ordinary course of business; (ii) In the process of production for such sale; or (iii) For consumption in the production of goods or services for sale, including maintenance, supplies and consumables other than machinery spares. So according to this Accounting Standard---Valuation of Inventories, inventories should be a tangible property and a warranty is not a tangible property, since as discussed above, within the meaning of sections 12 and 59 a breach of warranty only gives rise to a right to sue. A right to sue, as such cannot be said to be 'tangible property', hence, cannot f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . 9. Both fixed and variable production overhead incurred during production are usually allocated to costs of conversion. That practice is based on the view that they are both incurred in putting inventories in their present location and condition. Fixed production overhead is sometimes excluded in whole or in part from costs of conversion on the grounds that it is not considered to relate directly to putting inventories in their present location and condition. 10. In a period of low production or if there is idle plant, it is customary to restrict the allocation of fixed production overhead to the costs of conversion by relating it to the capacity of the production facilities and not to the actual level of throughput (sic). Capacity of the production facilities is variously interpreted, for example, as the normal production expected to be achieved over a number of periods or seasons or as the maximum production that as a practical matter can be achieved. The interpretation is determined in advance and applied consistently, and is not modified for temporary conditions. 11. 'Similarly, exceptional amounts of waste---material, labour, or other expenses---which do not relate to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ry is a term of employment in all cases and in view of this, the payment of bonus to an employee has to form a part of the salary, hence, is allowable under section 37(1) of the Act. Section 36(1)(ii) of the Act under which disallowance has been sustained by the learned lower authorities, reads as under : "(1) The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28--- (i) and (ia) (ii) any sum paid to an employee as bonus or commission for services rendered, where such sum would not have been payable to him as profits or dividend if it had not been paid as bonus or commission : Provided that the deduction in respect of bonus paid to an employee employed in a factory or other establishment to which the provisions of the Payment of Bonus Act, 1965 (21 of 1965) apply, shall not exceed the amount of bonus payable under that Act : Provided further that the amount of the bonus (not being bonus referred to in the first proviso) or commission is reasonable with reference to--- (a) the pay of the employee and the conditions of his service; (b) the profits of the busi ..... 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