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TMI Blog2012 (11) TMI 539X X X X Extracts X X X X X X X X Extracts X X X X ..... t is made before the return is filed. In favour of assessee Disallowance of provision for warranty charges - Provisions towards warranty expenses at 10% of the total sales turnover - The Department has the objection that the liability in respect of warranty is contingent in nature – Held that:- It is not disputed that the warranty clause is part of the sale document and imposes a liability upon the assessed to discharge its obligations under that clause for the period of warranty. Once an assessed is maintaining his accounts on the mercantile system, a liability is accrued, though to be discharged at a future date, would be a proper deduction while working out the profits and gains of his business. Therefore contention of revenue not accepted that the warranty provision is contingent liability. Appeal decides in favour of assessee - ITA No. 485/Hyd/2012 - - - Dated:- 31-7-2012 - SHRI CHANDRA POOJARI And SHRI SAKTIJIT DEY, JJ. Appellant by: Shri A.V. Raghuram Respondent by: Shri K. Chandra Prakash ORDER PER CHANDRA POOJARI, AM: This appeal by the assessee is directed against the order of the CIT(A)-IV, Hyderabad dated 29.02.2012 for the assessm ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... set apart as a provision for meeting the warranty expenses in future. Having earmarked the said funds for the warranty liability, if at all such liability existed and had been scientifically arrived at, the appellant cannot-claim that the same funds were "diverted" towards the above non-productive investments. Since, the existence of own funds itself has not been proved, the decisions relied upon by the Ld. Representative of the appellant would not come to the rescue of the appellant. 6.1 As regards the commercial expediency, even though it is claimed that the amount of Rs. 53,96,000/- had been made in M/s. Sree Rayalaseema Industries Ltd. as the said company was supplying lamination core to the appellant, the appellant has not been able to demonstrate as to what the said company did with the funds so given by the appellant. It is clear that the decision of the Hon'ble Supreme Court in the case of SA Builders Ltd. vs. CIT (supra) specifically mentions that the user of funds by the recipient has to be business purpose and not otherwise. Under the circumstances, the appellant's argument fails even on this ground. Upholding the disallowance of interest of Rs. 9,06,009/-, therefor ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nterest on loans raised by the assessee for business purposes are available. Once the assessee claims any such interest as deduction in their books of account the onus always will be on the assessee to satisfy the Assessing Officer that whatever loans were raised by the assessee were for the purpose of business. If in the process of examination of genuineness of such deduction, if it transpires that the assessee has advanced certain funds to sister concerns charging no interest, there would be a very heavy onus on the assessee to discharge before the Assessing Officer to the effect that in spite of outstanding loans on which the assessee is incurring liability to pay interest, there would be no justification to advance the loans to sister concerns for nonbusiness purposes without charging any interest. 10. Entire money in a business entity comes in a common kitty. The monies received as share capital, as term loan, as working capital loan, as sale proceeds etc. do not have any different colour. Whatever are the receipts in the business, which have the colour of business receipts and have no separate identification? The only thing sufficient to disallow the interest paid on the bo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... profits, it would not be deemed as diversion of borrowed capital or that the Revenue had not been able to establish nexus of the funds advanced to the sister concerns with the borrowed funds is not correct. Once it is borne out from the record that the assessee had borrowed certain funds on which liability to pay tax is being incurred and on the other hand, certain amounts had been advanced to sister concerns or others without carrying any interest and without any business purpose, the interest to the extent the advance had been made without carrying any interest is to be disallowed under Section 36(1)(iii) of the Act. 13. Before us, the assessee has taken a plea that the amount advanced to its sister concern is on account of business expediency as the sister concern has been supplying raw materials to assessee and to ensure the regular and uninterrupted supply of raw materials the money was so advanced to sister concern at free of interest. If it is so, the deduction is to be allowed u/s 37 of the Income Tax Act as it is for the purpose of business and it is immaterial if a third party also benefits thereby. In view of the above, we are inclined to remit this issue to the fil ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... efore us. 17. The next ground for our consideration is Ground No. 4, which is as under: 6. The learned CIT(A) erred in confirming the disallowance of provision for warranty charges of Rs. 2,54,96,766 in spite of filing details as to how such expenditure is incurred in later years holding that the assessee has not fulfilled the conditions laid down by the Supreme Court in the case of Rotork Controls India Ltd. 18. Brief facts of the issue are that before the Assessing Officer the assessee had explained that the above provision had been made for the transformers manufactured and sold to government and the warranty was as per the terms of sale. It was also submitted that the assessee is in the business of manufacture of transformers from A.Y. 2004-05 and had made the provision towards warranty expenses at 10% of the total sales turnover after analysing the expenditure incurred on warranty in the preceding year. It was also claimed that making provisions for warranty is a common practice in all manufacturing and trading concerns and is an allowable expenditure. The assessee placed reliance on the decisions in the cases of CIT Vs. Beema Mfrs. P Ltd. (130 Taxman 400) (Mad.), CIT v. