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TMI Blog2011 (9) TMI 666X X X X Extracts X X X X X X X X Extracts X X X X ..... istant Director of Income-tax (International Taxation) - 1(2) ('ADIT') has erred in enhancing the assessment, pursuant to such directions of Hon'ble DRP, to impute profit for the year of Rs.1,05,03,587 on estimated basis which was not a variation proposed in the draft order passed by the learned ADIT under section 144C(1) of the Income-tax Act, 1961 ('the Act') It is, therefore, prayed that the direction issued by the Hon'ble DRP under section 144C of the Act and consequent enhancement by the learned ADIT on the variation not proposed in the draft assessment order should be treated as invalid, bad in law and to that extent the enhancement so made be ordered to be deleted. Without prejudice to Ground No. 1 above, 2. On the facts and in the circumstances of the case and in law, the learned ADIT has erred in estimating 20% of the total contract price as revenue of the year on an arbitrary basis and has also erred in applying an ad hoc rate of 8% as profit margin thereon, thereby charging to tax net profit of Rs.1,05,03,587 for the Assessment Year 2006-07. It is prayed that the aforesaid estimation of profits at Rs.1,05,03,587 be deleted. Without prejudice to Ground 1 and 2 above, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ling related worked near Gadimoga village in Andhra Pradesh. A.Y. 2006-07 is the first year of assessee's operation in India. For the purpose of execution of the project the company set up a project office in India and since the duration of the project undertaken has exceeded six months, there was a permanent establishment in terms of Article 7 of Indo-Belgium Tax Treaty. During the relevant year assessee filed its return of income declaring a total loss of Rs. 31,22,11,230/-. In the draft order the DDIT has proposed the following adjustments: - (a) Depreciation on temporary structure Rs. 43.29 lakhs (b) Provision for future losses Rs. 32.86 crores (c) Disallowance of expenses Rs. 22.10 lakhs (d) Unexplained cash credit Rs. 12.21 crores (e) Foreign Exchange loss Rs. 52,48 lakhs 5. Assessee made objections to the proposed variations and the Dispute Resolution Panel (DRP) - I vide directions dated 16.09.2010 accepted the objection-1 relating to depreciation on temporary structure, objection No. 3 - disallowance of expenses and objection No. 4 - unexplained cash credit. With reference to objection No. 2 the DRP did not allow the claim of future losses but directed the A.O. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t that the A.O. proposed restriction of the loss and the DRP directed part of the claim to be treated as profit and to be considered for work-in-progress. It was his submission that the directions are not at variance. 10. After considering the arguments of the learned counsel and the learned D.R. we are of the opinion that the DRP's direction in taxing 20% of the gross contract receipt at 8% is at variance with the proposed draft order by the A.O. disallowing the future loss claimed. The disallowance of future loss claimed is contested by the assessee in ground No. 5, which we intend to deal later separately. For the purpose of these grounds, the issue of estimation of profit at 8% was not before the A.O. when he proposed the draft order. As seen from the draft order the A.O. has made a reference to section 92CA(1) of the I.T. Act to the Additional Commissioner of Income Tax, Transfer Pricing-1(2) who did not propose any adjustment to the value of international transaction. After this the A.O. has proposed disallowance of depreciation on temporary structure, disallowance of future loss, disallowance of expenses on ad hoc basis and addition of unexplained cash credit and foreign ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1,03,03,587/-. 12. Coming to the provisions of law, section 144C is as under: - "144C. (1) The Assessing Officer shall, notwithstanding anything to the contrary contained in this Act, in the first instance, forward a draft of the proposed order of assessment (hereafter in this section referred to as the draft order) to the eligible assessee if he proposes to make, on or after the 1st day of October, 2009, any variation in the income or loss returned which is prejudicial to the interest of such assessee. (2) On receipt of the draft order, the eligible assessee shall, within thirty days of the receipt by him of the draft order,- (a) file his acceptance of the variations to the Assessing Officer; or (b) file his objections, if any, to such variation with,- (i) the Dispute Resolution Panel; and (ii) the Assessing Officer. (3) The Assessing Officer shall complete the assessment on the basis of the draft order, if- (a) the assessee intimates to the Assessing Officer the acceptance of the variation; or (b) no objections are received within the period specified in sub-section (2). (4) The Assessing Officer shall, notwithstanding anything ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ormity with the directions, complete, notwithstanding anything to the contrary contained in section 153, the assessment without providing any further opportunity of being heard to the assessee, within one month from the end of the month in which such direction is received. (14) The Board may make rules for the purposes of the efficient functioning of the Dispute Resolution Panel and expeditious disposal of the objections filed under sub-section (2) by the eligible assessee. (15) For the purposes of this section,- (a) "Dispute Resolution Panel" means a collegium comprising of three Commissioners of Income-tax constituted by the Board for this purpose; (b) "eligible assessee" means,- (i) any person in whose case the variation referred to in sub-section (1) arises as a consequence of the order of the Transfer Pricing Officer passed under sub-section (3) of section 92CA; and (ii) any foreign company." 