M/S. EDELWEISS CAPITAL LTD, MUMBAI V. THE ITO 3(1)(1),

ITA 5324/MUM/2007

• Counselvise Citation: [2010] 135 COUNSELVISE.COM (IT) 3740 (ITAT-MUMBAI)
• Duration Of Justice: 3 year(s) 3 month(s) 1 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 10-11-2010
• Appeal Filed By: Assessee
• Order Result: Partly Allowed
• Bench Allotted: J
• Next Hearing Date: 06-09-2010
• Assessment Year: 2004-2005
• Appeal Filed On: 08-08-2007
• Result in Favour of: Partly Allowed
• Court: TRIBUNAL
• Department Lawyers: SUMIT KUMAR
• Keywords: Capital asset; Earning of tax free income; Revenue expenditure
• Section: 143(3); 14A

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL MUMBAI BENCHES, J, MUMBAI BEFORE SHRI R V EASWAR, PRESIDENT AND SHRI R K PANDA, ACCOUNTANT MEMBER I T A NO: 5324/MUM/2007 (ASSESSMENT YEAR: 2004-05) EDELWEISS CAPITAL LTD., MUMBAI APPELLANT (PAN: AAACE1461E) VS INCOME TAX OFFICER 3(1)(1), MUMBAI RESPONDENT APPELLANT BY: SHRI RAJAN R VORA RESPONDENT BY: SHRI SUMIT KUMAR O R D E R R V EASWAR, PRESIDENT: THIS IS AN APPEAL BY THE ASSESSEE FOR THE ASSESSME NT YEAR 2004-05. THE ASSESSEE HAS FILED SUMMARIZED GROUNDS OF APPEAL AT THE TIME OF THE HEARING, WHICH HAVE BEEN TAKEN INTO ACCOUNT. THE ASSESSEE IS A COMPANY DEALING IN SECURITIES AND ACT ING AS INVESTMENT BANKERS. THE APPEAL ARISES OUT OF THE A SSESSMENT FRAMED UNDER SECTION 143(3) OF THE INCOME TAX ACT, 1961, ON 15 TH DECEMBER 2006. 2. THE FIRST GROUND OF APPEAL IS DIRECTED AGAINST T HE DISALLOWANCE OF EXPENSES ON THE GROUND THAT THEY WE RE INCURRED TO EARN EXEMPTED INCOME. THE ASSESSING OFFICER HAS DI SALLOWED 10% OF THE EXEMPTED INCOME BY INVOKING SECTION 14A OF T HE ACT. IN PAGE 2 OF THE ASSESSMENT ORDER HE HAS ACCEPTED THAT THE INTEREST EXPENDITURE IS NOT BEING DISALLOWED BY INVOKING THE ABOVE SECTION BECAUSE THE LOAN FUNDS HAVE NOT BEEN UTILIZED FOR M AKING INVESTMENTS WHICH YIELDED EXEMPT INCOME. THE CONTE NTION OF THE ITA NO: 5324/MUM/2007 2 LEARNED REPRESENTATIVE FOR THE ASSESSEE BEFORE US I S BASED ON THE RECENT JUDGMENT OF THE HONBLE BOMBAY HIGH COURT IN THE CASE OF GODREJ & BOYCE MFG. CO. LTD. VS. DEPUTY COMMISSIONE R OF INCOME TAX, IN INCOME TAX APPEAL NO. 626 OF 2010 AND WRIT PETITION NO. 758 OF 2010. A COPY OF THE JUDGMENT DATED 12 TH AUGUST 2010 HAS BEEN FILED. THE HONBLE HIGH COURT HAS HELD THAT R ULE 8D OF THE INCOME TAX RULES WHICH HAS BEEN NOTIFIED ON 24 TH MARCH 2008 WOULD APPLY FROM THE ASSESSMENT YEAR 2008-09 