IN THE INCOME TAX APPELLATE TRIBUNAL AHMEDABAD I BENCH AHMEDABAD BEFORE SHRI S.S. GODARA, JM, & SHRI MANISH BORAD , AM. ITA NO. 79/AHD/2010 ASST. YEAR: 2002-03 LIQUID CONTROLS INDIA (P) LTD. 808, VCCI COMPLEX, GIDC MAKARPURA, BARODA. VS. ACIT, CIRCLE-1(2), BARODA. APPELLANT RESPONDENT PAN AAACL 3371J APPELLANT BY SHRI SANJAY R. SHAH, AR RESPONDENT BY SHRI S. K. DEV, SR.DR DATE OF HEARING: 7/9/2016 DATE OF PRONOUNCEMENT: 21/11/2016 O R D E R PER MANISH BORAD, ACCOUNTANT MEMBER . THIS APPEAL OF ASSESSEE IS DIRECTED AGAINST THE OR DER OF LD. CIT(A)-V, BARODA, DATED 30.10.2009 IN APPEAL NO.CAB (A)-V/86/07-08 PASSED AGAINST ORDER U/S 143(3) R.W.S. 147 OF THE I T ACT, 1961(IN SHORT THE ACT), FRAMED ON 31.12.2007 BY ACIT, CIR-1(2), B ARODA. 2. BRIEFLY STATED FACTS AS CULLED OUT FROM THE RECO RDS ARE THAT THE ASSESSEE IS A PRIVATE LIMITED COMPANY ENGAGED IN TH E BUSINESS OF MANUFACTURING FLOW METERS AND TRADING ACTIVITIES. R ETURN OF INCOME WAS FILED ON 31.10.2002 DECLARING TOTAL INCOME OF R S.15,77,591/- AND ASSESSMENT U/S 143(3) R.W.S. 147 OF THE ACT WAS FIN ALIZED ON 30 TH ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 2 MARCH, 2006 DETERMINING TOTAL INCOME AT RS.12,55,36 3. SUBSEQUENTLY, NOTICE U/S 148 WAS ISSUED ALONG WITH REASONS AGAINST WHICH ASSESSEE FILED LETTER DATED 1.12.2006 STATING THAT THE ORIGINAL RETURN FILED ON 31.10.2002 BE TREATED AS RETURN FIL ED IN RESPONSE TO NOTICE U/S 148 OF THE ACT. ACCORDINGLY RE-ASSESSMEN T U/S 143(3) R.W.S. 147 OF THE ACT WAS FINALIZED ON 31.12.2007 AT RS.94 ,33,166/- AFTER MAKING ADDITION OF RS.21,78,003/- TO THE PREVIOUSLY ASSESSED INCOME U/S 143(3) R.W.S. 148 OF THE ACT ON 31.3.2006. 3. IN APPEAL BEFORE THE FIRST APPELLATE AUTHORITY A SSESSEE PARTLY SUCCEEDED. AGGRIEVED, ASSESSEE IS NOW IN APPEAL BEF ORE THE TRIBUNAL RAISING VARIOUS GROUNDS. 4. GROUND NO.1 WHICH READS AS BELOW HAS NOT BEEN PR ESSED BY THE ASSESSEE AND, THEREFORE, THE SAME IS DISMISSED AS NOT PRESSED. 1. THE LEARNED COMMISSIONER OF INCOME TAX (APPEA LS) U CIT (A)' ERRED IN FACT AND IN LAW IN CONFIRMING THE ACTION OF THE AO IN RE OPENING THE ASSESSMENT BY INVOKING THE PROVISIONS OF SECTION 147 OF THE INCOM E TAX ACT, 1961 AND COMPLETING THE ASSESSMENT, COMMENCED UNDER INVALID AND IMPROPER EXERCISE OF POWERS U/S 147 OF THE ACT. 5. GROUND NO 2. READS AS FOLLOWS :- 2. THE LEARNED CIT (A) ERRED IN FACT AND IN LAW IN CON FIRMING THE ACTION OF THE AO IN HOLDING THAT THE FOLLOWING ITEMS OF INCOME AR E NOT DERIVED FROM INDUSTRIAL UNDERTAKING AND THEREFORE THE APPELLANT IS NOT ENTITLED TO DEDUCTION UNDER 80IB ON THESE ITEMS OF INCOME: PARTICULAR AMOUNT INTEREST ON MARGIN MONEY DEPOSIT 6,56,890 TOTAL 6,56,890 ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 3 6. AT THE OUTSET LD. AR SUBMITTED THAT THE ISSUE IN THIS GROUND IS AS TO WHETHER ASSESSEE IS ELIGIBLE FOR DE DUCTION U/S 80IB FOR INTEREST ON MARGIN MONEY ON FIXED DEPOSIT IS SQUARELY COVERED BY JUDGMENT OF HON. BOM. HIGH COUR T IN THE CASE OF CIT VS. JAGDISH PRASAD M. JOSHI 318 ITR 420 (BOM) WHEREIN IT HAS BEEN HELD THAT INTEREST FROM FIXED D EPOSIT IN BANK AND OTHER ARE INTEREST DERIVED FROM THE BUSINESS INDUST RIAL UNDERTAKING ARE ELIGIBLE FOR DEDUCTION U/S 80IA. 7. LD. DR COULD NOT CONTROVERT THE SUBMISSIONS MADE BY LD. AR. 8. WE HAVE HEARD THE RIVAL CONTENTIONS AND PERUSED THE RECORD PLACED BEFORE US. THROUGH THIS GROUND ASSESSEE HAS CHALLENGED THE ORDER OF LD. CIT(A) CONFIRMING THE ORDER OF ASSESSI NG OFFICER IN NOT ALLOWING DEDUCTION U/S 80IB OF THE ACT FOR INTEREST INCOME ON FIXED DEPOSIT GIVEN AS MARGIN MONEY TOWARDS LOAN/LIMIT TA KEN FROM THE BANK. BEFORE GOING FURTHER IT WILL BE RELEVANT TO G O THROUGH THE FINDING OF LD. CIT(A) WHEREIN HE HAS OBSERVED AS FOLLOWS :- 5.4 I HAVE CAREFULLY CONSIDERED THE FACTS OF THE CA SE, SUBMISSIONS OF THE APPELLANT AND THE ASSESSMENT ORDER. ANY INDUSTRIAL UNDERTAKING WHICH INVOLVES THE FOLLOWING ADDITIONS ARE ELIGIBLE FOR DEDUCTION U/S. 80IB. '(I) IT IS NOT FORMED BY SPLITTING UP OR THE RECONS TRUCTION OF A BUSINESS ALREADY IN EXISTENCE: PROVIDED THAT THIS CONDITION SHALL NOT APPLY IN RESPECT OF A N INDUSTRIAL UNDERTAKING WHICH IS FORMED AS A RESULT OF THE RE-ESTABLISHMENT , RECONSTRUCTION OR REVIVAL BY THE ASSESSEE OF THE BUSINESS OF ANY SUCH INDUSTRIAL UNDERTAKING AS IS REFERRED TO IN SECTION 33B, IN THE CIRCUMSTANCES AND WITHIN THE PERIOD SPECIFIED IN THAT SECTION; ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 4 (IT) IT IS NOT FORMED BY THE TRANSFER TO A NEW BU SINESS OF MACHINERY OR PLANT PREVIOUSLY USED FOR ANY PURPOSE. (ILL) IT MANUFACTURES OR PRODUCES ANY ARTICLE OR TH ING, NOT BEING ANY ARTICLE OR THING SPECIFIED IN THE LIST IN THE ELEVENTH SCHEDULE, OR OPERATES ONE OR MORE COLD STORAGE PLAT OR PLANTS, IN ANY PART OF INDIA: PROVIDED THAT THE CONDITION IN THIS CLAUSE SHALL, IN RELATIO N TO A SMALL SCALE INDUSTRIAL UNDERTAKING OR AN INDUSTRIAL UNDERTAKING REFERRED TO IN SUB-SECTION (4) SHALL APPLY AS IF THE WORDS ' NOT BEING ANY ARTICLE OR THING SPECIFIED IN THE LIST IN THE ELEVENTH SCHEDULE' HAD BEEN OMITTED. EXPLANATION L.-FOR THE PURPOSES OF CLAUSE (II) T ANY MACHINERY OR PLANT WHICH WAS USED OUTSIDE INDIA BY ANY PERSON OTHER THAT THE ASS ESSEE SHALL NOT BE REGARDED AS MACHINERY OR PLANT PREVIOUSLY USED FOR ANY PURPO SE, IF THE FOLLOWING CONDITIONS ARE FULFILLED, NAMELY:- (A) SUCH MACHINERY OR PLANT WAS NOT, AT ANY TIME PREVIOUS TO THE DATE OF THE INSTALLATION BY THE ASSESSEE, USED IN INDIA; (B) SUCH MACHINERY OR PLANT IS IMPORTED INTO IND IA FROM ANY COUNTRY OUTSIDE INDIA; AND (C) NO DEDUCTION ON ACCOUNT OF DEPRECIATION IN RESPECT OF SUCH MACHINERY OR PLANT HAS BEEN ALLOWED OR IS ALLOWABLE UNDER THE PR OVISIONS OF THIS ACT IN COMPUTING THE TOTAL INCOME OF ANY PERSON FOR ANY PE RIOD PRIOR TO THE DATE OF THE INSTALLATION OF THE MACHINERY OR PLANT BY THE ASSES SEE. EXPLANATION 2.- WHERE IN THE CASE OF AN INDUSTRIAL UNDERTAKING, ANY MACHINERY OR PLANT OR ANY PART THEREOF PREVIOUSLY USED FOR ANY P URPOSE IS TRANSFERRED TO A NEW BUSINESS AND THE TOTAL VALUE OF THE MACHINERY OR PL ANT OR PART SO TRANSFERRED DOES NOT EXCEED TWENTY PERCENT OF THE TOTAL VALUE OF THE MACHINERY OR PLANT USED IN THE BUSINESS THEN, FOR THE PURPOSES OF CLAUSE (II) OF T HIS SUB-SECTION, THE CONDITION SPECIFIED THEREIN SHALL BE DEEMED TO HAVE BEEN COMP LIED WITH; (IV) IN A CASE WHERE THE INDUSTRIAL UNDERTAKING MAN UFACTURERS OR PRODUCES ARTICLES OR THINGS, THE UNDERTAKING EMPLOYS TEN OR MORE WORK ERS IN A MANUFACTURING PROCESS CARRIED ON WITH THE AID OF POWER, OR EMPLOY S TWENTY OR MORE WORKERS IN A MANUFACTURING PROCESS CARRIED ON WITHOUT THE AID OF POWER, ' ; 5,4.1. APPARENTLY THE AO HAS DISALLOWED THE CLAIM U /S. 80IB ON THE GROUND THAT NO PRIMARY EVIDENCE HAD BEEN FURNISHED TO JUSTIFY T HE MANUFACTURING ACTIVITY. DURING THE COURSE OF SPOT VERIFICATION AT THE BUSIN ESS PREMISES, THE APPELLANT HAD MENTIONED THAT MANUFACTURING HAD COMMENCED W.E.F. 0 1/07/1993 AND ON THE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 5 BASIS OF THE VERIFICATION, THE DEPARTMENT DISALLOWE D THE CLAIM FOR A.Y. 2004-05 AS IT WAS 11 TH YEAR OF THE CLAIM. THE TAX AUDIT REPORT MENTIONED THAT THE ASSESSEE IS ENGAGED TO THE MANUFACTURING OF FLOW METERS AND TRADING ACTIVITIES. SIMILARLY, IN T HE AUDIT REPORT CLAUSE 28 WHICH IS ALSO RE-PRODUCED BY THE AO ON PAGE 5 OF THE ASSESSMENT ORDER, THE DETAILS OF ITEMS MANUFACTURED DURING THE WEAR AND THE RAW MATERIAL CONSUMED IS ALSO INDICATED. FURTHER, THE S TATEMENT BEFORE THE CENTRAL EXCISE REVEALS THAT THE MANUFACTURING ACTIVITY WAS GOING ON DURING THE ASSESSMENT YEAR. AS