ISHWAR PULP AND PAPER MILL,JALGAON vs. INCOME-TAX OFFICER, JALGAON

आदेश आदेश

PER D. KARUNAKARA RAO, AM :

This is the appeal filed by the assessee against the order of CIT(A)-2, Nashik, dated 07-02-2017 for the Assessment Year 2013-14. 2. Grounds raised by the assessee are extracted as under :

“1. The Ld.CIT(A) erred on facts and in law in upholding disallowance of interest paid to partners amounting to Rs.19,98,768/- u/s.40(b) of the Act. He specifically erred in law in reconstructing capital accounts of the partners on account of non-provision of depreciation in books of account.

the return/revised of income declaring brought forward losses at Rs.12,94,343/-. In the assessment, AO made various additions, the details of which are extracted here as under :

Total income as per return Rs. Nil Addition/disallowances :

Thus, the AO made the assessment on the total income of Rs.35,12,110/-. In the First Appellate proceedings, the CIT(A)

confirmed most of the additions and the appeal of the assessee was partly allowed. With these brief facts, we proceed to adjudicate the ground-wise adjudication in the succeeding paragraphs.

Ground No.

to the said figure of Rs.19,85,768/- is given in Para No.5 of the order of CIT(A) and the said para is extracted here as under :

Sr. Name of the Partner Amount of Amount of Amount of No. Interest paid as interest excess per books of payable as interest paid account per recasted (3)-(4) capital a/c. (1) (2) (3) (4) (5) 1 Shri Bhawanji Vishram Patel 2,88,660/- 0 2,88,660/- 2 Shri Chandulal Vishram Patel 6,16,449/- 2,00,295/- 4,16,154/- 3 Shri Deoram Vishram Patel 1,59,632/- 0 1,59,632/- 4 Shri Maganlal Vastaram 2,43,145/- 0 2,43,145/- Patel 5 Shri Narayanji Vastaram 2,73,417/- 0 2,73,417/- Patel 6 Shri Vasant Lavji Patel 2,40,479/- 45,226/- 1,05,253/- 7 Shri Vinod Keshvlal Patel 3,43,093/- 1,82,044/- 1,61,049/- 8 Shri Yashwant Vishram Patel 2,48,458/- 0 2,48,438/- Total 24,13,333/- 4,27,565/- 19,85,768/-

From the above table, it is evident that the assessee claimed the total

expenditure u/s.40(b) of the Act amounting to Rs.24,13,333/-. AO

allowed the sum of Rs.4,27,565/- and disallowed the balance of Rs.19,85,768/-. The core reason given by the AO in support of the said

disallowance relates to the enhanced book profits by way of not disallowing the depreciation u/s.32 of the Act. Coming to the facts, AO

noticed that the assessee did not claim the depreciation u/s.32 of the Act at the time of determining the book profits and the net profits.

However, assessee claimed the same in the computation of income. On these facts, the AO reasoned by not claiming due depreciation of the firm, the “book profits” stand inflated thereby more profits are available

to the assessee firm for distribution among the partners of the firm. AO

discussed this issue in Page 3 to 22 of his order. In these paragraphs,

the AO extracted the submission/explanation of the assessee and (Chandigarh Tribunal) (SMC); (2) Swaraj Enterprises Vs. ITO 140 TTJ

0360 (Visakhapatnam Tribunal)/(10 taxmanncom 270) and (3) Deval Vs. ITO, dated 06-11-2015 and (2) judgment of Hon’ble Punjab &

Haryana High Court in the case of Ashoka Oil Mills Vs. CIT – ITA

No.484/2005, dated 01-09-2014. While the case of M.K. Enterprises

(supra) relates to similar allegation of inflation of book profits by not No.22 that there is no estoppels or res judicata in income-tax matters.

Eventually, the AO decided this issue against the assessee as per the finding given in Para No.25 and the same is extracted as under :

“25. In the light of the above discussion, it is eminently clear that the assessee firm has not charged depreciation to the P & L account only with the intention to increase the capital balance of the partners’ so as to provide them higher amount of interest. As communicated to the assessee vide this office letter dtd.15.02.2016, the re-casted capital account and thus arrived at excess interest paid to the partners amounting to Rs.19,85,768/- is disallowed and added to the total income of the assessee firm. Penalty proceedings u/s. 271(1)(c) are separately initiated.”

writing of the capital accounts of the partners account of the assessee

as well as disallowance of interest amounting to Rs.19,85,768/- paid to the partners and relied on the written submissions made before the AO.