13. Section 144C of the Income-tax Act, 1961 was introduced by Finance (No. 2) Act, 2009 to provide for an alternate dispute resolution mechanism to facilitate expeditious resolution of disputes on a fast track basis in the cases of foreign companies and tra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fter in this section referred to as the draft order) to the eligible assessee if he proposes to make, on or after the 1st day of October, 2009, any variation in the income or loss returned which is prejudicial to the interest of such assessee 2 On receipt of the draft order, the assessee may forward his objections, if any, to such variation to the Income-tax Officer, within seven days of the receipt by him of the draft order or within such further period not exceeding fifteen days as the Income-tax Officer may allow on an application made to him in this behalf 2 On receipt of the draft order, the eligible assessee shall, within thirty days of the receipt by him of the draft order: - (a) file his acceptance of the variations to the Assessing Officer; or (b) file his objections, if any, to such variation with, (i) the Dispute Resolution Panel; and (ii) the Assessing Officer. 3 If no objections are received within the period or the extended period aforesaid, or the assessee intimates to the Income-tax Officer the acceptance of the variation, the Income-tax Officer shall complete the assessment on the basis of the draft order. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essee and the Assessing Officer on such directions which are prejudicial to the interest of the as or the interest of the Revenue, respectively. 5 Every direction issued by the Inspecting Assistant Commissioner under sub-section (4) shall be binding on the Income-tax Officer 10 Every direction issued by the Dispute Resolution Panel shall be binding on the Assessing Officer. 13 Upon receipt of the directions issued under sub-section (5), the Assessing Officer shall, in conformity with the directions, complete, notwithstanding anything to the contrary contained in section 153, the assessment without providing any further opportunity of being heard to the assessee, within one month from the end of the month in which such direction is received. 6 For the purposes of sub-section (1), the Board may, having regard to the proper and efficient management of the work of assessment, by order, fix, from time to time, such amount as it deems fit: Provided that different amounts may be fixed for different areas: Provided further that the amount fixed under this sub-section shall, in no case, be less than twenty-five thousand rupees. 4 The Assessing Officer shall, notwithstandin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the guidance of the Assessing Officer to enable him to complete the assessment" The judicial precedence laid by decided cases by the Courts in connection with interpretation of jurisdiction and powers of IAC under section 144B should apply with equal force to the interpretation of section 144C owing to similarity between the two provisions. In the context of section 144B, various judicial precedents have held that the review mechanism which section 144B provides for is limited only to the additions proposed by the A.O. and objected by the assessee. Further, enhancement of the assessment as a result of the directions issued by the Inspecting Assistant Commissioner under section 144B(4) on the items not covered by the draft order would be invalid to the extent "it was not covered by the draft". It was observed by judicial precedents that the Inspecting Assistant Commissioner has no jurisdiction to give any instructions which is beyond the purview of the draft order and the objections filed by the taxpayer. The following judicial precedents, amongst various others, support the above proposition: (a) In the case of Asiatic Oxygen Ltd. v. CIT [1992] 190 ITR 328/62 Taxman 7 (Cal.), th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re incorporated in the new section 144C with reference to draft orders, the principles are equally applicable. 15. This issue whether the DRP has power to issue directions at variance to the proposed draft order was also decided in the case of another foreign company M/S GE India Technology Centre (P.) Ltd. by way of Writ Appeal before the Hon'ble Karnataka High Court. In Writ Appeal No. 1010 of 2011 dated 5th July 2011, the Hon'ble High Court has elaborately discussed the issue and came to the conclusion that the DRP cannot go beyond the proposed draft order. The facts in the above referred case are that the assessee declared income of Rs. 2,12,18,961/- and this case was selected for scrutiny. Under section 92CA of the Act the matter was referred to TPO for determining the arms length price and the Addl. TPO proposed adjustment of arms length price to an extent of Rs. 1,04,96,20,245/-. Therefore the proposed draft order was made why the excess claim of Rs. 44,49,280/- should not be disallowed and the arms length price as determined by the TPO should not be accepted. Since the assessee objected to the proposed variations the DRP came to the conclusion that adjustment of Rs. 29,68, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nd binding or not. It is clear from the proposed draft order that the appellant had claimed exemption of Rs.32,58,26,375/-. The proposed draft order annexed to the proposed draft referable to excess claimed under section 10A in a sum of Rs.44,49,280/- is arrived in the draft proposal order as follows: - ANNEXURE DEDUCTION U/S 10A PARTICULARS Rs. Total turnover of the undertaking (A) 305,31,27,853 Export turnover of the undertaking 305,31,27,853 Less: Communication Expenses Travel Expenses in foreign currency 3,25,98,610 90,92,976 Adjusted Export turnover (B) 304,14,36,267 Profit of the Undertaking (C) 32,58,26,375 Exemption u/Section 10A (D - B/A x C 32,13,77,095 Less: Actually claimed (E) 32,58,26,375 Excess claimed (F-E-D) 44,49,280 Therefore it is clear from the proposed draft order that as per the proposed draft the Arms Length Price fixed by the TPO was accepted and the claim made by the appellant was reduced by Rs.44,49,280/-but in the proposed draft order there may be deduction of Rs.32,13,77,095/-. However, as per the direction issued by the DRP it is clear that the DRP has issued ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... h are not contingent. By holding this, assessee disallowed the provisions for future losses and in doing so relied upon the case law regarding liability under Income Tax Act determined in the following cases: - (i) CIT v. Nainital Bank Ltd. [1966] 62 ITR 638 (SC) (ii) Madras Industrial Investment Corpn. Ltd. v. CIT [1997] 225 ITR 802/91 Taxman 340 (SC) (iii) M.P. Financial Corpn. v. CIT [1986] 26 Taxman 42 (MP) (iv) Mysore Kirlosker Ltd. v. CIT [1987] 166 ITR 836/30 Taxman 467 (Kar.) 18. It was assessee's contention before the DRP (vide Appendix 3 of the objection raised before the DRP) that paragraph 35 of AS-7 mandates that when it is probable that total contract costs will exceed total contract revenue, the expected loss should be recognised as an expense immediately and paragraph 36 of AS-7 further provides that the amount of such loss is to be provided irrespective of whether or not the work has commenced and the stage of completion of contract activity. 