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Income Tax Appellate Tribunal, ‘B’ BENCH, CHENNAI
Before: HON’BLE SHRI V. DURGA RAO & HON’BLE SHRI MANOJ KUMAR AGGARWAL, AM
आदेश / O R D E R Manoj Kumar Aggarwal (Accountant Member) 1. Aforesaid appeal by assessee for Assessment Year (AY) 2012-13 arises out of the order of learned Commissioner of Income Tax (Appeals)-19, Chennai [CIT(A)] dated 17-03-2022 in the matter of an assessment framed by Ld. Assessing Officer [AO] u/s.143(3) of the Act on 31-03-2015. The grounds raised
by the assessee read as under:
1. The order of the CIT(Appeals)-19, Chennai dated 17.03.2022 in DIN & Document No. ITBA/APL/S/91/2021-22 /1040969848(1) for the above assessment year is contrary to law, facts, and in the circumstances of the case.
2. The CIT (Appeals) erred in partly sustaining the disallowance u/s 14A of the Act without assigning proper reasons and justification and further ought to have appreciated that the provisions of Section 14A of the Act had no application to the facts of the case thereby vitiating the impugned order.
3. The CIT (Appeals) failed to appreciate that the absence of recording of satisfaction on the part of Assessing officer by invoking the provisions of Section 14A of the Act was wholly unjustified and not sustainable in law. 4. The CIT (Appeals) failed to appreciate that the quantification of the notional expenses for making disallowance in any event was wrong, erroneous, incorrect, invalid, unjustified and not sustainable both on facts and in law. 5. The CIT (Appeals) erred in sustaining the disallowance of Rs. 9,33,63,000/- by invoking the provisions of section 40(a)(ia) of the Act without assigning proper reasons and justification. 6. The CIT (Appeals) failed to appreciate that the provisions of Section 40(a) (ia) of the Act read with related provisions governing TDS had no application to the facts of the case and further ought to have appreciated that the transaction under consideration would not fall within the ambit of royalty in terms of section 9(1)(vi) of the Act thereby vitiating the related findings in the impugned order. 7. The CIT (Appeals) failed to appreciate that the arrangement/agreement(s) under consideration were not considered in proper perspective and ought to have appreciated that the terms of the arrangement / agreement(s) would not fall within the scope of the expression/term royalty. 8. The CIT (Appeals) failed to appreciate that in any event the second proviso below Section 40(a)(ia) of the Act was not examined in proper perspective and ought to have appreciated that in the event of any independent examination of the facts, the said proviso would negate the applicability of the said provision for making the disallowance to make the addition as part of the computation of taxable total income. 9. The CIT (Appeals) failed to appreciate that the impact of the curative amendment brought in the said provisions of Section 40(a)(ia) of the Act in restricting the quantum of disallowance from 100% to 30% by the Finance Act, 2014 was overlooked and brushed aside while passing the impugned order. 10. The CIT (Appeals) erred in sustaining the addition of Rs.1,51,54,000/- being selling and distribution expenses after recording perverse finding of facts in Para 6.3.1 of the impugned order without assigning reasons and justification. 11. The CIT (Appeals) failed to appreciate that having not disputed the incurring of such expenditure wholly and exclusively for the purpose of business including the genuineness, the sustenance of the disallowance of such expenditure was wholly unjustified and not sustainable in law especially in view of the provisions in Section 37(1) of the Act. 12. The CIT (Appeals) failed to appreciate that the presumption of sale substantially to TASMAC which constituted the reason for making the disallowance of such expenditure was wrong, erroneous, incorrect, invalid, unjustified and not sustainable both on facts and in law. 13. The CIT (Appeals) failed to appreciate that there was no proper opportunity given either before the Assessing Officer or before passing of the impugned order and any order passed in violation of the principles natural justice would be nullity in law.
As is evident, three substantive issues fall for our consideration i.e., i) Disallowance u/s. 14A ii) Disallowance u/s. 40(a)(ia) iii) Disallowance of selling and distribution expenses u/s. 37(1) of the Act. No arguments have been advanced in support of ground nos. 1 & 13 and therefore, both these grounds are dismissed as not pressed.