On considering the same, in Para No.5.2 of the appellate order, the CIT(A) discussed the provisions of Explanation (3) to section 40(b) of the Act and concluded that the book profits means net profit as shown in the profit and loss account and computed in the manner laid down in Chapter IV-D. As per the CIT(A), depreciation is to be compulsorily

considered while computing the said book profits/net profits whether

assessee claims the same or not and relied on the contents of Explanation 5 to section 32 of the Act. He held that the same is applicable to the assessment year under consideration. Finally, he

justified the recasting of the capital accounts of the partners and confirmed the disallowance made by the AO. Aggrieved with the same,

the assessee is in appeal before us.

facts of the case and once again relied on the decisions (1) ACIT Vs.

Sant Shoe Store 88 ITD 0524 (Chandigarh Tribunal) (SMC); (2) Swaraj

Enterprises Vs. ITO 140 TTJ 0360 (Visakhapatnam Tribunal)/(10 years. This case deals with A.Y. 1999-2000 and others. Ld. Counsel

also relied on the decision of Pune Bench of the Tribunal in the case of Deval Utensils Factory and DCIT (supra) and fairly submitted that the same relates to the manner of calculating the interest on the reducing

balance on day-to-day basis and certainly not in the context of the Act. The conclusion of the said judgment reads that “when there is no specific reference to book profit as a basis on which interest has to be paid, unlike in the case of salary, the Revenue cannot insist on deduction of depreciation before crediting any interest on the capital of the assessee firm for the purpose of deduction u/s.40(b)(iv).” Ld.

Counsel fairly submitted that clause (iv) deals with reference to “any payment of interest to partners which is authorised by, and is in accordance with, the terms of partnership deed and related to any period

falling after the date of such partnership deed......” Further, he

submitted that Para No.15 of the partnership deed dated 30-03-2007 is relevant for the interest payable to the partners. Further, Ld. Counsel

referred to page 6 to 12 of the paper book and submitted the same

constitutes the copy of the partnership deed made on 01-04-2015 and the same mainly deals with the partners’ capital interest book profits,

sec 40(b) of the Act etc.

Ld. DR submitted that the allowability of depreciation is mandated by the income-tax provisions at the time of computation of book profits.

Therefore, by virtue of this clause (15) assessee is under obligation to decide the quantum of profits as per Indian Partnership Act, 1932 or by any of distinct enactment in force for the time being, i.e. Income Tax

Act, 1961 as amended by the Finance Act, 2001. He also submitted

that there are number of binding decisions to suggest thrusting of depreciation on the assessee in matters of computation of the business

profits. Ld. DR also relied on the amended provisions of Explanation (5)

to section 32 of the Act directing the assessee to mandatorily claim the depreciation w.e.f. A.Y. 2002-03 and subsequent assessment years. Relying on them, Ld. DR submitted that the “depreciation” needs to be charged to the profits before computing the allowable interest to the partners.

raised in Ground No.1 of the appeal. We have also perused the orders

of the Revenue and the decisions cited by both the sides. On facts,

there is no dispute between the parties. However, the dispute is with regard to the interpretation of the expression “book profits” within the meaning of section 40(b) r.w. Explanation (3). On this issue, the decisions in the case of Arthi Nursing Home (supra), Swaraj Enterprises

(supra), and Sri Venkateswara Photo Studio (supra) are directly relevant

and others do not relate to the issue of depreciation and allowability of interest. While the Visakhapatnam Bench decisions are not agreeing on this issue with each other, the Madras High Court judgment in the case

of Sri Venkateswara Photo Studio (supra) was not considered by the SMC Bench decisions although the same existed as on 12-06-2007, i.e.

on the date of making an order in the case of Arthi Nursing Home

(supra). This judgment of Madras High Court is filed for the first time

before us asking for direction to the AO to allow payment of interest to the partners without claiming depreciation. The Madras High Court

judgment in the case of Sri Venkateswara Photo Studio (supra) being

dated 24-04-2012 was not considered at the time of making both the assessment order dated 29-03-2016 as well as First Appellate order

dated 07-02-2017. 9.1 In the said judgment, the Hon’ble High Court discussed the provisions of Explanation (3) which defined the “book profits” and directed the Revenue not to reduce the gross profit to the extent of depreciation in the absence of any specific reference to the “book

profits” in sub clause (vi) of section 40(b) of the Act. Reference to the book profits is relevant when it comes to said sub-clause (v) with reference to other payments like remuneration. For the sake of reference, sub-clause (vi) is extracted here as under :

“any payment of interest to any partner which is authorised by, and is in accordance with, the terms of the partnership deed and relates to any period falling after the date of such partnership deed in so far as such amount exceeds the amount calculated at the rate of [twelve] per cent simple interest per annum; or.”

The above explanation (3) which defined “book profits” appeared

to be relevant to the interest payment referred to in sub-clause (iv) of section 40(b) of the Act. This aspect is completely ignored in other

decisions of the Tribunal which is relevant before deciding the ground

in question.

dated 01-04-2015, we find there is a categorical reference to the manner of computation of interest payable to the partners on the capital balances as well as loans advanced to the firm. Clause (5) of the said partnership deed is relevant in this regard. The same was not discussed by both the authorities below while adjudicating the issue

under consideration. Thus, the new partnership deed dated 01-04-

2015 on one side and the Madras High Court judgment on the other

constitutes significant information which is required to be considered

by the CIT(A) afresh. For this purpose, Ground No.1 is allowed to be remanded to the file of CIT(A) for fresh adjudication. CIT(A) shall grant

reasonable opportunity of being heard to the assessee in accordance

with the set principles of natural justice. CIT(A) is directed to pass a speaking order considering the entire legal propositions existing on this issue and the provisions of section 40(b) with relevant sub-clause and Explanations. Assessee is also directed to furnish these documents and the details necessary for adjudication of the issue before the CIT(A).

Accordingly, the Ground No.1 is allowed for statistical purposes.

amounting to Rs.6,89,920/- u/s.36(1)(iii) of the Act on the ground that the interest bearing funds are diverted to the partners.

our attention to the contents of Para No.26 of the assessment order and submitted that assessee paid interest of Rs.25,31,645/- on cash credit

account opened with Jalgaon Janata Sahakari Bank Ltd. Consequent to the reconstruction of the capital balances of the partners, as discussed

in the context of Ground No.1, in cases of two partners, i.e. (1) Shri

Maganlal V. Patel and Shri Narayanji V. Patel, the interest bearing

funds were found diverted to their accounts amounting to Rs.30 lakhs

and Rs.28 lakhs respectively. The total diverted interest bearing funds

from the cash credit account works out to Rs.58 lakhs. The relatable

interest paid by the firm to the bank on this Rs.58 lakhs works out to Rs.6,89,920/-. In this regard, the AO relied on the judgment of withdrawals by the partners do not need re-computation so far as allowable interest is concerned. Therefore, it is the opinion of the Ld.

Counsel that this issue should also re-visit to the file of CIT(A) for the coordinated decision on Ground Nos. 1 and 2. 12. We agree with the arguments of the Ld. Counsel on this issue and the same stands remanded to the file of CIT(A) with similar directions

as given in Ground No.1 above.

of the expenses on account of repairs and maintenance, carriage

inward, factory salary & wages and quality rebate etc.

of Rs.85,65,831/- in the manufacturing account towards direct

expenses. Out of the same, Rs.64,14,823/- was incurred on various

accounts enlisted above were examined during the assessment

proceedings. Considering the fact that most of these expenses are self- are as under :

“28…………….. ………………….In the case of the present assessee firm, it is stated that the assessee has maintained muster and salary, wages register is not sufficient particularly the same was not produced for verification. Further, it is stated that the same is lost for which FIR has been launched and copy of such complaint is enclosed is also totally false and misleading. No such enclosure is filed by the assessee firm. With regard to repairs to Plant and Machinery, it is stated that separate sheet alongwith copies of bills is attached is also false as nothing has been enclosed with this letter. The assessee has not proved that the above expenditure has been incurred by the assessee wholly and exclusively for the purpose of business. Considering all these facts and in absence of any documentary evidences, 10% out of the above expenses are disallowed and added to the total income of the assessee firm, which works out to Rs.6,41,482/-.”

Thus, the AO disallowed 10% of the above expenditure on adhoc basis

works out to Rs.6,41,482/-.

in Para No.7 of his order and extracted the submissions of the assessee

in sub-para 7. 1. Barring bald claims stating that the entire expenditure

was incurred for business purposes and also stating that entire

expenditure is genuine expenditure, the assessee did not furnish

evidences as demanded by the AO. Accordingly, the CIT(A) dismissed

the ground raised by the assessee in this regard and confirmed the addition made by the AO in Para No.7.2 and the same reads as under :

“7.2 I have carefully considered the facts of the case and rival contentions. On perusal of the same it has been noticed that the appellant has not rebutted the contentions of the AO and reasons mentioned by the AO for disallowing the expenses to the extent of 10%. The onus of proving the expenditure claimed is on the assessee and in view of the above facts the appellant has failed to discharge the onus. The AO is therefore justified in making the addition of Rs.6,41,482/- on account of disallowance of expenditure and hence the same is confirmed. Ground No.3 is dismissed.”

expenditure was incurred wholly and exclusively for the business

purposes of the assessee. Referring to certain expenses like wages,

carriage inward, repairs and maintenance etc., Ld. Counsel submitted

that it is practically not possible to main third party vouchers capable

of scrutiny of the authorities. Further, he submitted that when the income is earned and the goods are manufactured undisputedly, the expenditure mentioned in Para No.27 of the assessment order are necessary for the business purposes.

and submitted that in matters of claims u/s.37(1) of the Act, the onus

is heavily on the assessee and the assessee failed to do so in the present case. Therefore, Ld. DR prayed for confirming the conclusions

of AO/CIT(A).

have also gone through the contents of pages 22 to 35 of the paper book

and they relate to the above referred expenditure amounting to Rs.64,14,823/-. These documents constitute the ledger extracts from the books of account of the assessee. Further, we find from the orders

of the Revenue that the AO merely disallowed 10% of the entire

expenditure which indicates accepting the genuineness of the expenditure. AO merely doubted the quantum of expenditure without

having any basis or evidence in his possession. It is not the case of the Revenue that the AO verified the claim of the expenditure and found

they are false or otherwise. Further also, we find AO did not bring any evidence to demonstrate 10% adopted by him has sustainable basis.

Therefore, we are of the opinion that the percentage linked disallowance

is not legally sustainable. On the other hand, assessee failed to produce the evidences and discharged the onus in demonstrating the correctness of the claim with evidences. Further, to plug the deficiencies from assessee’s side, we are of the opinion that disallowance of some portion of it, i.e. a round-sum of Rs.5 lakhs

should meet the ends of justice. Accordingly, AO is directed to restrict

the disallowance to Rs.5 lakhs instead of Rs.6,41,482/- (10% of Rs.64,14,823/-. Accordingly, Ground No.3 is partly allowed.

Order pronounced on 31st day of August, 2018. (VIKAS AWASTHY) (D. KARUNAKARA RAO) "याियक "याियक सद"य "याियक "याियक सद"य सद"य /JUDICIAL MEMBER लेखा सद"य लेखा लेखा सद"य लेखा सद"य सद"य / ACCOUNTANT MEMBER सद"य

पुणे Pune; "दनांक Dated : 31st August, 2018 सतीश आदेश आदेश क" आदेश आदेश क" क" "ितिलिप क" "ितिलिप "ितिलिप अ"ेिषत "ितिलिप अ"ेिषत अ"ेिषत/Copy of the Order forwarded to : अ"ेिषत अपीलाथ" / The Appellant

स"यािपत "ित //// Senior Private Secretary आयकर अपीलीय अिधकरण ,पुणे / ITAT, Pune