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssessee towards warranty is very reasonable and the same has to be allowed. 22. On the other hand, the learned DR submitted that it is true that the Supreme Court in the case of Rotork Controls India P. Ltd. and Ors. vs. CIT (314 ITR 62) have opined that warranty may be an integral part of the sale price, and therefore, an assessee can incur a liability on this account. However, they have categorically observed that it can be an item of deduction u/ s. 37 only if the present value of a contingent liability, like the warranty expenses, is properly ascertained and discounted on accrual basis. They have noted that the principle of estimation of the contingent liability is not the normal rule and that it would depend upon the nature of business, nature of sales, product manufactured and 'the scientific method of accounting' adopted by the assessee. Besides, they have noted that it would also depend upon the "historical trend' and upon the number of articles produced. They have noted that a provision is a liability which can be measured only by using a substantial degree of estimation and can be recognised when:- (a) an enterprise has a present obligation as a result of a past event ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ranty provision @ 10% of the total sales either by way of any historical data or even by way of any scientific and reliable analysis of the basis of estimation, the disallowance of claim of deduction of Rs. 2,54,96,766/- towards provision for warranty is justified. 25. We have heard both the parties and perused the material on record. The assessee herein is in the business of manufacturing transformers and the assessee booked the sales as gross income of the assessee. Correspondingly the assessee booked the provisions towards warranty expenses at 10% of the total sales turnover after analysing the expenditure incurred on warranty in the preceding years. It was also contended that claiming of warranty at a fixed percentage of sales turnover is a common practice in this line of business. The Department has the objection that the liability in respect of warranty is contingent in nature. We are unable to accept this contention of the Department. Sales as well as warranty are inextricably bound with each other and, therefore, if the sale proceeds are taken note of in a year, the liability in respect of warranty is also to be taken note of in the same year. In our opinion, the liabilit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... at expenditure. Thus the assessee was entitled to the deduction from its total income for the provisions made in regard to contingent liability arising therefrom. 28. Further, in our opinion, there is no dispute before us that when the sales are done warranty clause is part of the sale transaction and, therefore the assessee is encumbered with committed liability for the period of years commencing from the initial stage of sale. But for the prescription of such a warranty clause the customer may not have bought the product of the assessee. The Assessing Officer could have examined the actual expenditure incurred by the assessee in subsequent assessment years towards warranty given in the assessment year and could have come to reasonable conclusion instead of rejecting the same as there is no warranty provision required. The warranty expended by the assessee exhibits that the assessee had incurred expenditure resulting from the warranty clause in subsequent assessment years. In our opinion, there was direct nexus between the claim of the assessee and its obligation arising from the warranty clause. In our opinion the judgement of the Supreme Court in Bharat Earth Movers (cited s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ranty for each vehicle sold was contingent on a defect appearing and being notified to the dealer within the warranty period so that no liability was incurred by the taxpayer until those conditions were satisfied, regard could be had to its estimation of warranty claims based on statistical information, which showed that as a matter of existing fact not future contingency 63 per cent. of all vehicles sold by the taxpayer contained defects likely to be manifested within the warranty period and require work under warranty; that since theoretical contingencies could be disregarded, the taxpayer was in the year of sale under an accrued legal obligation to make payments under those warranties and even though it might not be required to do so until the following year, it was definitively committed in the year of sale to that expenditure; and that, accordingly, in computing the profits or gains derived by the taxpayer from its business in the year in which the vehicles were sold, the taxpayer was entitled under section 104 to deduct from its total income the provision which it had made for the costs of its anticipated liabilities under outstanding warranties in respect of vehicles sold in ..... 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