The Ld. AR, drawing attention to the financial statements and other documents as placed on record, supported the case of the assessee. The Ld. AR raised plea of Rule of consistency and also sought protection of second proviso to Sec.40(a)(ia). The Ld. CIT-DR, on other hand, supported the case of the Revenue and advanced arguments. Having heard rival submissions and after due consideration of case records, our adjudication would be as under. The assessee being resident corporate assessee is stated to be engaged as manufacturer of alcohol products which are supplied to retail outlets of Tasmac. The assessee possesses valid license to manufacture liquor in the State of Tamil Nadu. The assessee has entered into tie-up agreements with various brand owners of Indian made foreign liquors (IMFL) for manufacturing, blending and bottling the IMFL in Tamil Nadu. These IMFL brands are manufactured at the plant of the assessee and sold by the assessee to Tasmac.
Disallowance u/s. 14A of the Act: The assessee earned exempt dividend income of Rs.0.24 Lacs. The Ld. AO, applying Rule 8D, computed disallowance of Rs.16.22 Lacs. The Ld. CIT(A), relying on the decision of Hon’ble High Court of Madras in Marg Ltd. (120 Taxmann.com 84), directed Ld. AO to restrict the same to the extent of exempt income earned by the assessee. Aggrieved, the assessee is in further appeal before us. Since the adjudication of Ld. CIT(A) follows a binding judicial precedent, no interference is warranted in the same. The corresponding grounds raised
by the assessee stand dismissed.
4. Disallowance u/s. 40(a)(ia) of the Act: 4.1 The assessee paid an amount of Rs.933.63 Lacs to brand owners during the year. Since no tax was deducted at source (TDS) against the same, Ld. AO proceeded to make disallowance u/s. 40(a)(ia) of the Act on the ground that the payment constitute royalty and the assessee was under an obligation to deduct tax at source on such payments. The assessee submitted that other IMFL brands are produced at its plant and sold by it under its own invoices in terms of contractual terms. The net sale proceeds after deducting cost of material and other production expenses were being remitted to the owners thereof. The assessee derived income by recovery of separate bottling charges by raising debit notes on the said brand owners. The amount paid by the assessee to various parties and bottling charges received from these parties could be tabulated as under: - Tie-up Brand Owners Operational Bottling charges Net Amount Surplus paid received Radico Khaitan Ltd 14233847.75 8009310.00 6224537.75 Tilaknagar Industries Ltd -491506.12 481680.00 -973186.12 Sipping Spirits Pvt Ltd 68953431.85 9388190.00 59565241.85 Geoscope Exim Pvt. Ltd. 10670148.50 1348200.00 9321948.50 Total 93365321.98 19227380.00 74138541.98 The bottling charges so received were offered to tax whereas operational surplus paid to different parties was claimed as business expenditure.
5 - 4.2 However, Ld. AO held that the assessee was producing various brands at its plant and sales were also made under assessee’s invoices. The said payment was nothing but royalty as defined u/s. 9(1)(vi) of the Act which include use of any patent, invention, model, design, secret formula or process or trademark or similar property. The assessee was involved in production of different brands who were having their own process / formulas. Thus, the impugned amount would constitute royalty and would be subjected to TDS. The submission that the assessee merely derived bottling charges was not acceptable since the assessee was actively involved in production process as well as sale under his own invoices. The amount so paid was to be viewed as royalty only. Accordingly, impugned amount was disallowed u/s 40(a)(ia) for want of TDS by the assessee. 4.3 During appellate proceedings, the assessee, inter-alia, submitted that the impugned payments were made pursuant to tie-up arrangements / agreement with other brand owners and the same could not be termed as royalty payment. The assessee produced other brands and remitted the net sales proceeds to the brand owners under contractual terms. The gross sales less all expenses incurred for production was passed on the brand owners and the assessee did not retain any profits with respect to production activity. The assessee earned separate income by way of bottling charges by raising debit invoices on them. The assessee merely acted as an agent of other parties in producing IMFL brands of other parties in order to utilize the surplus production capacity. The assessee also submitted that there was no transfer of any know-how from the brand owners to the assessee. The necessary commercial and technical personnel of brand 6 - owners were deputed at the bottling unit to undertake and supervise the manufacturing process and the secret formulae was not divulged to the assessee, The assessee also sought shelter of second proviso to Sec. 40(a)(ia) and submitted that the brand owners have already offered the impugned amounts to tax in their respective returns of income and therefore, no such disallowance could have been made. 4.4 However, Ld. CIT(A) held that the assessee used the brand names of other brand owners and the payment was made for usage of brand names. Therefore, the payment would constitute royalty and the provisions of Sec. 40(a)(ia) would be attracted. No finding was rendered on application of second proviso to Sec.40(a)(ia). The action of Ld. AO was thus confirmed against which the assessee is in further appeal before us. Our findings and Adjudication 5. From the above stated facts, it emerges that the assessee holds a valid license to manufacture liquor in the State of Tamil Nadu. The Liquor sales in Tamil Nadu are mandatorily required to be made only to the State owned corporation i.e., Tasmac. Such sales could be made by entities who have necessary license to manufacture the liquor. During the year, the assessee has entered into agreements with various manufacturers / brand owners of Indian Made Foreign Liquor (IMFL) for manufacturing, blending and bottling of IMFL in the State of Tamil Nadu. As per the contractual terms, the assessee is required to make available its manufacturing facility to brand owners to facilitate manufacture of the IMFL. However, the process and formula continue to be owned by the Brand owners and the same is not, in any manner, transferred to the assessee. The net sales proceeds thus arising (gross 7 - proceeds minus all production expenses) was to be passed on by the assessee to the brand owners since entire sales takes place under the invoices raised by the assessee, the assessee being the licensed vendor. For this service, the assessee is compensated by payment of bottling charges from the brand owners. These charges are accounted for as income by the assessee and offered to tax. Thus, the assessee essentially receives only specified bottling charges to render the said services. The assessee does not have any right to retain any part of the sale consideration and the net sales consideration after deducting production expenses was to be passed on to the brand-owners.