AGAINST THE AFORESAID DETAILS THE AO HAS NOT LED ANY POSITIVE EVIDENCE TO SUPPORT HIS ARGUMENT THAT NO M ANUFACTURING ACTIVITY WAS CARRIED OUT. HIS ARGUMENTS THAT THE VALUE OF PLAN T & MACHINERY IS TOO LOW IS NOT FIRMLY FOUNDED AS HE REFERRED TO WDV AND NOT THE HI STORICAL COST OF PLANT & MACHINERY, INACCURACY HAS ALSO CREPT IN THE ASSESSM ENT ORDER WHEN HE HAS ERRONEOUSLY MENTIONED AT PAGE 6 OF THE ORDER THAT A LL MANUFACTURING AND TRADING ACTIVITIES ARE PERFORMED BY LCIPL WHICH IS IN FACT THE APPELLANT. TO VIEW OF THESE FACTS THERE IS NO JUSTIFICATION FOR DENIAL OF CLAIM U/S. 80IB. AS REGARDS INCLUSION, OF CERTAIN ITEMS IN THE PROFIT, THE APPELLANT IS TO PROVIDE ALL THE DETAILS TO AO TO SHOW THAT FREIGHT AND PACKING AND FORWARDING CHARGE S AND INSURANCE INCOME WAS A PART OF THE BUSINESS RECEIPTS AND ALSO THERE WAS CORRESPONDING ENTRIES ON THE DEBIT SIDE OF THE P & L ACCOUNT. SIMILARLY DIVIDEN D INCOME AND INTEREST INCOME HAS TO BE EXCLUDED FOR THE PURPOSE OF SECTION 80IB. I AM ALSO PARTLY IN AGREEMENT WITH AO THAT THERE WAS SOME TRADING ACTIVITIES AS M ENTIONED IN THE AUDIT REPORT. THE ASSESSEE IS ASKED TO PROVIDE ALL NECESSARY DETA ILS FOR CLEAR BIFURCATION OF TRADING AND MANUFACTURING ACTIVITIES WITH ATTENDANT DETAILS OF INCOME AND ALLOCABLE EXPENSES, SO THAT ONLY THE MANUFACTURING PROFITS ARE ALLOWED FOR DEDUCTION U/S. 80IB. IN THE CASE OF KASHMIR ART VS . CIT 213 CTR 421 (DEL) IT IS HELD THAT INTEREST ON THE FDRS KEPT AS MARGIN MONEY IS NOT BUSINESS INCOME. THUS, THE SAME HAS TO BE EXCLUDED FOR THE PURPOSE O F 80IB DEDUCTION. GROUND NO. 2, 3 & 4 ARE PARTLY ALLOWED AND GROUND NO. 5 IS DISMISSED. 9. FROM GOING THROUGH THE FINDINGS OF LD. CIT(A) WE OBSERVE THAT ASSESSEE IS HAVING SOME TRADING ACTIVITIES ALSO ALO NG WITH MANUFACTURING AND LD. CIT(A) HAS DIRECTED THE ASSES SING OFFICER TO CARRY OUT NECESSARY VERIFICATION TO CALCULATE THE P ROFITS ATTRIBUTABLE TO THE MANUFACTURING ACTIVITIES ONLY WHICH ARE ELIGIBL E FOR DEDUCTION U/S 80IB OF THE ACT. AS REGARDS THE CLAIM OF ASSESSEE F OR ALLOWING DEDUCTION U/S 80IB FOR INTEREST ON FIXED DEPOSIT GI VEN AS MARGIN MONEY TOWARDS SECURED/CREDIT FROM BANK WE OBSERVE T HAT TO THE EXTENT IF THE INTEREST IS FROM SUCH FIXED DEPOSIT W HICH HAVE BEEN USED ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 6 TO GET THE WORKING LIMITS FROM BANK, JUDGMENT OF HO N. BOMBAY HIGH COURT IN THE CASE OF CIT VS. JAGDISHPRASAD M. JOSHI (SUPRA) IS SQUARELY APPLICABLE WHEREIN IT WAS HELD THAT PROFIT S AND GAINS DERIVED FROM THE BUSINESS OF THE INDUSTRIAL UNDERTAKING I NTEREST ON FIXED DEPOSITS FROM BANK AND OTHER INTEREST INCOME ARE EL IGIBLE FOR DEDUCTION U/S 80IA OF THE ACT. HOWEVER, FROM GOING THROUGH THE ASSESSMENT ORDER AND THE ORDER OF LD. CIT(A) WE OBS ERVE THAT ASSESSEE HAS NOT SUBSTANTIATED HIS CLAIM ALONG WITH NECESSARY EVIDENCES IN ORDER TO DEMONSTRATE THAT INTEREST INC OME EARNED ON FIXED DEPOSIT ARE WITH REGARD TO MARGIN MONEY. WE A RE, THEREFORE, OF THE VIEW THAT THE ISSUE NEEDS TO BE RESTORED TO THE FILE OF ASSESSING OFFICER TO CARRY OUT NECESSARY VERIFICATION WITH TH E SUPPORT OF DOCUMENTARY EVIDENCES TO BE PROVIDED BY ASSESSEE IN ORDER TO PROVE THAT FIXED DEPOSITS ON WHICH INTEREST INCOME HAS BE EN SHOWN ARE LINKED WITH MARGIN MONEY IN ORDER TO ENJOY SECURED LOAN/CREDIT LIMITS FROM BANKS. NEEDLESS TO MENTION THAT PROPER OPPORTU NITY OF BEING HEARD MAY BE GIVEN TO THE ASSESSEE. ACCORDINGLY, TH IS GROUND OF ASSESSEE IS ALLOWED FOR STATISTICAL PURPOSES. 10. GROUND NO.3 READS AS UNDER :- 3. THE LEARNED CIT (A) ERRED IN FACT IN CONF IRMING THE ACTION OF THE AO IN HOLDING THAT GROSS AMOUNT OF INTEREST IS REQUIRED TO BE EXC LUDED FROM THE PROFITS FOR THE PURPOSE OF COMPUTING DEDUCTION U/S 80IB AND NO DEDU CTION SHOULD BE GRANTED FOR EXPENSES INCURRED FOR EARNING THE SAID INCOME. 11. AT THE OUTSET LD. AR SUBMITTED THAT THE ISSUE R AISED IN THIS GROUND IS SQUARELY COVERED IN FAVOUR OF ASSESSEE BY THE JUDGMENT OF ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 7 HON. SUPREME COURT IN THE CASE OF ACG ASSOCIATED CA PSULES (P) LTD. VS. CIT (2012) 18 TAXMANN.COM 137 (SC) WHEREIN IT HAS BEEN HELD THAT NET AMOUNT OF INTEREST ONLY AND NOT GROSS AMOUNT SHOULD BE EXCLUDED FROM THE PROFITS FOR THE PURPOSE OF CALCUL ATING DEDUCTION U/S 80IB OF THE ACT. 12. LD. DR ON THE OTHER HAND RELIED ON THE ORDERS O F LOWER AUTHORITIES BUT COULD NOT CONTROVERT THE SUBMISSION S MADE BY LD. AR. 13. WE HAVE HEARD THE RIVAL CONTENTIONS AND PERUSED THE MATERIAL ON RECORD AND THE COPY OF THE JUDGMENT PLACED BEFOR E US. THROUGH THIS GROUND ASSESSEE HAS CHALLENGED THE ORDER OF LD . CIT(A) CONFIRMING THE ACTION OF CIT(A) IN HOLDING THAT GRO SS AMOUNT OF INTEREST IS REQUIRED TO BE EXCLUDED FROM THE PROFIT S FOR THE PURPOSE OF COMPUTING DEDUCTION U/S 80IB. WE FIND THAT LD. CIT( A) HAS ADJUDICATED THIS GROUND ALONG WITH GROUND NO.2 ABOV E IN HIS APPELLATE ORDER. IN THIS GROUND LIMITED ISSUE BEFORE US IS TH AT AS TO WHETHER GROSS INTEREST OR NET INTEREST IS TO BE EXCLUDED FR OM THE PROFITS FOR THE PURPOSE OF CALCULATING DEDUCTION U/S 80IB OF THE AC T. WE FIND THAT HON. SUPREME COURT IN THE CASE OF ACG ASSOCIATED CA PSULES (P) LTD. VS. CIT (SUPRA) WHILE ADJUDICATING THE ISSUE R ELATING TO DEDUCTION U/S 80HHC HAS HELD AS FOLLOWS :- EXPLANATION (BAA) TO SECTION 80 HHC STATES THAT 'PROFITS OF THE BUSIN ESS' MEANS THE PROFITS OF THE BUSINESS AS COMPUTED UNDER THE H EAD 'PROFITS AND GAINS OF BUSINESS OR PROFESSION' AS REDUCED BY THE RECEIPTS OF THE NATURE MENTIONED IN CLAUSES (1) AND (2) OF THE EXPLANATION (BAA). THUS, PROFITS OF THE BUSINESS OF AN ASSESSEE WILL HAVE TO BE FIRST COMPUTED UNDER THE H EAD 'PROFITS AND GAINS OF BUSINESS OR PROFESSION 1 IN ACCORDANCE WITH PROVISIONS OF SECTIONS 28 TO 44 D. IN THE COMPUTATION OF SUCH PROFITS OF BUSINESS, ALL RE CEIPTS OF INCOME, WHICH ARE CHARGEABLE AS PROFITS AND GAINS OF BUSINESS UNDER S ECTION 28, WILL HAVE TO BE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 8 INCLUDED SIMILARLY, IN COMPUTATION OF SUCH PROFITS OF BUSINESS, DIFFERENT EXPENSES WHICH ARE ALLOWABLE UNDER SECTIONS 30 TO 44D HAVE T O BE ALLOWED AS EXPENSES. AFTER INCLUDING SUCH RECEIPTS OF INCOME AND AFTER D EDUCTING SUCH EXPENSES, THE TOTAL OF THE NET RECEIPTS ARE PROFITS OF THE BUSINE SS OF THE ASSESSEE COMPUTED UNDER THE HEAD 'PROFITS AND GAINS OF BUSINESS OR PR OFESSION 1 FROM WHICH DEDUCTIONS ARE TO MADE UNDER CLAUSES (I) AND (2) O/EXPLANATION (BAA). [PARA 9] UNDER CLAUSE (I) O/EXPLANATION (BAA), NINETY PER CENT OF ANY RECEIPTS BY WAY OF BROKERAGE, COMMISSION, INTEREST, RENT, CHARGES OR A NY OTHER RECEIPT OF A SIMILAR NATURE INCLUDED IN ANY SUCH PROFITS ARE TO BE DEDUC TED FROM THE PROFITS OF THE BUSINESS AS COMPUTED UNDER THE HEAD 'PROFITS AND GA INS OF BUSINESS OR PROFESSION'. THE EXPRESSION 'INCLUDED ANY SUCH PROF ITS' IN CLAUSE (I) OF THE EXPLANATION (BAA) TO SECTION 80HHC WOULD MEAN ONLY SUCH RECEIPTS BY W AY OF BROKERAGE, COMMISSION, INTEREST, RENT, CHARGES OR A NY OTHER RECEIPT WHICH ARE INCLUDED IN THE PROFITS OF THE BUSINESS AS COMPUTED UNDER THE HEAD 'PROFITS AND GAINS OF BUSINESS OR PROFESSION'. THEREFORE, IF ANY QUANTUM OF THE RECEIPTS BY WAY OF BROKERAGE, COMMISSION, INTEREST, RENT, CHARG ES OR ANY OTHER RECEIPT OF A SIMILAR NATURE IS ALLOWED AS EXPENSES UNDER SECTION S 30 TO 44D AND IS NOT INCLUDED IN THE PROFITS OF BUSINESS AS COMPUTED UND ER THE HEAD 'PROFITS AND GAINS OF BUSINESS OR PROFESSION', NINETY PER CENT OF SUCH QUANTUM OF RECEIPTS CANNOT BE REDUCED UNDER CLAUSE (1) O/EXPLANATION (BAA) FROM THE PROFITS OF THE BUSINESS. IN OTHER WORDS, ONLY