ONLY. SINCE WE ARE CONCERNED WITH THE ASSESSMENT YEAR 2004-05, THE SAI D RULE CANNOT BE INVOKED. AS REGARDS THE DISALLOWANCE UNDER SECT ION 14A, THE HONBLE HIGH COURT HAS LAID DOWN GUIDELINES AS TO H OW THE SECTION HAS TO BE UNDERSTOOD AND APPLIED. RESPECTFULLY FOL LOWING THOSE GUIDELINES WE SET ASIDE THE ORDERS OF THE DEPARTMEN TAL AUTHORITIES ON THIS ISSUE AND RESTORE THE SAME TO THE FILE OF T HE ASSESSING OFFICER WITH DIRECTIONS TO HIM TO DECIDE THE APPLIC ABILITY OF SECTION 14A AFRESH IN THE LIGHT OF THE GUIDELINES LAID DOWN IN THE AFORESAID JUDGMENT. THE ASSESSEE SHALL BE GIVEN ADEQUATE OPP ORTUNITY OF PUTTING FORTH ITS CASE. 3. THE SECOND GROUND IS DIRECTED AGAINST THE DISALL OWANCE OF RENOVATION EXPENSES OF ` 9,90,394/- ON THE GROUND THAT THEY ARE CAPITAL IN NATURE. THE ASSESSEE TOOK 5712 SQ. FT. OF SPACE ON LEASE FOR A PERIOD OF FIVE YEARS ON LEAVE AND LICENSE BAS IS FROM SHALAKA SANGH CO-OPERATIVE HOUSING SOCIETY LIMITED. A COPY OF THE LEAVE AND LICENSE AGREEMENT IS AT PAGES 38 TO 44 OF THE P APER BOOK. THE LEASE WAS FOR A PERIOD OF FIVE YEARS INITIALLY, TO BE RENEWED AFTER THAT PERIOD AT THE OPTION OF THE LICENSEE. UNDER CLAUSE 4(C) OF THE ITA NO: 5324/MUM/2007 3 AGREEMENT, IT WAS THE RESPONSIBILITY OF THE ASSESSE E TO KEEP THE INTERIOR OF THE SAID PREMISES IN GOOD CONDITION DUR ING THE PERIOD OF THE LICENSE AND BE RESPONSIBLE FOR THE ORDINARY ROU TINE MAINTENANCE OF THE FITTINGS AND FIXTURES IN THE PREMISES. CLAU SE 4(F) PROVIDED THAT THE ASSESSEE SHOULD DELIVER VACANT AND PEACEFUL POS SESSION OF THE PREMISES IN GOOD CONDITION TO THE LICENSOR ON THE E XPIRY OF THE LEASE. THE ASSESSEE INCURRED THE EXPENDITURE DURIN G THE RELEVANT ACCOUNTING YEAR, WHICH WAS DISALLOWED BY THE ASSESS ING OFFICER AS CAPITAL IN NATURE AND HIS VIEW WAS UPHELD BY THE CI T(A). THE CONTENTION OF THE ASSESSEE BEFORE US IS THAT THE EX PENDITURE WAS INCURRED WHOLLY AND EXCLUSIVELY FOR THE PURPOSE OF ASSESSEES BUSINESS AND NO ENDURING BENEFIT HAD ACCRUED TO THE ASSESSEE NOR WAS ANY CAPITAL ASSET CREATED. IT WAS FURTHER CONT ENDED THAT THE EXPENDITURE WAS INCURRED IN THE MONTH OF MARCH 2004 AS PER THE TERMS OF THE LICENSE AGREEMENT BECAUSE THE LICENSE PERIOD WAS COMING TO AN END IN JUNE 2005 AND THAT IN THESE CIR CUMSTANCES IT CANNOT BE SAID THAT THE ASSESSEE DERIVED ANY ENDURI NG ADVANTAGE BY INCURRING THE EXPENDITURE. THE LEARNED DEPARTME NTAL REPRESENTATIVE STRONGLY SUPPORTED THE ORDERS OF THE INCOME TAX AUTHORITIES. 