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TMI Blog2006 (9) TMI 117X X X X Extracts X X X X X X X X Extracts X X X X ..... granted by the COD as per minutes (of the High Power Committee on Disputes) dated October 25, 2005 and the present application has been admitted vide Order dated November 14, 2005. Indian Telephone Industry Ltd. (for short ITI) is also a Public Sector Company and is one of the suppliers of plant and machinery to MTNL. The terms of the purchase order/agreement provide that if ITI Ltd. fails to deliver equipments within the stipulated time, MTNL would be entitled to liquidated damages (for short LD). Accordingly, for the period 1987-88 to 1995-96 MTNL recovered from the bills of ITI Ltd. liquidated damages amounting to Rs.214,129,382/-. The amount recovered was adjusted against the cost of assets in some years and shown as income of MTNL in other years and tax was paid on such income in the respective years. Subsequently representations were received by MTNL for waiver of LD, as according to ITI, they were not liable to pay such LD, as supplies could not be made within stipulated time due to various reasons beyond their control. However, in this regard MTNL received a direction from the Telecom Commission vide letter dated 17th March 1997 and 18th November 1997 for waiver of these li ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The assessee has shown to have received LD charges of Rs.4.18 crores during the FY 1992-93 but it has shown Rs.2.21 crores only under the sub-head "Others" in Schedule-O In the "Notes to Accounts" of Tax Audit Report for the financial year 1992-93 and 93-94, the auditors had given following remarks: "Claim for liquidated damages from contractors for delayed execution of work is accounted for when the amount is finally determined and agreed upon. The same is adjusted to capital for revenue account, as the case may be but it is not clear what treatment was given to the "LD" charges i.e. capital or revenue". As per details filed on records, the assessee has stated that they had received LD charges to the extent of Rs.4.77 crores from ITI during the year 1993-94 whereas Rs.4.14 crores only has been shown in Schedule-O (Other Income). Schedule O (Other Income) of the P&L Account for the year 1994-95 and 1995-96 reveals that the assessee has accounted for LD charges received during the year under a separate sub-head "Liquidated Damages" and not grouped under the sub-head "Others". S. No. Fin.Year Asst.Year Main Head Sub-he ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e payment terms and delivery schedule. Clause 12.4 of the said agreement (PB Pg 8) reads as under: "12.4 Liquidated damages at the rate of ½% of pro rata value of supplies delayed per week (or part) of delayed delivery, subject to force maieure shall be levied on the contractor for supplies delayed in delivery beyond the contracted delivery dates or extensions thereto. This shall be limited to 5% of the base contract price. This clause will not apply for delayed delivery due to delay in inspection by the Purchaser's representative". During the FY 1987-88 till the FY 1995-96, the ITI Ltd. made various supplies to the applicant. There were delays in the supplies and accordingly the applicant has been deducting LD in terms of the above-said Clause 12.4 from the bills submitted by the ITI. The issue of deduction of these amounts is evident from the fact that the supplier ITI has been seeking refund of these amounts only. Since the payments were deducted from the bills on account of the LD, the same have been accounted for in the books of account and appropriately dealt with in the books of account and the same has gone to increase the income o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n from the bills of ITI during the Fin. Years : 1987-88 to 95-96 for delay in supply of equipments and has shown in the same income under the sub-head "Other in Schedule-O (Other Income) of the P&L Account could not be verified as necessary details in support of its claim have not been filed. The P&L Account and the Tax Audit Report also do not certify the claim of the assessee that "Liquidated damages" have been shown as income. This evident from the following instances: The Schedule - O (Other income) of the P&L Account for the year : 1994-95 and 1995-96 reveals that the assessee has accounted for LD received during the year under a separate sub-head "Liquidated damages" and not grouped under the sub-head "Others". As per details filed on records, the assessee has stated that they had received LD to the extent of Rs.4.77 crores from ITI during the year : 1993-94 whereas Rs.4.14 crores only has been shown in Schedule-O(Other Income). Similarly, the assessee has shown to have received LD of Rs.4.18 crores during the F.Y.: 1992-93 but it has shown Rs.2.21 crores only under the sub-head "Others" in Schedule-O. In the "notes on Accounts" of Tax Audit Report for the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... On going through the Balance Sheet for each of the years your lordships will notice that the applicant has shown 'Other income' for each of the years as under: Financial