NINETY PER CENT OF THE NET AMOUNT OF ANY RECEIPT OF THE NATURE MENTIONED IN CLAUSE (I), WHICH IS ACTUALLY INCLUDED IN THE PROFITS OF THE ASSESSEE, IS TO BE DEDUCTED FROM THE PROFITS OF THE ASSESSEE FOR DETERMINING 'PROFITS OF THE BUSINESS OF THE ASSESSEE UNDER EXPLANATION (BAA) TO SECTION 80HHC. [PARA 10] EXPLANATION (BAA) HAS TO BE CONSTRUED ON ITS OWN LANGUAGE AND AS PER THE PLAIN NATURAL MEANING OF THE WORDS USED IN EXPLANATION (BAA), THE WORDS 'RECEIPTS BY WAY OF BROKERAGE, COMMISSION, INTEREST, RENT, CHARG ES OR ANY OTHER RECEIPT OF A SIMILAR NATURE INCLUDED IN SUCH PROFITS' WILL NOT O NLY REFER TO THE NATURE OF RECEIPTS BUT ALSO THE QUANTUM OF RECEIPTS INCLUDED IN THE PR OFITS OF THE BUSINESS AS COMPUTED UNDER THE HEAD 'PROFITS AND GAINS OF BUSIN ESS OR PROFESSION' REFERRED TO IN THE FIRST PART OF THE EXPLANATION (BAA). ACCORDINGLY, IF ANY QUANTUM OF ANY RECEIPT OF THE NATURE MENTIONED IN CLAUSE (1) O/EXPLANATION (BAA) HAS NOT BEEN INCLUDED IN THE PROFITS OF BUSINESS OF AN ASSESSEE AS COMPUTED UNDER THE HEAD 'PROFITS AND GAINS OF BUSINESS OR PROFESSION', NINE TY PER CENT OF SUCH QUANTUM OF THE RECEIPT CANNOT BE DEDUCTED UNDER EXPLANATION (BAA) TO SECTION 80HHC. [PARA 11] THEREFORE, IF THE RENT OR INTEREST IS A RECEIPT CHA RGEABLE AS PROFITS AND GAINS OF BUSINESS AND CHARGEABLE TO TAX UNDER SECTION 28, AND IF ANY QUANTUM OF THE RENT OR INTEREST OF THE ASSESSEE IS ALLOWABLE AS AN AS A N EXPENSES IN ACCORDANCE WITH SECTIONS 30 TO 44D AND IS NOT TO BE INCLUDED IN THE PROFITS OF THE BUSINESS O F THE ASSESSEE AS COMPUTED UNDER THE HEAD 'PROFITS AND GA INS OF BUSINESS OR PROFESSION', NINETY PER CENT OF SUCH QUANTUM OF THE RECEIPT OF RENT OR INTEREST WILL NOT BE DEDUCTED UNDER CLAUSE (1) O/EXPLANATION (BA A) TO SECTION 80HHC. IN OTHER ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 9 WORDS, NINETY PER CENT OF NOT THE GROSS RENT OR GRO SS INTEREST BUT ONLY THE NET INTEREST OR NET RENT, WHICH HAS BEEN INCLUDED IN TH E PROFITS OF BUSINESS OF THE ASSESSEE AS COMPUTED UNDER THE HEAD 'PROFITS AND GAINS OF BUSINESS OR PROFESSION', IS TO BE DEDUCTED UNDER CLAUSE '!' (EXPLANATION (BAA) TO SECTION 80HHC FOR DETERMINING THE PROFITS OF THE BUSINESS, [PARA 12] IN THE RESULT, THE APPEAL IS ALLOWED AND THE IMPUGNED ORDER OF THE HIGH COURT IS TO BE SET ASIDE. THE MATTER IS REMANDED TO THE ASSESSING OFFICER TO WORK OUT THE DEDUCTIONS FROM RENT AND INTEREST IN ACCORDANCE WIT H THIS JUDGMENT. [PARA 17] 14. RESPECTFULLY FOLLOWING THE JUDGMENT OF HON. SUP REME COURT IN THE ABOVE REFERRED CASE, WE ARE OF THE VIEW THAT NE T AMOUNT IS TO BE EXCLUDED FROM THE PROFITS FOR THE PURPOSE OF COMPUT ATION OF DEDUCTION U/S 80IB. ACCORDINGLY, THIS GROUND OF ASSESSEE IS A LLOWED. 15. GROUND NO.4 OF THE APPEAL READS AS UNDER :- 4. THE LEARNED C1T(A) ERRED IN FACT AND IN LAW IN C ONFIRMING IHE ACTION OL THE AO IN MAKING ADJUSTMENT U/S. 92C R.W.S 92(1) IN RESPECT O F INTERNATIONAL TRANSACTIONS AND THUS CONFIRMING ADDITION TO THE EXTENT OF RS. 15,28 ,587. 4.1 THE LEARNED CIT(A) ERRED IN FACT AND IN LA W IN CONFIRMING THE ACTION OF THE AO IN: (I) REJECTING THE REPORT IN FORM NO. 3CEB DE SPITE THE FACT THAT ALL THE FACTS AND FIGURES MENTIONED THEREIN WERE CORRECT. (II) IN COMPUTING THE ARM'S LENGTH PRICE OF THE IN TERNATIONAL TRANSACTIONS ON A BASIS DIFFERENT THAN THAT ADOPTED BY THE AUDITORS OF THE APPELLANT-COMPANY DESPITE THE FACT THAT THE AUDITORS HAD CORRECTLY COMPUTED A RM'S LENGTH PRICE AND HAD CERTIFIED THE SAME. (III) IN COMPUTING THE ARM'S LENGTH PRICE COMPL ETELY IGNORING PROVISIONS OF SECTION 92C(3) OF THE ACT. (IV) IN REJECTING THE COMPARABLE CASES WITHOUT G IVING PROPER REASONS FOR SUCH REJECTION. 4.2 THE LEARNED CIT(A) ERRED IN FACT AND IN L AW IN STATING THAT THE APPELLANT HAS NOT CHALLENGED THE INCLUSION OF DANIEL MEASUREMENTS AND CONTROL INDIA LTD. IN THE LIST OF COMPARABLES WHILE WORKING OUT THE COMPA RABLE OPERATING MARGIN. ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 10 4.3 THE LEARNED CIT(A) ERRED IN FACT AND IN LAW IN DETERMINING THE COMPARABLE OPERATING MARGIN AT 5.78 % INSTEAD OF 4.51 % WORKED OUT BY THE APPELLANT. 4.4 THE LEARNED CIT(A) ERRED IN FACT AND IN LA W CONFIRMING THE ACTION OF THE AO IN HOLDING THAT THE OPERATING MARGIN OF THE APPELLA NT IS 3.73 %, THOUGH IN EFFECT THE APPELLANT'S OPERATING MARGIN WORKED OUT TO 4.51 %. 4.5 THE LEARNED CIT(A) ERRED IN FACT AND IN LA W IN CONFIRMING THE ACTION OF THE AO IN NOT CONSIDERING THE OPTION EXERCISED BY THE APPE LLANT AS PROVIDED UNDER PROVISO TO SECTION 92C(2) OF THE ACT. THE CIT(A) FA ILED TO DIRECT THE AO NOT TO MAKE ANY ADDITION DESPITE THE FACT THAT THE ARM S, LENGTH PRICE AS WORKED OUT BY THE AO AND THAT WORKED OUT BY THE APPELLANT DID NOT EXCEED THE LIMIT OF 5 % AS STATED IN PROVISO TO SECTION 92C(2). 16. BRIEF FACTS IN RELATION TO THIS GROUND ARE THAT ASSESSEE ENTERED INTO INTERNATIONAL TRANSACTION COVERED BY SECTION 9 2B OF THE ACT WHICH IS SUPPORTED BY REPORT IN FORM 3CEB R.W.S.92E OF TH E ACT, AS PER THIS REPORT ASSESSEE ENTERED INTO INTERNATIONAL TRANSACT ION WITH ITS ASSOCIATED ENTERPRISE (AE) NAMELY- LIQUID CONTROLS INC.(LCI) WHICH IS HOLDING COMPANY HAVING 26% VOTING POWER IN ASSESSEE COMPANY AND IS ASSOCIATED ENTERPRISE IN TERMS OF CLAUSE (A) OF SECTION 92A(2). IT WILL BE WORTHWHILE TO DISCUSS THE PRODUCT IN WHICH ASSES SEE DEALS IN. THE ASSESSEE I.E. LCIPL DEALS IN HIGH ACCURACY CUSTODY TRANSFER LIQUID MEASUREMENT AND OIL DELIVERY EQUIPMENTS INCLUDING A IRCRAFT REFUELING, LPG DELIVERY EQUIPMENT WHICH ARE MANUFACTURED BY LI QUID CONTROL INC. OR LCIPL ITSELF. DURING THE COURSE OF ASSESSME NT PROCEEDINGS ASSESSEE SUBMITTED A REPORT ON TRANSFER PRICING STU DY OF LCIPL FOR FY 2001-02 DISCUSSING THE DETAILS RELATING TO THE SCOP E OF THIS STUDY, SUMMARY OF APPROACH, FRAME WORK OF TRANSFER PRICING REGULATIONS, OVER VIEW OF THE AE, COMPANY OVERVIEW, INDUSTRY SCENARIO , FUNCTIONAL ANALYSIS-OBJECTIVE, FUNCTIONS PERFORMED, RISKS ASSU MED, ASSETS EMPLOYED, ECONOMIC ANALYSIS AND CONCLUSION. AS PER THE REPLY OF ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 11 ASSESSEE DATED 16.3.2006 IN WHICH ASSESSEE HAS GIVE N THE BASIS OF SELECTING THE COMPARABLES AND THE OPERATING PROFIT MARGIN FOR CALCULATING ARMS LENGTH PRICE WITH REGARD TO FOLLOW ING INTERNATIONAL TRANSACTION ENTERED INTO WITH AE DURING THE YEAR UN DER APPEAL :- I) IMPORT OF COMPONENTS OF RS.10781520/- II) IMPORT OF FINISHED GOODS OF RS.14555120/- III) EXPORT OF FABRICATED ITEMS OF RS. 6436799/- IV) PAYMENT OF TECHNICAL CHARGES TO AE FOR DEPUTATION OF TECHNICAL KNOWHOW BY AE RS.1042 744/- 17. AS PER THE TRANSFER PRICING REPORT ASSESSEE HAS SHOWN THE OPERATING MARGIN PROFIT (O.P./SALES) AT 3.73% AS AG AINST AVERAGE OF OPERATING PROFIT MARGIN OF COMPARABLE COMPANIES AT (-) 1.95%) AND IT WAS CLAIMED BY ASSESSEE THAT NO ADJUSTMENT IS REQUI RED TO BE MADE FOR DETERMINING THE ARMS LENGTH PRICE (ALP) OF THE VARIOUS INTERNATIONAL TRANSACTION (I.T.). THEREAFTER LD. AS SESSING OFFICER CONFRONTED ASSESSEE AS TO WHY NOT THE INTERNATIONAL TRANSACTION SHOULD BE ADJUSTED TO HAVE AN OPERATING PROFIT/SALE S MARGIN AT 7.27% WHICH IS AN AVERAGE OF DANIEL MEASUREMENT AND CONTR OL (INDIA) LTD.(5.38%), BHARTIA INDUSTRIES LTD. (5.68%), INDFO S INDUSTRIES LTD. (6.28%) AND ROOP TELSONIC ULTRASONIX LTD.(11.75%). THESE FOUR COMPARABLES WERE TAKEN BY ASSESSING OFFICER OUT OF VARIOUS COMPARABLES TAKEN BY ASSESSEE WITH THE ONLY VARIATI ON THAT LD. ASSESSING OFFICER DID NOT TAKE THOSE COMPARABLES HA VING NEGATIVE OPERATIONS/SALES PERCENTAGE OR THE BUSINESS OF THE COMPARABLES WERE OF MUCH HIGHER MAGNITUDE AS COMPARED TO THAT OF ASS ESSEE. ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 12 18. IN RESPONSE TO THE SHOW CAUSE NOTICE FOR ADJUST ING INTERNATIONAL TRANSACTION AT 7.27% ASSESSEE OBJECTED THE OBSERVAT ION OF ASSESSING OFFICER FOR NOT PROVIDING WORKING ON THE BASIS OF W HICH OPERATING MARGIN HAS BEEN CALCULATED AND ALSO OBJECTED THAT B HARTIA INDUSTRIES LTD., INDFOS INDUSTRIES LTD. AND ROOP TELSONIC ULTR ASONIX LTD. WERE ENGAGED IN MANUFACTURING OF ITEMS OTHER THAN THOSE DEALT BY THE ASSESSEE. HOWEVER, ASSESSING OFFICER DISREGARDED TO THE CONTENTION OF ASSESSEE BY OBSERVING THAT THE LIST OF COMPARABL ES WERE PROVIDED BY ASSESSEE ITSELF AND BHARTIA INDUSTRIES LTD. IS DEALING IN ELECTRONIC DEVICES WHICH IS SIMILAR TO ASSESSEES PRODUCT & RO OP TELSONIC ULTRASONIX LTD. IS MANUFACTURING ELECTRONIC DEVICES TO MEASURE SPEED OF FLOW OF LIQUID CONTROL LEVEL, WHICH IS ALSO SIMI LAR TO THAT OF ASSESSEE. 19. LD. ASSESSING OFFICER FURTHER OBSERVED THAT FIL TERS SELECTED BY THE ASSESSEE TO CHOOSE COMPARABLES BY ELIMINATING A LL COMPANIES ENGAGED IN THE BUSINESS OTHER THAN MANUFACTURING IS INCORRECT AS THE ASSESSEE IS ENGAGED IN BOTH THE MANUFACTURING AND T RADING ACTIVITIES. ACCORDINGLY THE ASSESSING OFFICER APPLIED THE DIFFE RENCE OF THE AVERAGE OPERATING SALES RATIO OF 7.27% AS AGAINST O PERATING/SALES RATIO OF 3.73% SHOWN BY THE ASSESSEE AND APPLIED TH E DIFFERENCE OF 3.54% [7.27% (-) 3.73%] ON THE TOTAL TURNOVER OF T HE ASSESSEE AND MADE ADDITION OF RS.26,39,609/- TO THE ARMS LENGTH PRICE U/S 92C(3) OF THE ACT. 20. IN APPEAL BEFORE LD. CIT(A) CHALLENGING THE IMP UGNED ADDITION OF RS.26,39,608/- ASSESSEE ALSO CONTENDED THAT THE ARMS LENGTH PRICE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 13 CALCULATED BY LD. ASSESSING OFFICER IS NOT MORE TH AN 5% OF THE VALUE OF INTERNATIONAL TRANSACTION THEREBY LEAVING NO QUE STION TO EXERCISE THE OPTION OF SECTION 92C OF THE ACT AND ALSO APPEA LED THAT THE EXCESS OF OPERATING PROFIT/UPON SALES RATIO SHOULD HAVE BEEN APPLIED ONLY TO THE INTERNATIONAL TRANSACTION RATHER THAN T OTAL TURNOVER OF THE ASSESSEE. APART FROM THIS, ASSESSEE MADE FOLLOWING SUBMISSIONS BEFORE LD. CIT(A) AGAINST THE ADDITION MADE BY THE AO. I. THE AO HAS NEITHER ACCEPTED THE LIST OF COMP ARABLES AS PER ORIGINAL STUDY NOR HAS ACCEPTED THE LIST AS PER REV ISED STUDY. NO SPECIFIC REASON IS GIVEN FOR REJECTING MORE SCIENTI FIC ALTERNATE STUDY. THE AO HAS PRIMARILY GONE BY THE ORIGINAL ST UDY AND HAS MADE THE FOLLOWING ALTERATIONS IN THE LIST OF THE C OMPARABLES: A. EXCLUDED COMPANIES HAVING TURNOVER EXCEEDING RS. 100 CRORES ON THE GROUND OF SIZE, B. EXCLUDED TWO COMPANIES MERELY ON THE GROUND THAT THEY HAVE INCURRED LOSSES, C. EXCLUDED TWO COMPANIES (BELLS CONTROLS LTD. AND MAZDA COLOURS LTD.) DUE TO PRODUCT DISSIMILARITIES INCLUD ED COMPANY (DANIEL MANAGEMENT AND CONTROL INDIA PVT. LTD) THOU GH DATA THEREOF WAS NOT AVAILABLE IN PUBLIC DOMAIN. D. EXCLUSION ON THE GROUND OF SIZE WOULD BE RELEVANT, BUT IF IT HAS THE IMPACT OF REDUCING THE SAMPLE SIZE THEN CAUTION SHOULD BE EXERCISED FOR THE SAME. HOWEVER, THIS ISSUE IS MORE OR LESS ACADEMIC IN THE PRESENT CASE AS EVEN AFTER EXCLUDIN G THESE COMPARABLES THE AVERAGE PLI (PROFIT LEVEL INDICATOR ) WORKS OUT TO (-2.29%) I.E. LESS THAN WHAT WAS ADOPTED BY THE APPELLANT. II. THE AO EXCLUDED TWO COMPANIES I.E. BELLS CONTRO LS LTD. AND JYOTI LTD. MERELY BECAUSE THESE COMPANIES ARE INCURRING L OSSES. IT IS ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 14 SUBMITTED THAT MERELY BECAUSE SOME COMPANIES ARE MA KING LOSSES DOES NOT REQUIRE EXCLUSION OF A COMPARABLE C ASE UNLESS IT IS SHOWN BY EXPLICIT EVIDENCE THAT THE LOSSES HAVE AFFECTED PERFORMANCE. FURTHER, FOR WORKING OUT PLI, THE LAW REQUIRES AVERAGE OF THE PLI OF ALL COMPARABLE USED AND NO EX CLUSION IS PERMITTED IN WORKING OUT THE AVERAGES. ATTENTION IS INVITED TO PROVISO TO SECTION 92C(2) WHICH MANDATES TAKING THE ARITHMETIC MEAN BUT DOES NOT PERMIT ANY CASES OF EXCLUSION. IT IS SUBMITTED THAT THE EXCLUSIONS DONE BY AO ON THE GROUND OF LOS SES IS NOT MANDATED BY LAW ON THIS POINT. ILL. THE AO HAS FURTHER EXCLUDED 3 COMPARABLES ON UNSUSTAINABLE GROUND OF NON COMPARABILITY OF THE PRODUCT RANGES. THE AO HAS HOWEVER NOT APPLIED THIS GROUND THOROUGHLY IN A SEN SE THAT HE HAS NOT ELIMINATED BHARTIA INDUSTRIES LTD. (ENGAGED IN MANUFACTURING OF MOTOR CONTROL GEARS), INDFOS INDUSTRIES LTD. (EN GAGED IN MANUFACTURING OF HYDRAULIC SYSTEMS AND ALSO PRESSUR E AND TEMPERATURE CONTROLLERS) AND ALSO ROOP TELSONIC ULT RASONLX LTD.. (DEALING IN ACCESSORIES TO AMPLIFIER, ULTRASONIC CL EANER AND ALSO IN ULTRASONIC PLASTIC WELDING MACHINES.) IV. RATHER THAN FOLLOWING SYSTEMATIC BASE, THE AO H AS ALREADY ADOPTED SELECTIVE APPROACH TO IDENTIFY COMPARABLES AS IT IS REVEALED FROM WIDE VARIATION IN THE PLI OF FOUR COM PARABLES ARRIVED BY THE AO. V. TOTAL TRANSACTIONS WITH ASSOCIATE ENTERPRISE DO NOT EXCEED EVEN 20% OF TOTAL AMOUNT OF SIMILAR TRANSACTION. IN SUCH A SITUATION IF ADDITION IS MADE IN THE MANNER AS LAID IN THE ORDER THEN SUCH ADDITION WOULD EXCEED EVEN GROSS TAXABLE COME OFFER ED BY THE APPELLANT. 21. LD. CIT(A) OBSERVED THAT OUT OF THE FOUR SURVIV ING SET OF COMPARABLES ARE BHARTIA INDUSTRIES LTD. 5.68%, INDF OS INDUSTRIES LTD. 6.28%, DANIEL MEASUREMENT 5.38% AND ROOP TELSONIC 1 1.75% REJECTED ROOP TELSONIC ULTRASONIC LTD. 11.75% OPERA TING MARGIN (BEING MUCH HIGHER) AND ACCEPTED THE REMAINING THRE E AS WERE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 15 HAVING THE OPERATING MARGIN BETWEEN 5.68% TO 5.38% AND ON AVERAGE TOOK THE PERCENTAGE OF 5.78% AS AGAINST THE ASSESSEES MARGIN OF 3.73% AND ACCORDINGLY AFTER APPLYING THE DIFFERENCE OF 2.05% IN THE TOTAL SALES SUSTAINED ADDITION OF RS.1 5,28,582/- BY OBSERVING AS FOLLOWS :- 6.3. I HAVE CAREFULLY CONSIDERED THE FACTS OF THE CASE AND THE SUBMISSIONS OF THE APPELLANT. FOR DETERMINATION OF ARM'S LENGTH PRICE THE APPELLANT HAD PROVIDED SET OF COMPARABLES FROM 11 COMPANIES USING THE 'PROWESS ' DATA BASE. THE AO ALSO PROPOSED A COMPARABLE CASE OF DANIEL MEASUREMENT AN D CONTROL INDIA PVT. LTD. (ADJUSTED OP/SALE OF 5.38%). THE AO SOUGHT TO DISRE GARD 8 OF THE 11 CASES ON THE GROUND OF HIGHER TURN OVER AND NEGATIVE OPERATI NG PROFITS. IN RESPONSE TO THE SHOW CAUSE THE APPELLANT ARGUED THAT COMPANY SUCH A S BHARTIA INDUSTRIES LTD., INDFOS INDUSTRIES LTD., ROOP TELSONIC ULTRASONIC LI MITED ARE DEALING IN COMPLETELY DIFFERENT PRODUCTS AND THUS THESE COMPANIES CANNOT, BE COMPARABLE CASES ON LACK OF FUNCTIONAL SIMILARITY GROUND. IT IS ALSO PO INTED OUT BY THE APPELLANT THAT THE ONLY COMPANY WHICH WAS TRULY SIMILAR TO THE APPELLA NT WAS FMC SANMAR INDS. LTD. BUT IT INCURRED TOSSES DURING THE YEAR. THE AO HAS HOWEVER, POINTED OUT THAT BHARTIA INDUSTRIES LTD., IS ENGAGED IN MANUFACTURE OF ELECTRONIC CONTROL DEVICES AND INDFOS IS IN THE BUSINESS OF HYDRAULIC SYSTEMS AND CONTROL PANELS AND ROOP TELSONIC IS DEALING IN LIQUID LEVEL CONTROLLERS. TH E AO FURTHER ELIMINATED COMPANIES HAVING TURN OVER MORE THAN 100 CRORES AS THE APPELLANT'S TURN OVER WAS AROUND 7.5 CRORES. FURTHER, THE COMPANIES WITH NEGATIVE MARGIN SUCH BELL CONTROLS LTD. AND JYOTI. LTD., WERE TAKEN OUT OF CO NTENTION AS THESE WERE DEALING IN ANCILLARY ITEMS AND NON FERROUS CASTINGS RESPECT IVELY AND ARE NOT SIMILAR TO APPELLANT'S PRODUCTS. I AM IN AGREEMENT WITH THE CR ITERIAS ADOPTED BY THE AO FOR SHORT LISTING THE SET OF COMPARABLES. THE COMPANIES WITH MUCH HIGHER TURN OVER I.E. >100 CRORES ENCOUNTER DIFFERENT SET OF RISK FA CTORS AND OPERATIONAL LOGISTICS AS COMPARED TO THE APPELLANT I.E. IN THE RANGE OF <10 CRORES. FURTHER, LOSS MAKING COMPANIES ALSO CANNOT BE THE RIGHT COMPARABLES. THE APPELLANT NOT QUESTIONED THE INCLUSION OF DANIEL MEASUREMENTS AND CONTROLLQD LA_LTD. F IN THE LIST OF COMPARABLE. ON THIS BASIS THE SURVIVING SET OF CO MPANIES ARE: NAME OP/SALES BHARTIA INDUSTRIES LTD. 5.68 INDFOS INDUSTRIES LTD. 6.28 DANIEL MEASUREMENT 5.38 ROOP TELSONIC 11.75 6.3.1. IT IS NOTICED FROM ABOVE THAT 3 OF THE 4 COM PARABLES ARE CLOSELY BUNCHED IN THE OP/SALES RATIO OF 5.3 - 6.3% AND IN MY VIEW THI S BAND REPRESENTS THE MOST PROBABLE OP/SALES MARGIN FOR COMPARISON WITH THE AP PELLANT CASE. THE AVERAGE RATIO OF THE RELEVANT GROUP IS 5.78% AND AS AGAINST THAT THE APPELLANT MARGIN IS ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 16 3.73%. ACCORDINGLY, THE ADDITION TO THE EXTENT OF D IFFERENCE OF 2.05% ON THE TOTAL SALE OF ABOUT RS.7.4565 CRORES IS RS.15,28,582/- IS CONFIRMED. GROUND NO.6 IS PARTLY ALLOWED. 