4. WE HAVE CAREFULLY CONSIDERED THE RIVAL CONTENTIO NS. THE EXPENDITURE DISALLOWED CONSISTS OF THE FOLLOWING: - (1) PAINTING AND POLISHING WORK ` 4,87,323/- (2) CIVIL, PLUMBING AND POP WORK ` 3,54,956/- (3) MISCELLANEOUS EXPENSES ` 28,115/- (4) PROFESSIONAL FEES PAID TO ARCHITECT ` 1,20,000/- WE FURTHER FIND THAT THOUGH THE ASSESSEE COULD RETA IN THE PREMISES FOR A PERIOD OF FIVE YEARS FROM 2 ND JUNE 2000, WHICH IS THE DATE OF ITA NO: 5324/MUM/2007 4 THE LEAVE AND LICENSE AGREEMENT, IT HANDED OVER THE PREMISES TO THE LICENSOR ON 31 ST JULY 2004, AFTER A PERIOD OF FOUR YEARS BECAUSE IT HAD ENTERED INTO AN AGREEMENT WITH ANOTHER PERSON F OR TAKING NEW PREMISES ON LEASE IN APRIL 2004. BEFORE SHIFTING T O THE NEW PREMISES THE ASSESSEE UNDER CLAUSE 4(F) OF THE LEAV E AND LICENSE AGREEMENT, HAD TO ENSURE THAT THE PREMISES WERE DEL IVERED BACK TO THE LICENSOR IN GOOD CONDITION. THE EXPENDITURE WA S INCURRED IN MARCH 2004, A FEW MONTHS BEFORE THE PREMISES WERE H ANDED OVER. IN PROOF OF THE CLAIM THAT THE PREMISES WERE HANDED OVER EVEN BEFORE THE LICENSE PERIOD GOT OVER, THE LEARNED REP RESENTATIVE FOR THE ASSESSEE, AT OUR INSTANCE FILED A LETTER DATED 14 TH JULY 2004 WRITTEN BY SHALAKA SANGH CO-OPERATIVE HOUSING SOCIE TY LIMITED. IT IS SEEN FROM THIS LETTER THAT THE ASSESSEE HANDED O VER POSSESSION OF THE PREMISES ON 14 TH JULY 2004, WHICH IS ACKNOWLEDGED BY THE HOUSING SOCIETY. THE EXPENDITURE HAS THUS BEEN INC URRED IN TERMS OF THE LEAVE AND LICENSE AGREEMENT. FURTHER, THEY ARE ROUTINE MAINTENANCE AND REPAIR EXPENSES WHICH THE ASSESSEE WOULD HAVE HAD TO INCUR IN THE NORMAL CARRYING ON OF ITS BUSIN ESS. THE NATURE OF THE WORK SHOWS THAT NO ADDITIONAL SPACE OR CAPITAL ADVANTAGE WAS DERIVED BY INCURRING THE EXPENDITURE. WE, THEREFOR E, HOLD THAT THE EXPENDITURE IS ALLOWABLE AS REVENUE EXPENDITURE. W E DIRECT ACCORDINGLY AND ALLOW THE SECOND GROUND. 5. THE THIRD AND LAST GROUND IS AGAINST THE DISALLO WANCE OF THE PROVISION FOR LOSS OF ` 9,36,256/- MADE BY THE ASSESSEE ON MARK TO MARKET BASIS IN RESPECT OF TRADING IN DERIVATIVES. THE BRIEF FACTS IN THIS CONNECTION ARE THAT THE AFORESAID PROVISION WA S MADE IN THE ITA NO: 5324/MUM/2007 5 PROFIT AND LOSS ACCOUNT BEING ANTICIPATED LOSS ON E QUITY INDEX / STOCK FUTURES ACCOUNT. THE BREAKUP IS ` 8,86,912/- AND ` 49,344/- RESPECTIVELY. WHEN ASKED TO FURNISH THE DETAILS AN D THE BASIS OF THE CLAIM, THE ASSESSEE FILED A NOTE STATING THAT THE P ROVISION WAS MADE