19. With reference to the facts of estimation of total cost of the contract and working of the loss it was submitted in para 2.5 of the objection as under: - "2.5 The assessee estimated the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er 1 month (i.e. approximately 800 nautical miles away from their actual location). 20. It was the contention that assessee made provision of future losses amounting to Rs. 32,86,17,293/- as assessee expects to incur loss on the said project. It was further submitted that assessee has suffered loss on completion of work and the loss was also returned in the return filed for the subsequent year which was also verifiable by the A.O. However, the DRP in its order rejected the contentions as under: - "objection No 2:- This objection relates to disallowance of future loss of Rs. 32,86,17,293. It is claimed by the assessee that it is following percentage project completion method for the dredging contract and it has recognised the expenditure incurred till 31st march as the reasonable revenue to be realised and it has envisaged huge loss at the end of the contract and has followed Accounting Standard AS 7 for claiming proportionate loss. The DRP asked the assessee to explain the correct system of accounting followed by the assessee and the assessee was also asked to explain why reasonable percentage of profit should not be treated as income on the proportionate receipts for actual work ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... learned D.R. to submit that it was applicable from 1st April 2011 and placed AS-7 as applicable to assessee in the relevant year on record and referred to various guidelines therein to submit that assessee is covered by the guidelines of AS-7. The term building site or construction or installation project, as per the commentary to Article 5 of OECD also included laying of pipe lines and excavating and dredging in its definition. It was further submitted that A.O. has never objected to the fact of assessee being in 'construction contract' and objection to application of AS-7 was not either before the A.O. or before the DRP so as to raise the objection in the course of appellate proceedings. 24. We have considered the issue and examined the various arguments and papers placed on record. The assessee justified its claim of future losses not only before the A.O. but also before the DRP by giving detailed factual position as well as legal arguments. We are surprised to note that instead of countering all these arguments and submissions the DRP rejected the entire explanation with a single sentence that assessee did not file proper reply. However, the DRP failed to explain what is 'pro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... expense. The relevant extract of the decision is extracted below: - "Having regard to the above legal and factual discussions, and following the decision of the ITAT in the case of Mazagaon Dock Ltd. (supra) and Metal Box Co. of India Ltd. (supra) and decision of the Hon'ble Delhi High Court in the case of CIT v. Woodward Governor India Pvt. Ltd. [2007] 294 ITR 451 (Delhi), the contention of the assessee regarding allowability of foreseeable loss is accepted in principle." The decision of Mumbai Tribunal in the case of Mazagaon Dock Ltd. (supra) was also in favour of allowing future losses. In this case, assessee, as per method of accounting in case of contracts where loss was anticipated reckoned the entire loss, based on estimated realizable values and estimated cost of contracts in the first year itself. The A.O. disallowed assessee's claim observing that this being only a provision made on estimated basis, cannot be allowed. The Tribunal held as below: - "He seems to have swayed more by revenue loss than by the correct principle to be applied. The matching principle of accounting is not of much significance in the present context because if the loss has been property estima ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... issue raised before the Apex Court in the case of madras Industrial Investment Corporation Ltd., i.e. allowability of discount on debentures. The Court held that while the entire amount of discount was not allowable deduction, the discount had to be spared out proportionately over the number of years for which the bonds were issued and the proportionate amount of discount would be allowed expenditure. iv. In Mysore Kirlosker Ltd.'s case (supra), the issue which was raised before the Court was whether donation given by the assessee can be claimed under section 37(1). In this case, assessee company had promoted a trust which had constructed school to provide education for the children of the employees and ex-employees of the assessee company. During the year, assessee company donated Rs. 62,000/- to meet the expenditure of the school. Assessee claimed deduction of this expense under section 37(1) of the Act. The Court observed that sections 37(1) and 80G are not mutually exclusive. In other words, the Court observed donation if laid out wholly and exclusively for the purpose of business should be allowed under section 37(1) of the Act. Accordingly, the Court in the present ca ..... X X X X Extracts X X X X X X X X Extracts X X X X
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