22. AGGRIEVED, ASSESSEE IS NOW IN APPEAL BEFORE THE TRIBUNAL. 23. LD. AR SUBMITTED THAT ASSESSEE COMPANY WHICH IS ENGAGED IN THE BUSINESS OF MANUFACTURING AND SALE OF POSITIVE DISPLACEMENT MASS FLOW METERS, PUMPS AND TURBINE IS 100% SUBSIDI ARY COMPANY OF LIQUID CONTROLS INC. INCORPORATED IN USA (LCI) AND PART OF IDEX CORPORATION GROUP WHICH HAS SUBSTANTIAL EXPERIENCE, KNOW-HOW AND MARKET PRESENCE, THE MANUFACTURER OF POSITIVE DISPL ACEMENT , MASS FLOW METERS, TURBINE AND PUMPS ETC., ASSESSEE I.E. LCIPL HAS ENTERED INTO CROSS BORDER TRANSACTIONS WITH THE LCI WITH REGARD TO IMPORT OF COMPONENTS AND FINISHED GOODS FROM LCI, E XPORT OF FABRICATED ITEMS TO LCI AND PAYMENT OF TECHNICAL CH ARGES TO TECHNICIANS OF LCI. LD. AR ALSO DISCUSSED ABOUT THE OWNERSHIP STRUCTURE , OVERVIEW OF THE ASSOCIATED ENTERPRISE, INDUSTRIAL SCENARIO, FUNCTIONAL ANALYSIS ALONG WITH OBJECTS, FUNCTIONS P ERFORMANCE, RISKS ASSUMED, ASSETS EMPLOYMENT AND ITS CHARACTERIZATION . SUBMISSIONS HAVE ALSO BEEN MADE WITH REGARD TO ANALYSIS VIS--V IS MAPPING OF INTERNATIONAL TRANSACTION SELECTION OF MOST APPROPR IATE METHOD FOR CALCULATING ARMS LENGTH PRICE AND THE REASONS FOR A PPLYING TRANSACTION NET MARGIN METHOD AS A MOST APPROPRIATE METHOD WITH REGARD TO THE FACTS OF THE CASE. ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 17 24. LD. AR FURTHER SUBMITTED THAT NET OPERATING PRO FIT MARGIN OF THE SALES MARGIN WHICH WAS CALCULATED BY ASSESSEE AT 3. 73% SHOULD BE SUBSTITUTED BY THE REVISED CALCULATION OF OPERATING MARGIN OF 4.51% WITH REGARD TO TECHNICAL CHARGES PAYMENT OF RS 10,42,740/- TO AE IT IS STATED THAT THE SAID PAYMENT PERTAINS TO REIMBUR SEMENT OF EXPENDITURE INCURRED BY THE TECHNICAL PERSONNEL DEP UTED BY THE AE ON THE REQUEST OF THE ASSESSEE AND WHILE APPLYING T NMM METHOD THE ABOVE HAS ALREADY BEEN CONSIDERED WHILE DERIVING TH E OPERATING MARGIN BY THE ASSESSEE. 25. LD. AR FURTHER SUBMITTED THAT LD. CIT(A) ERRED IN CONFIRMING THE ACTION OF ASSESSING OFFICER FOR APPLYING DIFFERENTI AL NET OPERATING PROFIT MARGIN OF TOTAL TURNOVER RATHER THAN ON INTERNATION AL TRANSACTION. IN SUPPORT OF HIS CONTENTION LD. AR RELIED ON THE FOLL OWING JUDGMENT/DECISIONS :- 1. CIT VS. RATILAL BECHARLAL & SONS (2016) 65 TAXMA NN.COM 155 (BOMBAY) 2. ITA NO.736/MUM/2012 FOR ASST. YEAR 2008-09 IN TH E CASE OF PHOENIX MECANO (INDIA) P. LTD. VS. ITO 3. ITA NO.6183/DEL/2012 FOR ASST. YEAR 2008-09 IN T HE CASE OF CHRYS CAPITAL INVESTMENT ADVISORS INDIA P. LTD. VS. DCIT 4. ITA NO.2073/MUM/2010 FOR ASST. YEAR 2004-05 IN T HE CASE OF ACIT VS. M/S FROST & SULLIVAN (I) P. LTD. LD. AR ALSO REFERRED TO THE CBDT INSTRUCTIONS DATED 20 TH MAY, 2003 ON TRANSFER PRICING GUIDELINES ALONG WITH A CHART S HOWING THAT EVEN AFTER CONSIDERING THE ADDITIONS SUSTAINED BY CIT(A) IN TRANSFER PRICING ADJUSTMENT THE SAME FALLS IN THE SAFE HARBOR RULES OF + (-) 5%. IN RESPECT OF HIS CONTENTION FOLLOWING CALCULATION ON APPLICABILITY OF SAFE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 18 HARBOR RULES HAS BEEN PLACED AT PAGE 97 OF THE PAPE R BOOK WHICH IS AS UNDER :- OPTION 1 OPTION 2 INTERNATIONAL TRANSACTION (RS. IN CRORES) A 3.28 3.17 ASSESSEE'S MARGIN (% OF SALES) B 3.73% 3.73% AO'S MARGIN (% OF SALES) C 7.27% 7.27% DIFFERENCE TO BE ADDED TO INCOME OF ASSESSEE D=C-B 3.54% 3.54% ALP @ 103.54% (RS. IN CRORES) E=A+(A*D) 3.40 3.28 95% OF ALP (RS. IN CRORES) F=E*95% 3.23 3.12 105% OF ALP (RS. IN CRORES) G=E*105% 3.57 3.45 VALUE OF INTERNATIONAL TRANSACTION IS WITHIN RANGE OF +5% 3.28 3.17 26. ON THE OTHER HAND, LD. DR VEHEMENTLY ARGUED AND SUPPORTED THE ORDERS OF LOWER AUTHORITIES AND ALSO TO THE WOR KING OF LD. CIT(A). LD. DR SUBMITTED THAT THE APPEAL OF THE DEPARTMENT HAS ALREADY BEEN DISMISSED DUE TO LOW TAX EFFECT AND SUBMITTED THAT POWER OF TPO TO SELECT COMPARABLES IS NOT LIMITED TO THE DOCUMENT B UT HAS ALSO THE POWER TO OTHER SOURCE IN ORDER TO FIND OUT THE COM PARABLES AND URGED URGE THAT THE ORDER OF LD. CIT(A) SHOULD BE UPHELD. 27. WE HAVE HEARD THE RIVAL CONTENTIONS AND PERUSED THE RECORD PLACED BEFORE US. ASSESSEE IS AGGRIEVED WITH THE AC TION OF LD. CIT(A) SUSTAINING THE ADDITION OF RS.15,28,552/- U/S 92C(3 ) OF THE ACT. WE DO NOT CONSIDER TO REITERATE THE FACTS DISCUSSED ABOVE , BUT BRIEFLY WE OBSERVE THAT FOLLOWING TRANSACTIONS WERE ENTERED IN TO BY THE ASSESSEE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 19 I.E. LCIPL AS ITS ASSOCIATED ENTERPRISE, LIQUIDITY CONTROL INC (LCI), USA I) IMPORT OF COMPONENTS OF RS.10781520/- II) IMPORT OF FINISHED GOODS OF RS.14555120/- III) EXPORT OF FABRICATED ITEMS OF RS. 6436799/- IV) PAYMENT OF TECHNICAL CHARGES TO AE FOR DEPUTATION OF TECHNICAL KNOWHOW BY AE RS.10,4 2,744/- WE OBSERVE THAT DURING THE COURSE OF ASSESSMENT PRO CEEDINGS ASSESSEE HAS REPORTED AN OPERATING PROFIT MARGIN OF 3.73% WHICH WAS LATER ON REVISED TO 4.51% VIDE LETTER DATED 16. 3.2006 SHOWING ALTERNATIVE SELECTION PROCESS FOR COMPARABLES. AS A GAINST THIS, LD. ASSESSING OFFICER CALCULATED AN AVERAGE OPERATING P ROFIT MARGIN AT 7.27% TAKING FOUR COMPARABLES NAMELY - NAME OP/SALES BHARTIA INDUSTRIES LTD. 5.68% INDFOS INDUSTRIES LTD. 6.28% DANIEL MEASUREMENT 5.38% ROOP TELSONIC 11.75% WHEN THE MATTER CAME UP BEFORE LD. CIT(A) OUT OF FO UR COMPARABLES TAKEN BY ASSESSING OFFICER, LD. CIT(A) REJECTED ROO P TELSONIC HAVING 11.75% OPERATIVE MARGIN BY TAKING A VIEW THAT REMAI NING THREE REPRESENT MOST PROBABLE OPERATING AND SALES MARGIN FOR COMPARABLE ASSESSEES CASE AND ACCORDINGLY CALCULATED THE AVER AGE RATIO OF 5.78%. 