IN ACCORDANCE WITH THE SUGGESTIONS OF THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA TO THE EFFECT THAT A PROVISION SHOULD BE MADE AT THE END OF THE YEAR BY A DEBIT TO THE PROFIT AND LOSS ACCOUNT FOR ANTICIPATED LOSS EQUIVALENT TO THE DEBIT BALANCE IN THE MARK TO MARKET MARGIN INDEX / STOCK FUTURES ACCOUNT. ACCOR DING TO THE ASSESSEE, THE LOSS SHOULD BE ANTICIPATED AND PROVID ED FOR, THOUGH ANTICIPATED PROFIT CANNOT BE TAKEN CREDIT. THE ASS ESSEE FURTHER POINTED OUT THAT THERE IS NO DIFFERENCE BETWEEN VAL UATION OF STOCK AND THE VALUATION OF THE DERIVATES AND THAT IN BOTH PROVISION SHOULD BE MADE FOR ANTICIPATED LOSSES THOUGH ANTICIPATED P ROFITS CANNOT BE TAKEN NOTE OF. 6. THE ASSESSING OFFICER DID NOT ACCEPT THE ASSESSE ES SUBMISSIONS. HE NOTED THAT THE PROVISION HAS BEEN CREATED IN RESPECT OF CONTRACTS PENDING ON 31.03.2004, WHICH W ILL BE SQUARED OFF IN THE NEXT FINANCIAL YEAR AND THERE WAS ALWAYS THE POSSIBILITY THAT THERE MAY NOT BE ANY LOSS WHEN THEY ARE SQUARE D OFF. HE VIEWED IT AS A CONTINGENT LIABILITY WHICH MAY OR MA Y NOT ARISE IN FUTURE. ACCORDING TO HIM THERE IS NO ROOM FOR ALLO WING A CONTINGENT LIABILITY UNDER THE MERCANTILE SYSTEM OF ACCOUNTING UNDER WHICH ONLY A LIABILITY IN PRESENT TIME CAN BE ALLOWED. HE REF ERRED TO CERTAIN AUTHORITIES IN SUPPORT OF HIS VIEW. AS REGARDS THE GUIDELINES ISSUED BY THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA, WHICH WERE ITA NO: 5324/MUM/2007 6 CLAIMED TO HAVE BEEN FOLLOWED BY THE ASSESSEE, THE ASSESSING OFFICER OBSERVED THAT THE ACCOUNTING ENTRIES CANNOT CONTROL OR DECIDE THE ALLOWABILITY OF THE CLAIM. IN THIS VIEW OF THE MATTER, HE DISALLOWED THE PROVISION. THE DISALLOWANCE HAVING BEEN UPHELD BY THE CIT(A) FOR SUBSTANTIALLY THE SAME REASONS, THE ASSESSEE IS IN FURTHER APPEAL BEFORE THE TRIBUNAL. 7. WE HAVE CONSIDERED THE FACTS AND THE RIVAL CONTE NTIONS. IN THE SCHEDULE ANNEXED TO AND FORMING PART OF THE BAL ANCE SHEET AND PROFIT & LOSS ACCOUNT FOR THE YEAR UNDER APPEAL (PAGE 13 OF THE PAPER BOOK), THE ASSESSEE HAS MADE THE FOLLOWING NO TE: - H. EQUITY FUTURES INDEX / STOCK (A) INITIAL MARGIN EQUITY DERIVATIVE INSTRUMENTS, REPRESENTING INITIAL MARGIN PAID, AND MARGIN DEPOSITS, REPRESENTING ADDITIONAL MARGIN OVER AND ABOVE INITIAL MARGIN, FOR ENTERING INTO CONTRACTS FOR EQUITY INDEX / STOCK FUTURES, WHICH ARE RELEASED ON FINAL SETTLEMENT / SQUARING-UP OF UNDERLYING CONTRACTS, ARE DISCLOSED UNDER LOANS AND ADVANCES. (B) EQUITY