Year Amount (Rs. Lakhs) 155.95 131.54 128.14 184.07 351.44 220.86 414.85 1994-95 (1) Other income 485.21 (2) LD 809.51 1995-96 (1) Other income1125.18 (2) LD 1926.72 It is submitted that the LD were being included till the year 1993-94 as part of the 'Other income' and 1994-95 onwards the same has been shown separately. This is normal method of grouping and disclosure in the final accounts prepared by a company. Since 1994-95 LD are being shown separately, but that does not mean that LD were not part of the Profit & Loss Account. It is a normal part of the accountancy that certain heads of income are clubbed as part of others. Accordingly in the earlier asstt. Years, LD recovered by the applicant from the ITI have been clubbed under the head 'Other income' and disclosure of the same by grouping LD as part of other income does not mean that no LD were included in the Profit & Loss Account. As stated here ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sp; 42.56 1990-91 70.12 1991-92 137.04 1992-93 418.16 1993-94 477.31 1146.77 The total increased income for each of the years on account of the lesser claim of cost of purchases comes to Rs.1122.27 lakhs which is almost equivalent to the claim of LD of Rs.1147.77 lakhs. Thus, either way the LD have been included as part of the income in the earlier years and as explained hereinabove there cannot be any other accounting. The fact of the recovery of LD is evidenced by the certificate from another public sector company, i.e. ITI. The applicant is also a government company and after considering all facts and the circumstances the Board of Directors have accepted the demand of another government company ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... wholly and exclusively for the purpose of such business or profession" in its place. The 1961 Act phraseology "laid out or expended wholly and exclusively for the purpose of such business or profession" is similar to the 1939 amended phraseology. The word "wholly" here refers to the quantum of expenditure. The word "exclusively refers to the motive, objective and purpose of the expenditure and gives jurisdiction to the taxing authorities to examine these matters [Siddho Mal & Sons V CIT, (1980) 122 ITR 839, 844 (Del) ; Amritlal & Co. Pvt. Ltd. V CIT, (1977) 108 ITR 719, 729 (Bom)]. The expression "wholly and exclusively" in section 37(1) does not mean 'necessarily' ". Ordinarily, it is for the assessee to decide whether any expenditure should be incurred in the course of its or his business. Such expenditure may be incurred voluntarily and without any necessity, and if it is incurred for promoting the business and to earn profits, the assessee can claim deduction therefore under section 37(1) even through there was no compelling necessity to incur such expenditure. As a matter of fact, the word "necessarily" found place in the Income Tax Bill, 1961 but it ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... phony and internet etc., and not recovering LD. That therefore, refund of the same would not constitute expenditure laid out wholly and exclusively for the purposes of business under section 37(1) of the Act. That no doubt it was shown under the head other income but it was not income from other sources, as contemplated under section 56(2), therefore, refund of the amount would not be covered by section 57(iii). That section 37(1) as well as section 57(iii) specifically excluded expenditure, which was in the nature of 'capital expenditure'. That the Liquidated Damages were in the nature of capital receipt since the contract with the ITI was for purchase of plant and machinery to set up the apparatus of the MTNL. That even though it was taken to the Revenue account by the applicant it never arose out of the business of the applicant. That the amount was not refunded by the Board of the applicant on their own, but as per the directions of the Telecom Commission, since there was a long-standing dispute on account of recovery of LD. Provisions of the Act did not cover the refund of that amount, therefore, the same could not be allowed as deduction fr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... elayed delivery were leviable on the contractor (supplier) for supplies delayed in delivery beyond the contracted delivery dates or extensions thereto. This was to be limited to 5% of the base contract price. Damages recovered on account of late supply of capital assets have been held to be capital in nature and not allowable as revenue expenditure by Hon'ble Supreme Court in Swadeshi Cotton Mills Co. Ltd. v. CIT (No.2)(1967) 63 ITR 65. According to the facts arising in that case, the appellant, who carried on the business of manufacturing and selling cloth and other textile goods, entered into contracts for the purchase of textile machinery in order to expand its factory. Having regard to the altered circumstances, the appellant subsequently cancelled the contracts, as the machinery to be purchased would not be required for the business, and paid Rs.15,000 and Rs.20,000, respectively, to the other contracting parties as compensation. On those facts, the Supreme Court held that the payment was made neither for the purpose of earning profits nor for the purpose of furthering, protecting or continuing its business which was to be carried on from day to day. The pay ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ut the consent of the manufacturers. The manufacturers refused to release the letter of credit. A compromise was entered into whereby the letter of credit was released on payment of 15,000 pounds to the manufacturers. On those facts, the High Court held that the amount of Rs.20,00,348 represented capital expenditure and was not a permissible deduction under section 10(2)(xv) of the Indian Income-tax Act, 1922. The expenditure for the acquisition of a plant was surely of a capital nature and any loss suffered in that transaction would naturally be of a capital nature. Calcutta High Court in New Central Jute Mills Ltd. v. CIT [1982] 136 ITR 742. According to the facts arising in that case, the assessee entered into an agreement to sell the land belonging to it, which was pledged with the Government of Uttar Pradesh as part payment. The assessee agreed to obtain release of the land from the Government of Uttar Pradesh and convey it by a specified time failing which it agreed to refund the sum and pay damages of Rs.1,00,000 and interest on the sum of Rs.40,00,000 received in advance. The assessee was unable to obtain release of the land and refunde ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .52 lacs (as per details supplied). For this inconsistent treatment no plausible explanation could be given, except to state that under both methods the LD recovered by the applicant goes to increase the profit of the applicant and was included in income of the earlier years. Since liquidated damages have arisen out of a contract for purchase of capital equipment, what is relevant is the nature of goods purchased under the contract, and not the treatment or method of accounting/accounting policy adopted by the applicant. In this regard it would be apposite to refer to the decision of the Hon'ble Supreme Court in the case of Travancore Rubber and Tea Co. Ltd. v. C.I.T. [2000] 243 ITR 158 wherein it was observed as under: "The logic of the principle is that the assessee's right to recover the compensation was to place the assessee in the same position as if the breach had not taken place. Applying the rule to this case, if the agreed sums of money under the agreements had been received by the assessee, they would have been credited in its account as a capital receipt. That being so, the forfeited amounts must also be treated as capital receipt." (ii) Vide written submis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... extract is given hereunder: "ITEM NO. 28 ONE TIME WAIVER OF LD CHARGES DEDUCTED DURING THE PERIOD FROM 1987-88 TO 1995-96 IN RESPECT OF PURCHASES MADE FROM M/S. ITI LTD. The Board considered the proposal as contained in the agenda note and after discussions approved the following: - Subject to necessary verification, MTNL may refund the amount of liquidated damages to ITI to the extent of Rs.14 crores only as an amount of Rs.7 crores has already been paid by MTNL as income tax to the tax authorities in the respective years on the LD charges recovered from ITI. For the balance amount of Rs.7 crores, MTNL may take up the matter with IT Authorities for refund and in case the same is refunded to MTNL, in that event the balance amount may also be paid back to ITI on account of liquidated damages." In view of the forgoing discussion it would be seen that refund of LD, recovered by the applicant for the years 1987-88 to 1995-96, was given under the directions of the Telecom Commission, after a lapse of 8 years of its recovery, and not voluntarily for the purpose of the business as claimed by the applicant. The reliance on various decisions of different Court ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... business. In other words, if the assessee has incurred the expenditure voluntarily, for promoting the business, the deduction would be permissible under section 37(1) of the Act. On the facts in the present case the amount laid out being capital in nature, goes out of the purview of not only section 37(1) but also 57(iii) of the Act, which is similarly worded as far as the expenditure of capital nature is concerned. Any further discussion as to whether the refund granted was for the 'purpose of business' would be of no avail to the applicant; suffice it to say that the applicant is not in the business of sale and purchase of tele-communication equipment but only a service provider. There are specific provisions in the Act for setting off loss from one source against income from another source under the same head of income (section 70), as well as setting off loss from one head against income from another (section 71). In the peculiar facts of this case no relief or adjustment is admissible to the applicant under either of these two sections, or any other provision of the Act. In this regard we may with advantage refer to the observations of Hon'ble S ..... X X X X Extracts X X X X X X X X Extracts X X X X
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