28. WE FURTHER OBSERVE THAT THE DIFFERENCE OF OPERA TING PROFIT MARGIN HAS BEEN APPLIED ON THE TOTAL SALES TURNOVER BY LD. ASSESSING OFFICER ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 20 AS WELL AS LD. CIT(A) WHEREIN IT HAS BEEN URGED BY ASSESSEE THAT IN VIEW OF VARIOUS JUDICIAL PRONOUNCEMENTS IT HAS BEEN CONSISTENTLY HELD THAT DIFFERENTIAL OPERATING MARGIN SHOULD BE APPLIE D ONLY TO THE INTERNATIONAL TRANSACTION TAKEN PLACE WITH ASSOCIAT ED ENTERPRISE RATHER THAN ON THE TOTAL TURNOVER OF THE ASSESSEE. WE FURTHER OBSERVE THAT AS PER REVISED WORKING GIVEN BY ASSESSEE THE O PERATING PROFIT MARGIN HAS BEEN CALCULATED AT 4.51% BY MAKING FOLLO WING CALCULATION:- COMPUTATION OF OPERATING MARGIN OF THE ASSESSEE: PARTICULARS AMOUNT (RS.) PROFIT AFTER TAX ADD: INTEREST & FINANCE CHARGES ADD: PROVISION FOR TAXATION LESS: PRIOR PERIOD ADJUSTMENTS (NET) LESS: INTEREST INCOME 1,468,777 2,290,723 3,759,500 575,000 4,334,500 314,686 4,019,814 656,890 OPERA TING MARGINI 3,362,924 SALES 74,565,221 OPERATING MARGIN (%) 4.51% 29. AS AGAINST THE REVISED OPERATIVE MARGIN OF 4.51 % LD. CIT(A) HAS UPHELD 5.78%. ON GOING THROUGH THE THREE COMPARABLE S OF WHICH OPERATING PROFIT MARGIN HAS BEEN TAKEN BY CIT(A), W E FIND THAT BHARTIA INDUSTRIES LTD. IS ENGAGED IN THE BUSINESS OF ELECT RONIC DEVICE, INDFOS INDUSTRIES LTD. IS MANUFACTURING OF HYDRAULIC SYSTEMS AND ALSO ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 21 PRESSURE AND TEMPERATURE CONTROLLERS AND SO IS DENI AL MEASUREMENT LTD. WE ALSO OBSERVE THAT DURING THE COURSE OF ASSE SSMENT IN THE LIST OF COMPARABLES GIVEN BY ASSESSEE IT HAS ITSELF INCLUDE D BHARTIA INDUSTRIES LTD. FURTHER NO OBJECTION HAS BEEN RAISED BEFORE TH E LOWER AUTHORITIES AGAINST THE INCLUSION OF DANIAL MEASUREMENT LTD. WE ARE, THEREFORE, OF THE VIEW THAT TO THE EXTENT OF SELECTION OF COMP ARABLE WE UPHELD THE DECISION OF LD. CIT(A) FOR TAKING THREE COMPANI ES BHARTIA INDUSTRIES LTD., INDFOS INDUSTRIES LTD. & DANIAL M EASUREMENT LTD. HAVING AVERAGE OPERATING PROFIT/SALES MARGIN OF 5.7 8%. NOW THE ISSUE AS TO WHETHER DIFFERENTIAL OPERATING PROFIT MARGIN WHICH IS IN THIS CASE IS 2.05% IS TO BE APPLIED ON THE TOTAL TURNOVER OF ASSESSEE OR SHOULD BE RESTRICTED ONLY TO THE INTERNATIONAL TRANSACTION S TAKEN PLACE WITH THE ASSOCIATED ENTERPRISE. WE FIND HON. BOMBAY HIGH COURT IN THE CASE OF CIT VS. RATILAL BECHARLAL & SONS (SUPRA) HA S HELD THAT ADJUSTMENT ARISING OUT OF ARMS LENGTH PRICE (ALP) HAS TO BE RESTRICTED TO ONLY INTERNATIONAL TRANSACTIONS WITH ASSOCIATED ENTERPRISE INSTEAD OF ENTIRE TURNOVER OF ASSESSEE. RELEVANT PO RTION OF THE JUDGMENT OF HON.HIGH COURT IS REPRODUCED BELOW :- 2. THE REVENUE URGES THE FOLLOWING QUESTIONS OF LAW FOR OUR CONSIDERATION:- '(I) WHETHER ON THE FACTS AND IN THE CIRCUMSTA NCES OF THE CASE AND IN LAW, THE TRIBUNAL WAS RIGHT IN HOLDING THAT THE ADJUSTMENT A RISING OUT OF THE ARM'S LENGTH PRICE (ALP) IS TO BE RESTRICTED TO ONLY INTE RNATIONAL TRANSACTIONS WITH THE ASSOCIATED ENTERPRISE INSTEAD OF ENTIRE TU RNOVER OF THE ASSESSEE ? (II) WHETHER ON THE FACTS AND IN THE CIRCUMSTA NCES OF THE CASE AND IN LAW, THE ORDER OF THE TRIBUNAL IS NOT PERVERSE IN VIEW OF TH E FACT THAT CONSIDERING THE MEAN MARGIN FIGURE OF 5.34% AS ADOPTED BY THE TRIBU NAL, THE ALP DETERMINED BY THE TPO IS RS.53,68,52,698/- WHEREAS IN PARA 12 OF ITS ORDER, THE TRIBUNAL STATES THAT THE ALP OF AE SALES AS COMPUTED BY THE TPO AFTER APPLYING 5.34% COMES TO RS.50,20,74,010/- AND ASSESSEE'S ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 22 SALES TO AE IS RS.49,81,00,499/- AND THERE IS THUS DISPARITY IN THE FIGURES ARRIVED AT THOUGH THE PIL VALUE OF 5.34% FOR BOTH T HE TPO AND TRIBUNAL REMAIN THE SAME AND THAT THERE IS NO BASIS FOR ITS CONCLUSIONS BASED ON THE COMPUTATION FIGURES SO DERIVED?'. 3. RE.:- QUESTION NO.(I) (A) DURING THE SUBJECT ASSESSMENT YEAR, THE RES PONDENT ASSESSEE HAD BOTH DOMESTIC AND INTERNATIONAL TRANSACTIONS INCLUDING T RANSACTIONS WITH ASSOCIATED ENTERPRISES OVER AND ABOVE TRANSACTION W ITH INDEPENDENT THIRD PARTIES. (B) THE TRIBUNAL BY THE IMPUGNED ORDER REJECTED THE REV ENUE'S CONTENTION THAT THE ADJUSTMENT ARISING OUT OF THE ARM'S LENGTH PRIC E (ALP) HAS TO BE MADE TO THE ENTIRE TURNOVER OF THE RESPONDENT ASSESSEE I NSTEAD OF RESTRICTING THE SAME ONLY TO THE INTERNATIONAL TRANSACTIONS ENT ERED INTO BY THE RESPONDENT ASSESSEE WITH ITS ASSOCIATED ENTERPRISES. THE TRIBU NAL BY THE IMPUGNED ORDER NEGATIVED THE CONTENTION AS THE SAME IS CONTR ARY TO THE CLEAR MANDATE FOR SECTION 92 OF THE ACT, WHICH PERMITS TA XATION ONLY OF INCOME ARISING FROM INTERNATIONAL TRANSACTIONS HAVING REGA RD TO ITS ALP. (C) THE REVENUE BEING AGGRIEVED SUBMITS THAT T HE ADJUSTMENT HAS TO BE MADE ON THE ENTIRE UNIVERSE OF TRANSACTIONS ENTERED INTO BY THE RESPONDENT ASSESSEE AND NOT RESTRICTED ONLY TO ITS INTERNATION AL TRANSACTIONS WITH ASSOCIATED ENTERPRISE. IN SUPPORT, RELIANCE WAS PLA CED UPON THE FACT THAT TWO APPEALS FILED BY THE REVENUE BEING INCOME TAX A PPEAL NO.298 OF 2013 (THE COMMISSIONER OF INCOME-TAX V. SUPER DIAMONDS) AND INCOME TAX APPEAL NO.2068 OF 2011 (THE COMMISSIONER OF INCOME TAX V. ANKIT DIAMONDS) RAISING A SIMILAR ISSUE HAVE BEEN ADMITTED ON 5TH M AY, 2014 AND 16TH FEBRUARY, 2015 RESPECTIVELY. ON THE OTHER HAND, THE RESPONDENT ASSESSEE INVITES OUR ATTENTION TO THE DECISION OF T HIS COURT IN C/7' V. TARA JEWELS EXPORTS (P.) LTD. [INCOME TAX APPEAL NO. 1814 OF 2013, DECIDED ON 5TH OCTOBER, 2013] AND C/7~V. KEIHIN PANALFA LTD. IN ITA NO, 11 OF 2015 DECIDED ON 9TH SEPTEMBER, 2015, WHEREIN THE VI EW TAKEN BY THE TRIBUNAL IN THE IMPUGNED ORDER HAS BEEN APPROVED. (D) CHAPTER X OF THE ACT INTER ALIA DEALS WITH COMPUTATION OF INCOME FROM INTERNATIONAL TRANSACTIONS HAVING REGARD TO THE ALP . SECTION 92 THEREOF SPECIFICALLY BRINGS TO CHARGE INCOME ARISING FROM I NTERNATIONAL TRANSACTIONS WITH AN ASSOCIATED ENTERPRISE TO TAX O N COMPUTATION OF INCOME HAVING REGARD TO THE ALP OF THE TRANSACTIONS ENTERED INTO BETWEEN THE ASSOCIATED ENTERPRISES, AS THE HEADING OF CHAPT ER X ITSELF INDICATES THAT THESE ARE SPECIAL PROVISIONS RELATING TO AVOID ANCE OF TAX AND THE MANDATE IS TO ENSURE ADJUSTMENT IN RESPECT OF THE I NTERNATIONAL TRANSACTIONS WITH ASSOCIATED ENTERPRISE OR SPECIFIE D DOMESTIC TRANSACTION ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 23 ON THE DETERMINATION OF ALP. IT DOES NOT ALLOW ADJU STMENT OF THE INCOME ON THE BASIS OF DETERMINING OF ALP IN RESPECT OF AL L THE ASSESSEE'S TRANSACTIONS. IF THE CONTENTION OF THE REVENUE IS T O BE ACCEPTED, IT WOULD RESULT IN TAXING NON-EXISTING INCOME/PROFITS OF TRA NSACTIONS ENTERED INTO BETWEEN THE RESPONDENT ASSESSEE AND INDEPENDENT THI RD PARTIES. THIS IN THE PRESENT FACT, EVEN IN THE ABSENCE OF AN ALLEGAT ION THAT THE TRANSACTIONS WITH PARTIES OTHER THAN ASSOCIATED ENTERPRISE IS NO T AT ALP. THE TRANSACTIONS WITH PARTIES OTHER THAN THE INTERNATIO NAL TRANSACTIONS WITH ASSOCIATED ENTERPRISE OR IN RESPECT OF SPECIFIED DO MESTIC TRANSACTIONS ARE NOT WITHIN THE AMBIT OF CHAPTER X OF THE ACT. IN FA CT, A SIMILAR QUESTION AROSE FOR OUR CONSIDERATION IN TARA JEWELS EXPORTS PVT. LTD. (SUPRA) AND AN IDENTICAL CONTENTION WAS NEGATIVED. SO ALSO THE DELHI HIGH COURT IN KEIHIN PANALFA LTD. (SUPRA) HAS NEGATIVED A SIMILAR CONTENTION. (E) IN THE FACTS AND CIRCUMSTANCES OF THE PRESENT C ASE, THE QUESTION AS PROPOSED WOULD BE CONTRARY TO THE PLAIN MEANING AND INTERPRETATION OF CHAPTER X OF THE ACT. THEREFORE, QUESTION OF LAW AS PROPOSED, DOES NOT GIVE RISE TO ANY SUBSTANTIAL QUESTION OF LAW. THUS, NOT ENTERTAINED. 30. RESPECTFULLY FOLLOWING THE JUDGMENT OF HON. BOM BAY HIGH COURT IN THE CASE OF CIT VS. RATILAL BECHARLAL & SONS (SU PRA) WE ARE OF THE VIEW THAT DIFFERENTIAL OPERATING PROFIT MARGIN IS T O BE APPLIED ONLY ON THE INTERNATIONAL TRANSACTION ENTERED AND NOT THE T OTAL SALES TURNOVER. 