INDEX / STOCK FUTURES ARE MARKED-TO-MARKET ON A DAILY BASIS. DEBIT OR CREDIT BALANCE DISCLOSED UNDER LOANS AND ADVANCES OR CURRENT LIABILITIES, RESPECTIVELY, IN THE MARK-TO- MARKET MARGIN EQUITY INDEX / STOCK FUTURES ACCOUNT, REPRESENTS THE NET AMOUNT PAID OR RECEIVED ON THE BASIS OF MOVEMENT IN THE PRICES OF INDEX / STOCK FUTURES TILL THE BALANCE SHEET DATE. AMOUNT PAID TO BROKERS IN ADDITION TO MARK-TO-MARKET MARGINS IS DISCLOSED AS MARGIN DEPOSITS UNDER LOANS AND ADVANCES. (C) AS ON THE BALANCE SHEET DATE, PROFIT / LOSS ON OPEN POSITIONS IN INDEX / STOCK FUTURES ARE ACCOUNTED FOR AS FOLLOWS: ITA NO: 5324/MUM/2007 7 CREDIT BALANCE IN THE MARK-TO- MARKET MARGIN EQUITY INDEX / STOCK FUTURES ACCOUNT, BEING ANTICIPATED PROFIT, IS IGNORED AND NO CREDIT FOR THE SAME IS TAKEN IN THE PROFIT AND LOSS ACCOUNT. DEBIT BALANCE IN THE MARK-TO-MARKET MARGIN EQUITY INDEX / STOCK FUTURES ACCOUNT, BEING ANTICIPATED LOSS, IS ADJUSTED IN THE PROFIT AND LOSS ACCOUNT. (D) ON FINAL SETTLEMENT OR SQUARING-UP OF CONTRACTS FOR EQUITY INDEX / STOCK FUTURES, THE PROFIT OR LOSS IS CALCULATED AS THE DIFFERENCE BETWEEN SETTLEMENT / SQUARING-UP PRICE AND CONTRACT PRICE. ACCORDINGLY, DEBIT OR CREDIT BALANCE PERTAINING TO THE SETTLED / SQUARED-UP CONTRACT IN MARK-TO-MARKET MARGIN EQUITY INDEX / STOCK FUTURES ACCOUNT IS RECOGNIZED IN THE PROFIT AND LOSS ACCOUNT. THE AFORESAID NOTE GIVES A FAIR PICTURE OF THE NATU RE OF THE PROVISION. THE PROVISION IN SUBSTANCE HAS BEEN MAD E TO COVER THE ANTICIPATED LOSS IN THE DERIVATES TRADING. THERE I S NO DISPUTE THAT THE ASSESSEE HOLDS DERIVATIVES AS ITS STOCK-IN-TRAD E AND THERE IS ALSO NO DISPUTE THAT IT FOLLOWS THE PRINCIPLE COST OR MARKET PRICE, WHICHEVER IS LOWER IN VALUING THE DERIVATIVES. WH EN THE DERIVATIVES ARE HELD AS STOCK-IN-TRADE THEN WHATEVER RULES APPL Y TO THE VALUATION OF STOCK-IN-TRADE WILL HAVE TO BE NECESSARILY APPLY TO THEIR VALUATION ALSO. IT IS A WELL SETTLED POSITION IN LAW THAT W HILE ANTICIPATED LOSS IS TAKEN INTO ACCOUNT IN VALUING THE CLOSING STOCK, AN TICIPATED PROFIT IN THE SHAPE OF APPRECIATED VALUE OF THE CLOSING STOCK IS NOT BROUGHT INTO THE ACCOUNT, AS NO PRUDENT TRADER WOULD CARE T O SHOW INCREASED PROFIT BEFORE ITS REALIZATION. THIS IS THE THEORY UNDERLYING THE RULE THAT THE CLOSING STOCK IS TO BE VALUED AT COST OR M ARKET PRICE ITA NO: 5324/MUM/2007 8 WHICHEVER IS THE LOWER, AND IT IS NOW GENERALLY ACC EPTED AS AN ESTABLISHED RULE OF COMMERCIAL