Pursuant to the said arrangement, the assessee has paid impugned amounts to the brand owners which has been branded as royalty by lower authorities on the ground that the production was done at assessee’s plants and the sales was made under assessee’s invoices. The royalty, as defined in Section 9(1)(vi), inter-alia, includes the use of any patent, invention, model, design, secret formula or process or trade mark or similar property. The case of the revenue is that the assessee is involved in production of different brands who are having their own process / formulas and therefore, the impugned amount so paid would constitute royalty. However, there is nothing on record which would suggest that the aforesaid process / formula was shared by the vendors with the assessee or transferred, in any manner, to the assessee. A perusal of sample agreement, as placed on record, would show that the process of manufacture of IMFL liquor encompasses blending and dilution process. As per the terms of the agreement, the brand owner was required to depute necessary commercial and technical personnel at the bottling unit of the assessee 8 - to undertake and supervise the manufacturing process. At no point of time of manufacturing process, the brand owners were supposed to divulge any technical or secret formulae of the IMFL. Thus, it could not be conclusively concluded that there was any such usage of patent or secret formula as alleged by Ld. AO. The perusal of contractual terms would show that the assessee was acting more as a job worker. Therefore, the impugned payments, in our considered opinion, could not be branded as royalty and the liability of TDS could not be fastened on the assessee in such a case.
Proceeding further, the rule of consistency also favors the case of the assessee. It could be seen that similar arrangement was being carried on by the assessee since past several years. The perusal of documents on records would reveal that the assessee’s return of income was scrutinized for AY 2011-12 vide order dated 29.03.2014 wherein Ld. AO examined similar claim of the assessee in para-3 of the assessment order. The stated position as claimed by the assessee was not disturbed by Ld. AO and the payment so made by the assessee were not termed as royalty. Rather, Ld. AO chose to make addition only for difference in ledger balances without invoking the provisions of Sec.40(a)(ia). Therefore, having accepted the position so claimed by the assessee in AY 2011-12, Ld. AO could not have taken a different view in this year, facts and arrangement being pari-materia the same.
We further find that the assessee would be entitled to seek benefit of second proviso to Sec.40(a)(ia) which enable the assessee to seek deletion of disallowance in case it could be shown that the payees have accounted the said payment in their respective tax 9 - returns and paid due taxes on the same. In fact, for AY 2013-14, an assessment was framed subsequently on 29.03.2016 wherein Ld. AO invoked the provisions of Sec.40(a)(ia) treating the payment as royalty. During appellate proceedings, the assessee submitted Form No.26A as per Rule 31ACB to take shelter of second proviso to Sec.40(a)(ia). Accepting the same, Ld. AO was directed to verify the same. Upon verification, the claim was found to be acceptable and similar disallowance so made was deleted in order giving effect passed on 26.02.2018. In that year, the assessee had made similar payment to M/s Geoscape Exim Private Ltd. and M/s Sipping Spirit Pvt Ltd. which are the common parties in the year before us. It could further be seen that no payment has been made to third party i.e., M/s Tilaknagar Industries Ltd. since the assessee has outstanding recoverable from this party and the question of disallowance u/s 40(a)(ia) would not arise against this party. All the stated facts favor the case of the assessee under second proviso to Sec.40(a)(ia) also.
Finally, on the entirety of facts and circumstances and the for the reasons stated in preceding paragraphs, the impugned disallowance as made by Ld. AO is not sustainable in law. We order so. The Ld. AO is directed to delete the same and re-compute the income of the assessee. The corresponding grounds raised
by the assessee stands allowed.
10. Disallowance of Selling and Distribution Expenses: 10.1 The assessee incurred selling and distribution expenditure of Rs.151.54 Lacs. The same was stated to be paid to various outlets throughout Tamil Nadu. However, the Ld. AO denied the deduction of the same on the ground that the assessee was supposed to sell all the 10 - production to one purchaser i.e., Tasmac and therefore, it could not make separate claim of sales promotion expenses. The retail sale was carried out by Tasmac and it was the responsibility of Tasmac to foresee its sales. The assessee was not connected with the sales of its product. Accordingly, the amount was disallowed for genuineness and commercial expediency. 10.2 During appellate proceedings, the assessee, inter-alia, submitted that it had deployed about 60 and odd staff who had to constantly go around the various retail outlets and keep meeting consumers and staff of Tasmac in order to promote the sale of company’s brands so that sales would pick up at all outlets and company would be assured of getting sufficient indents from Tasmac for assessee’s products thereby maximizing the turnover. The field staff had been authorized to incur business promotion expenses as required in this regard. 10.3 The Ld. CIT(A) rejected the submissions of the assessee on the ground that the assessee failed to explain as to why so much of expenditure was incurred on selling when the product was substantially sold through Tasmac only. Aggrieved, the assessee is in further appeal before us. Our findings and Adjudication 11. From the financial statements of the assessee as placed on record, it could be seen that the assessee has earned revenue from operations for Rs.231.21 Crores. It has incurred selling and distribution expenses for Rs.151.54 Lacs. Similar expenditure has been incurred by the assessee in immediately preceding year also. The amount incurred by the assessee has been paid to the following parties: - No. Company State Amount (Rs.) 1. Vintage Marketing System Kerala 1,19,10,433 2. Nilachal Marketing Agency Orissa 14,78,757 3. Vaishu Prime Marketing Andhra Pradesh 12,52,039 4. Freight & Other Expenses 5,12,923 Total 1,51,54,452 The perusal of sample documents as placed on record would show that the expenditure is primarily in the nature of selling expenses and distribution commission.
Upon perusal of case records, we find that the assessee has entered into sales promotion agreement with Vintage Marketing System (VMS) on 01-06-2007, a copy of which is available on Page No.135 of the paper-book. As per the terms of the agreement, VMS has been appointed as Sales Promoter to promote various products of the assessee in the state of Kerala. For the said purpose, VMS is required to engaged requisite number of sales personnel who would be responsible for achieving the sale and distribution objective as set out by the assessee. The field personnel were required to promote the products of the assessee and report to assessee with regard to requirement and movement of stock of various brands. The vendor is required to perform various other functions as enumerated in the agreement. In lieu of the services so rendered by the vendor, the vendor was to be remunerated at specified rates which are given in Annexure- 1.
This agreement has been renewed by the assessee from time to time. It could also be seen that the payment has been through banking channels only. M/s VMS has raised detailed debit notes on the assessee for the services rendered which have been kept on page nos.169 to 234 of the paper-book. The vendor has also charged 12 - statutory service tax on the services so rendered. Similar charges have been paid by the assessee to the other two parties for the state of Orissa and Andhra Pardesh. The assessee has deducted applicable tax at source (TDS) against the same. The charges paid to these two parties are pursuant to debit notes which are placed on page nos. 240 to 292 of the paper-book.
13. Upon perusal of all these documentary evidences, it could be concluded that the aforesaid expenditure was incurred by the assessee pursuant to contractual terms in order to promote the sale of its products in different territories. The same are duly evidenced by detailed debit notes issued by the vendors on the assessee. The payments are through banking channels after compliance with TDS requirements. Therefore, the said expenditure could not be held to be non-genuine expenditure unless there is some concrete material with the revenue to establish this fact. We find that there is no such material favoring the case of the revenue. Since the impugned expenditure has been laid out wholly and exclusively for the purpose of the business of the assessee, the same would be an allowable deduction u/s 37(1). The Ld. CIT(A) is not justified in questioning the requirement of incurring the same particularly when the same are duly substantiated. Therefore, impugned disallowance is not sustainable in law. We direct Ld. AO to delete the same. The corresponding grounds stands allowed.
Conclusion 14. The appeal stands partly allowed in terms of our above order. Order pronounced on 19th April, 2023.