30.1 AS REGARDS ALTERNATE PLEA OF LD. AR THAT NO AD DITION WAS CALLED FOR IN THE CASE OF ASSESSEE U/S 92C OF THE ACT , AS PROVISIONS OF SECTION 92CB OF THE ACT RELATING TO THE POWER OF BO ARD ALONG WITH THE PROVISO TO SECTION 92C(2) SQUARELY APPLIES TO THE A SSESSEE AS THE DIFFERENCE IN OPERATING PROFIT MARGIN ADOPTED BY LD . ASSESSING OFFICER VIS--VIS OPERATING PROFIT MARGIN DECLARED BY ASSES SEE IS WITHIN THE TOLERANCE RANGE OF 5%. WE OBSERVE THAT ASSESSEE HAS SUBSTANCE IN THE ALTERNATE PLEA FOR BEING COVERED BY PROVISO TO SECTION 92C(2) OF THE ACT. WE FIND THAT ASSESSEE HAS DECLARED NET OPE RATING PROFIT MARGIN OF 3.73% DURING THE COURSE OF ASSESSMENT PRO CEEDINGS AND ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 24 THEREAFTER HAS SUBMITTED A REVISED CALCULATION OF O PERATING PROFIT MARGIN DISCUSSED ABOVE IN PARA 28 AND CALCULATED AT 4.51%. AS AGAINST THIS LD. ASSESSING OFFICER MADE ADDITION TO THE RETURNED INCOME OF ASSESSEE BY APPLYING 7.27% OPERATING PROF IT MARGIN BEING AVERAGE OF COMPARABLES SELECTED BY HIM WHICH WAS SU STAINED TO 5.78% BY LD. CIT(A). FROM GOING THROUGH THESE FIGUR ES WE FIND THAT THE DIFFERENCE OF OPERATING PROFIT MARGIN AT WHICH THE INTERNATIONAL TRANSACTION HAS ACTUALLY BEEN UNDERTAKEN AS AGAINST ARMS LENGTH PRICE DETERMINED BY ASSESSING OFFICER IS WITHIN TOL ERANCE RANGE OF () 5% AS PROVIDED IN PROVISO TO SECTION 92C(2) OF THE ACT. WE ARE, THEREFORE, OF THE VIEW THAT IN THE GIVEN FACTS AND CIRCUMSTANCES, THE PRICE AT WHICH INTERNATIONAL TRANSACTION HAS ACTUAL LY BEEN UNDERTAKEN SHALL BE DEEMED TO BE ARMS LENGTH PRICE AND WE ACC ORDINGLY SET ASIDE THE ORDER OF LD. CIT(A) SUSTAINING ADDITION O F RS.15,28,582/-, DELETE THE IMPUGNED ADDITION AND ALLOW THE GROUND O F ASSESSEE. 31. GROUND NO.7 READS AS UNDER :- 7. THE LEARNED CIT(A) ERRED IN FACT AND IN LAW IN N OT GIVING ANY DECISION ON THE ISSUE OF DISALLOWING MANAGING DIRECTORS REMUNERATIO N AMOUNTING TO RS. 15,69,000. 7.1 THE CIT(A) ERRED IN REFERRING THE MATTER BACK T O THE AO FOR VERIFICATION DESPITE THE FACT THAT SUCH POWERS ARE NOT AVAILABLE TO THE CIT(A) AND THE CIT(A) OUGHT TO HAVE DECIDED THE ISSUE ON MERITS. 7.2 THE LEARNED CIT(A) ERRED IN FACT AND IN LA W IN CONFIRMING THE ACTION OF THE AO IN INVOKING THE PROVISIONS OF SECTION 40A(2) OF THE ACT DESPITE THE FACT THAT THERE IS NO FINDING ON RECORD THAT THE REMUNERATION PAID BY ME APPELLANT I UNREASONABLE OR EXCESSIVE AS COMPARED TO THE MARKET PRICE. 7.3 THE LEARNED CIT(A) OUGHT TO HAVE FOLLOWED THE ORDER OF THE THIRD MEMBER IN THE CASE OF JAGDAMBA ROLLER FLOUR MILLS V. JCIT REPORTED IN 117 ITD 9 (NAG). ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 25 32. BRIEF FACTS RELATING TO THIS GROUND ARE THAT DU RING THE YEAR UNDER CONSIDERATION, MANAGING DIRECTORS (M.D.) REMUNERAT ION OF RS.31.13,004/- WAS CLAIMED WHEREAS IN THE IMMEDIATE LY PREVIOUS YEAR REMUNERATION PAID TO MD WAS RS.15,44,004/-. AS SESSEE JUSTIFIED THE PAYMENT BY SUBMITTING THAT IT WAS MAINLY ON ACC OUNT OF BONUS OF RS.4,05,000/- AND COMMISSION OF RS.9,12,000/-. HOWE VER, ASSESSING OFFICER WAS NOT SATISFIED WITH THE REASONS AND ALSO FOR ABNORMAL INCREASE IN REMUNERATION OF THE MD AND ACCORDINGLY DISALLOWED RS.15,69,000/- BEING UNREASONABLE EXPENDITURE. WHEN THE MATTER CAME UP BEFORE CIT(A) ASSESSEE CONTENDED THAT DISA LLOWANCE HAS BEEN MADE BY INVOKING THE PROVISIONS OF SECTION 40A (2)(B) WITHOUT BRINGING ANY COMPARABLE OR FAIR MARKET RATE. LD. AR ALSO SUBMITTED THAT MD IS EMPLOYEE OF THE COMPANY AND THE EXPENSES WERE INCURRED FOR BUSINESS PURPOSE. HOWEVER, LD. CIT(A) REJECTED THE CONTENTION MADE BY ASSESSEE AND SUSTAINED THE DISALLOWANCE OF RS.15,69,000/- BEING EXCESS REMUNERATION PAID TO MD BY OBSERVING A S UNDER :- 11.3. I HAVE CAREFULLY CONSIDERED THE FACTS OF THE CASE, SUBMISSIONS OF THE APPELLANT AND ASSESSMENT ORDER. FOR CLAIM OF ANY BU SINESS EXPENDITURE THE ONUS IS CAST UPON THE APPELLANT TO JUSTIFY THAT IT WAS I NCURRED WHOLLY AND EXCLUSIVELY FOR BUSINESS PURPOSES. TO JUSTIFY THE MANAGING DIRECTOR 'S REMUNERATION THE APPELLANT OUGHT TO HAVE FURNISHED DETAILS OF NATURE AND EXTEN T OF SERVICES RENDERED BY THE MD. THE PRIVATE SECTOR REMUNERATION IS DICTATED BY PERFORMANCE AND THE APPELLANT OUGHT TO HAVE JUSTIFIED THE REMUNERATION IN TERMS OF SERVICES RENDERED, TERMS OF EMPLOYMENT, PERFORMANCE OF THE COMPANY ETC . OTHERWISE, THE COMPARISON WITH THE EARLIER YEAR IS A FAIRLY GOOD E STIMATE. THE DECISION CITED BY THE APPELLANT IS DISTINGUISHED OF THE FACTS AS THAT IN THE CASE THE DETAILS OF NATURE AND EXTENT OF SERVICE JUSTIFIED THE INCREASE IN REM UNERATION. THE APPELLANT INSISTED THAT THE DETAILS ARE AVAILABLE AND IN FACT WERE ALSO DISCUSSED WITH THE AO. IN VIEW OF THESE FACTS, THE AO IS DIRECTED TO V ERIFY THE DETAILS PROVIDED BY THE APPELLANT AND INTER-ALIA PARAMETERS SUGGESTED ABOVE , TO ASCERTAIN WHETHER THE REMUNERATION IS JUSTIFIED. GROUND NO. 12 IS ALLOWED SUBJECT TO VERIFICATION BY AO. ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 26 33. AGGRIEVED, ASSESSEE IS NOW IN APPEAL BEFORE THE TRIBUNAL. LD. AR SUBMITTED THAT MD WAS PAID A SALARY INCLUSIVE OF BONUS AND COMMISSION AT RS.31,13,004/- AS AGAINST RS. 15,44,0 04/- IN THE IMMEDIATELY PRECEDING F.Y. MD IS NOT A PERSON COVER ED UNDER THE PROVISIONS OF SECTION 40A(2)(B) OF THE ACT WHICH EV EN NOT DISPUTED BY REVENUE ALSO. INCREASE IN THE REMUNERATION WAS MAIN LY ON ACCOUNT OF BONUS AT RS.4,05,000/- AND COMMISSION OF RS.9,12 ,000/-. LD. AR FURTHER SUBMITTED THAT REASONABLENESS OF THE EXPEND ITURE CAN BE DOUBTED ONLY IF LD. ASSESSING OFFICER HAS BROUGHT O N RECORD OF ANY COMPARABLE COMPANY AS WELL AS COMPARABLE REMUNERATI ON PAYABLE TO MD. WITHOUT BRINGING OUT ANY SUCH BASIS SUCH KIND O F DISALLOWANCE SHOULD NOT HAVE BEEN SUSTAINED BY LD. CIT(A). LD. A R REFERRED AND RELIED ON THE 3 RD MEMBER DECISION IN THE CASE OF JAGDAMBA ROLLERS FLOUR MILL LTD. VS. ACIT IN ITA NO.93/NAG/2007 FOR ASST. YEAR 2004-05 VIDE ORDER DATED 27 TH OCTOBER, 2008 AND ALSO RELIED ON THE JUDGMENT OF HON. SUPREME COURT IN THE CASE OF UPPER INDIA PU BLISHING HOUSE (P) LTD. VS. CIT IN CIVIL APPEALS NOS.2396 & 2397 O F 1978 DATED 4 TH DECEMBER, 1978. 34. ON THE OTHER HAND, LD. DR SUPPORTED THE ORDERS OF LOWER AUTHORITIES. 35. WE HAVE HEARD THE RIVAL CONTENTIONS AND PERUSED THE RECORD PLACED BEFORE US. THROUGH THIS GROUND ASSESSEE IS A GGRIEVED WITH THE ACTION OF LD. CIT(A) SUSTAINING THE DISALLOWANCE OF RS.15,69,000/- TOWARDS THE REMUNERATION PAID TO MD. WE OBSERVE THA T DURING THE YEAR UNDER APPEAL REMUNERATION OF RS.31,13,004/- WA S PAID TO MD ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 27 WHICH INTER ALIA INCLUDED PAYMENT OF BONUS OF RS.4, 05,000/- AND COMMISSION OF RS.9,12,000/-. IN THE IMMEDIATELY PRE VIOUS YEAR I.E. F.Y.2000-01 PAYMENT TO MD WAS RS.15,44,004/- . LD. ASSESSING OFFICER WAS NOT CONVINCED WITH THE SHARP INCREASE I N THE REMUNERATION AND WITHOUT ASSIGNING ANY REASON IN HI S ORDER DISALLOWED THE INCREASED REMUNERATION OF RS.15,69,0 00/-. THIS WAS FURTHER SUSTAINED BY LD. CIT(A) ALSO. WE OBSERVE TH AT LD. ASSESSING OFFICER HAS NOT BROUGHT ON RECORD ANY IOTA OF EVIDE NCE OR COMPARABLE OR ANY BASIS TO JUSTIFY THE DISALLOWANCE AND MERELY TAKING A BASIS THAT SALARY HAS INCREASED EVEN WHEN THE TURNOVER HAS NOT INCREASED CANNOT BE A SPECIFIC REASON FOR MAKING A DISALLOWAN CE. IT IS ALSO NOT THE CONTENTION OF REVENUE THAT THE PAYMENT HAS BEEN MADE TO A RELATIVE AS SPECIFIED IN SECTION 40A(2)(B) OF THE A CT. WE FIND IT RELEVANT TO DISCUSS THE PROVISIONS OF SECTION 40A(2)(B) OF T HE ACT WHICH READS AS FOLLOWS :- SECTION 40A(2)(B) IN THE INCOME- TAX ACT, 1995 (B) THE PERSONS REFERRED TO IN CLAUSE (A) ARE THE F OLLOWING, NAMELY:- (I) WHERE THE ASSESSEE IS AN INDIVIDUAL ANY RELATIVE O F THE ASSESSEE; (II) WHERE THE ASSESSEE IS A COMPANY, ANY DIRECTOR OF T HE FIRM, ASSOCIATION OF PERSONS OR COMPANY, PARTNER OF THE HINDU UNDIVIDED FAMILY F IRM, OF MEMBER IF THE ASSOCIATION OR FAMILY, OR FAMILY, OR ANY RELATIVE O F SUCH DIRECTOR, PARTNER OR MEMBER; (III) ANY INDIVIDUAL WHO HAS A SUBSTANTIAL INTEREST IN T HE BUSINESS OR PROFESSION OF THE ASSESSEE, OR ANY RELATIVE OF SUCH INDIVIDUAL; (IV) A COMPANY, FIRM, ASSOCIATION OF PERSONS OR HINDU U NDIVIDED FAMILY HAVING A SUBSTANTIAL INTEREST IN THE BUSINESS OR PROFESSION OF THE ASSESSEE OR ANY DIRECTOR, PARTNER OR MEMBER OF SUCH COMPANY, FIRM, ASSOCIATIO N OR FAMILY, OR ANY RELATIVE OF SUCH DIRECTOR, PARTNER OR MEMBER; (V) A COMPANY, FIRM, ASSOCIATION OF PERSONS OR HINDU U NDIVIDED FAMILY OF WHICH A DIRECTOR, PARTNER OR MEMBER, AS THE CASE MAY BE, HA S A SUBSTANTIAL INTEREST IN THE ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 28 BUSINESS OR PROFESSION OF THE ASSESSEE; OR ANY DIRE CTOR, PARTNER OR MEMBER OF SUCH COMPANY, FIRM, ASSOCIATION OR FAMILY OR ANY RELATIV E OF SUCH DIRECTOR, PARTNER OR MEMBER; (VI) ANY PERSON WHO CARRIES ON A BUSINESS OR PROFESSION ,- (A) WHERE THE ASSESSEE BEING AN INDIVIDUAL, OR ANY REL ATIVE OF SUCH ASSESSEE, HAS A SUBSTANTIAL INTEREST IN THE BUSINESS OR PROFESSION OF THAT PERSON; OR (B) WHERE THE ASSESSEE BEING A COMPANY, FIRM, ASSOCIAT ION OF PERSONS OR HINDU UNDIVIDED FAMILY, OR ANY DIRECTOR OF SUCH COMPANY, PARTNER OF SUCH FIRM OR MEMBER OF THE ASSOCIATION OR FAMILY, OR ANY RELATIVE OF SU CH DIRECTOR, PARTNER OR MEMBER, HAS A SUBSTANTIAL INTEREST IN THE BUSINESS OR PROFESSIO N OF THAT PERSON. EXPLANATION.