PRACTICE AND ACCOUNT ANCY. THIS IS WHAT THE SUPREME COURT HELD IN THE CASE OF CHAINRUP SAMPATRAM VS. COMMISSIONER OF INCOME TAX, WEST BENGAL (1953) 24 ITR 481 (SC), SPEAKING THROUGH HONBLE JUSTICE PATANJALI SA STRI, THE THEN CHIEF JUSTICE OF INDIA (PAGE 485 486 OF THE REPOR T). AT PAGE 486 THE SUPREME COURT FURTHER OBSERVED THAT LOSS DUE T O A FALL IN PRICE BELOW COST IS ALLOWED EVEN IF SUCH LOSS HAS NOT BEE N ACTUALLY REALIZED. QUOTING FROM THE CASE OF WHIMSTER & CO. VS. COMMISSIONERS OF INLAND REVENUE (1926) 12 TAX CASES 813, THE SUPREME COURT OBSERVED THAT THE PROFITS THAT ARE CH ARGEABLE TO TAX ARE THOSE REALIZED IN THE YEAR AND THAT AN EXCEPTIO N IS RECOGNIZED WHERE A TRADER PURCHASED AND STILL HOLDS GOODS WHIC H ARE FALLEN IN VALUE IN WHICH CASE THOUGH NO LOSS HAS BEEN REALIZE D NOR IT HAS OCCURRED, NEVERTHELESS AT THE CLOSE OF THE YEAR HE IS PERMITTED TO TREAT THESE GOODS AS OF THEIR MARKET VALUE. THIS D ECISION OF THE SUPREME COURT GOVERNS THE FACTS OF THE PRESENT CASE . IT IS TO THE ASSESSEES STRENGTH THAT THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA IN ITS GUIDELINES HAVE ALSO APPROVED OF THE R ULE OF PRUDENCE WHICH REALLY MEANS THAT WHILE ANTICIPATED LOSSES CA N BE TAKEN NOTE OF WHILE VALUING THE CLOSING STOCK, ANTICIPATED PRO FITS CANNOT BE RECOGNIZED. THE ANTICIPATED LOSS, IN THE LIGHT OF THE JUDGMENT OF THE SUPREME COURT CITED ABOVE, CANNOT BE TREATED AS A C ONTINGENT LIABILITY. 8. THE LEARNED DR POINTED OUT THAT THE ASSESSEE HAS VALUED EACH SCRIP OF THE DERIVATIVES AS AT THE END OF THE YEAR. WE DO NOT ITA NO: 5324/MUM/2007 9 SEE HOW THIS CAN MAKE ANY DIFFERENCE TO THE LEGAL P RINCIPLE. IF THE DERIVATIVES HAVE BEEN TREATED AS STOCK-IN-TRADE THE N THERE IS NOTHING UNUSUAL IN THE ASSESSEE VALUING EACH DERIVA TIVE BY APPLYING THE RULE COST OR MARKET WHICHEVER IS LOWER. 9. WE, THEREFORE, DIRECT THE ASSESSING OFFICER TO A LLOW THE PROVISION AS REFLECTING IN SUBSTANCE THE LOSS ARISI NG ON ACCOUNT OF VALUATION OF THE CLOSING STOCK. THE GROUND IS ALLO WED. 10. IN THE RESULT, THE APPEAL OF THE ASSESSEE IS PA RTLY ALLOWED. ORDER PRONOUNCED IN THE OPEN COURT ON 10 TH NOVEMBER 2010. SD/- SD/- (R K PANDA) (R V EASWAR) ACCOUNTANT MEMBER PRESIDENT MUMBAI, DATED 10 TH NOVEMBER 2010 SALDANHA COPY TO: 1. EDELWEISS CAPITAL LTD. 14 TH FLOOR, EXPRESS TOWERS NARIMAN POINT, MUMBAI 400 021 2. ITO 3(1)(1) 3. CIT-3 4. CIT(A)-XXVIII 5. DR J BENCH TRUE COPY BY ORDER ASSTT. REGISTRAR, ITAT, MUMBAI