- FOR THE PURPOSES OF THIS SUB- SECTION, A PERSON SHALL B E DEEMED TO HAVE A SUBSTANTIAL INTEREST IN A BUSINESS OR PROFESSION, IF,- (A) IN A CASE WHERE THE BUSINESS OR PROFESSION IS CARR IED ON BY A COMPANY, SUCH PERSON IS, AT ANY TIME DURING THE PREVIOUS YEAR, TH E BENEFICIAL OWNER OF SHARES (NOT BEING SHARES ENTITLED TO A FIXED RATE OF DIVIDEND W HETHER WITH OR WITHOUT A RIGHT TO PARTICIPATE IN PROFITS) CARRYING NOT LESS THAN TWEN TY PER CENT OF THE VOTING POWER; AND (B) IN ANY OTHER CASE, SUCH PERSON IS, AT ANY TIME DUR ING THE PREVIOUS YEAR, BENEFICIALLY ENTITLED TO NOT LESS THAN TWENTY PER C ENT OF THE PROFITS OF SUCH BUSINESS OR PROFESSION. 1. PRIOR TO ITS OMISSION, THE PROVISO, AS AMENDED B Y THE FINANCE (NO. 2) ACT, 1971, W. E. F. 1- 4- 197 2, READ AS UNDER:' PROVIDED THAT THE PROVISIONS OF THIS SUB- S ECTION SHALL NOT APPLY IN THE CASE OF AN ASSESSEE B EING A COMPANY IN RESPECT OF ANY EXPENDITURE TO WHICH SUB- CLAUSE (I) OF CLAUSE (C) OF SECTION 40 APPLIES.' IN OUR VIEW THE ABOVE PROVISIONS CONTEMPLATE THAT I F THE ASSESSING OFFICER WAS OF THE OPINION THAT SUCH EXPENDITURE IF EXCESSIVE OR UNREASONABLE HAVING REGARD TO THE FAIR MARKET VALUE OF SERVICES OR FACILITIES FOR WHICH PAYMENT IS MADE THEN SUCH EXPE NDITURE CAN BE CONSIDERED BY HIM TO BE EXCESSIVE OR UNREASONABLE. HOWEVER, IN THE PRESENT CASE NO SUCH OPINION HAS BEEN FORMED BY ASS ESSING OFFICER WITH JUSTIFICATION. IT SEEMS TO BE A MERE GUESS WOR K THAT AS SALARY DOUBLED BUT NOT PROFITS DISALLOWED THE SAME. SUCH K IND OF ACTION OF ASSESSING AUTHORITY HAVE BEEN BRUSHED ASIDE IN A S IMILAR TYPE OF CASE BY HON. SUPREME COURT IN THE CASE OF UPPER IND IA PUBLISHING HOUSE (P) LTD. VS. CIT (SUPRA) WHEREIN IT HAS BEEN HELD THAT ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 29 EXPENDITURE IS UNREASONABLE OR NOT IS ESSENTIALLY A QUESTION OF FACT AND UNLESS IT IS FIRST HELD THAT SUCH EXPENDITURE W AS EXCESSIVE OR UNREASONABLE, THE QUESTION OF APPLICABILITY OF S.40 A(2)(A) BECOMES ACADEMIC. 36. WE FURTHER OBSERVE THAT IN THE CASE OF DISALLOW ING THE REMUNERATION PAID TO DIRECTOR BEING DISALLOWED AS E XCESSIVE OR UNREASONABLE WAS HELD IN FAVOUR OF ASSESSEE BY THE CO-ORDINATE BENCH IN THE CASE OF JAGDAMA ROLLERS FLOUR MILL LTD . VS. ACIT (SUPRA)BY OBSERVING AS UNDER :- PROVISIONS OF S. 40A ARE NON OBSTANTE PROVISIONS AN D, THEREFORE, HAVE AN OVERRIDING EFFECT OVER THE OTHER PROVISIONS ALLOWING THE DEDUC TIONS. THIS PROVISION PRESUPPOSES ALLOWABILITY OF THE EXPENDITURE OTHERWISE. IF THE E XPENDITURE IS NOT ALLOWABLE UNDER THE PROVISIONS OF SS. 28 TO 39 THEN THE QUESTION OF MAK ING DISALLOWANCE UNDER S. 40A WOULD NOT ARISE. IT IS ONLY IN THESE CASES WHERE THE DEDU CTION IS ALLOWABLE UNDER SS. 28 TO 39 BUT THE EXPENDITURE IS FOUND TO BE EXCESSIVE OR UNR EASONABLE, THE DISALLOWANCE UNDER S. 40A CAN BE MADE IF PAYMENT ON ACCOUNT OF EXPENDITUR E IS MADE TO THE PERSONS SPECIFIED UNDER SUB-S. (2)(B) OF S. 40A. THE EXPENDITURE ON A CCOUNT OF REMUNERATION PAID TO EMPLOYEES IS GOVERNED BY THE PROVISIONS OF S. 37. A CCORDING TO THE SAID SECTION, THE EXPENDITURE IS ALLOWABLE IF IT IS INCURRED WHOLLY A ND EXCLUSIVELY FOR THE PURPOSE OF BUSINESS. IT IS NOT IN DISPUTE THAT SUCH EXPENDITUR E IS OTHERWISE ALLOWABLE UNDER S, 37. HOWEVER, A PART OF THE EXPENDITURE CAN BE DISALLOWE D IF IT IS SHOWN(I) THAT THE PAYMENT WAS MADE TO THE PERSONS SPECIFIED IN CL. (B) OF S. 40A(2); AND (II) IF IT IS FOUND THAT EXPENDITURE IS EXCESSIVE OR UNREASONABLE, HAVING RE GARD TO THE FACT THAT THE MARKET VALUE OF THE GOODS, SERVICES OR FACILITIES FOR WHIC H THE PAYMENT IS MADE. NO ENQUIRY WAS MADE BY THE AO TO ASCERTAIN WHETHER THE PAYMENT WAS EXCESSIVE OR UNREASONABLE HAVING REGARD TO THE FAIR MARKET VALUE OF THE SERVI CES. ON THE OTHER HAND, THE AO MADE THE ENQUIRY IN A DIFFERENT DIRECTION I.E., WHETHER THE INCREASE IN THE SALARY AS COMPARED TO THE SALARY PAID IN LAST YEAR WAS JUSTIFIED ON FACTS OR NOT. SUCH ENQUIRY IS NOT REQUIRED TO BE MADE AS PER THE PROVISIONS OF S. 40A(2)(A). THE SCOPE OF ENQUIRY UNDER THE ABOVE PROVISION IS WITH REFERENCE TO THE FAIR MARKET VALU E OF THE SERVICES RENDERED. IN THE ABSENCE OF ENQUIRY AS CONTEMPLATED BY THE PROVISION S OF S. 40A(2)(A), NO DISALLOWANCE COULD HAVE BEEN MADE OR SUSTAINED. THE ONUS WAS ON THE AO TO BRING THE MATERIAL ON RECORD TO PROVE THAT THE PAYMENT MADE BY THE ASSESS EE WAS EXCESSIVE OR UNREASONABLE HAVING REGARD TO THE FAIR VALUE OF THE SERVICES REN DERED. IF SOME MATERIAL/EVIDENCE IS BROUGHT ON RECORD TO INDICATE THAT PAYMENT APPEARED TO BE EXCESSIVE OR UNREASONABLE THEN THE ONUS WOULD SHIFT TO THE ASSESSEE TO PROVE THAT THE PAYMENT WAS NOT EXCESSIVE OR UNREASONABLE. SINCE NO ENQUIRY AS CONTEMPLATED B Y THE AFORESAID PROVISIONS WAS MADE ON THIS ACCOUNT, IT CANNOT BE SAID THAT THE PA YMENT WAS EXCESSIVE OR ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 30 UNREASONABLE. THEREFORE, THE DISALLOWANCE OF RS. 60 ,000 CONFIRMED BY THE CIT(A) IS NOT JUSTIFIED. IN THE LIGHT OF ABOVE JUDGMENT OF HON. SUPREME COUR T AND DECISION OF THE CO-ORDINATE BENCH AND APPLYING THE FACTS OF THE CASE ON THESE JUDGMENT/DECISION, WE ARE OF THE VIEW THAT IN THE I SSUE BEFORE US THERE HAS BEEN NO WORKING ON THE PART OF ASSESSING OFFICER TO JUSTIFY THE DISALLOWANCE AND TO PROVE THAT REMUNERATION PAI D TO MD WAS EXCESSIVE OR UNREASONABLE. WE, THEREFORE, SET ASIDE THE ORDER OF LD. CIT(A) AND ALLOW THE GROUND OF ASSESSEE. ACCORDINGL Y THIS GROUND IS ALLOWED. 36. GROUND NO.8 IS CONSEQUENTIAL. 37. GROUND NO.9 IS PREMATURE. 38. GROUND NO.10 IS GENERAL IN NATURE WHICH NEED NO ADJUDICATION. 39. IN THE RESULT, ASSESSEES APPEAL IS PARTLY ALLO WED. ORDER PRONOUNCED IN THE OPEN COURT ON 21 ST NOVEMBER, 2016 (S. S. GODARA) JUDICIAL MEMBER (MANISH BORAD) ACCOUNTANT MEMBER DATED 21/11/2016 MAHATA/- ITA NO. 79/AHD/2010 ASST. YEAR 2002-03 31 COPY OF THE ORDER FORWARDED TO: 1. THE APPELLANT 2. THE RESPONDENT 3. THE CIT CONCERNED 4. THE CIT(A) CONCERNED 5. THE DR, ITAT, AHMEDABAD 6. GUARD FILE BY ORDER ASST. REGISTRAR, ITAT, AHMEDABAD 1. DATE OF DICTATION: 16/11/2016 2. DATE ON WHICH THE TYPED DRAFT IS PLACED BEFORE T HE DICTATING MEMBER: 18/11/2016 OTHER MEMBER: 3. DATE ON WHICH APPROVED DRAFT COMES TO THE SR. P. S./P.S.: 4. DATE ON WHICH THE FAIR ORDER IS PLACED BEFORE TH E DICTATING MEMBER FOR PRONOUNCEMENT: __________ 5. DATE ON WHICH THE FAIR ORDER COMES BACK TO THE S R. P.S./P.S.: 6. DATE ON WHICH THE FILE GOES TO THE BENCH CLERK: 21/11/16 7. DATE ON WHICH THE FILE GOES TO THE HEAD CLERK: 8. THE DATE ON WHICH THE FILE GOES TO THE ASSISTANT REGISTRAR FOR SIGNATURE ON THE ORDER: 9. DATE OF DESPATCH OF THE ORDER: