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Income Tax Appellate Tribunal, MUMBAI BENCH “E” MUMBAI
Before: SHRI D.T. GARASIA & SHRI N.K. PRADHAN
ORDER
PER N.K. PRADHAN, AM
This is an appeal filed by the Revenue. The relevant assessment year is 2011-12. The appeal is directed against the order of the Commissioner of Income Tax (Appeals)-40, [in short ‘CIT(A)’] Mumbai and arises out of the assessment completed u/s 143(3) of the Income Tax Act 1961, (the ‘Act’).
The effective grounds of appeal
raised by the Revenue read as under: 1. "Whether on the facts and circumstances of the case and in law, the CIT(A) was correct in holding that compensation paid by the assessee to the Trust M/s Thakur Estate Developers Pvt. Ltd. was not excessive, even though the entire exercise of claiming the compensation, the refusal by the assessee and the award of arbitrator, are only eyewash?
2. Whether on the facts and circumstances of the case and in law, the CIT[A] was correct in applying the law pronounced in the cases of Jamna Auto Industries vs. CIT [299 ITR (P & H)]?
3. Whether on the facts and circumstances of the case and in law, the CIT(A) has erred in law by not questioning the award of arbitrator, which has been given in a customary and irregular manner since the award is not given by a speaking order."
Briefly stated, the facts of the case are that the assessee M/s Thakur Estate Development Pvt. Ltd. (in short ‘TEDPL’) is engaged in the business of construction and real estate development. It filed its return of income for the year under consideration on 14.09.2011 declaring total income of Rs.2,29,59,348/-. During the financial year 2007-08 relevant to the assessment year 2008-09, TEDPL had entered into a Memorandum of Understanding (MoU) with Thakur Educational Trust (in short ‘TET’) on 14.12.2007 for construction of their college premises at Boisar, Taluka Palghar, District Thane. Then TEDPL purchased land admeasuring 14.27 acres on 06.09.2008. The Assessing Officer (AO) observed that the total cost of the land was Rs.23,45,72,750/-. These were two pieces of contiguous lands marked as serial no. 91 and 92, admeasuring 21.04 acres and 19.23 acres respectively. It was only on the land having serial no. 91 situated at Khaira Taluka, Distt. Thane, that TEDPL was obliged to develop the educational premises for TET. Over the period, TEDPL had M/s Thakur Estate Developers Pvt. Ltd. Work-In-Progress (WIP) account in the balance sheet. A part of this piece of land i.e. serial no. 91 admeasuring 21.04 acres was sold by TEDPL during the year under consideration for a total consideration of Rs.47,34,56,250/-. The balance land i.e. serial no. 92 has still been shown in the WIP account. In response to a query raised by the AO during the course of assessment proceedings, TEDPL filed details of expenses incurred by it. The AO noticed that out of total expenses of Rs.44,42,32,177/-, TEDPL had incurred expenses of Rs.12,16,74,177/- under various heads incidental to its business activities of real estate and it had paid Rs.20 crore to TET as compensation. The AO disallowed compensation of Rs.20 crore paid by TEDPL to TET on the following grounds: (i) Since both are part of the Thakur Group, the payment of Rs.20 crore as compensation from TEDPL to TET was to divert the above sum from the taxable bracket to the tax- free bracket under the scheme of the Act, (ii) TEDPL had paid excessive compensation to TET in lieu of cancellation of the MoU dated 14.12.2007, (iii) The compensation did not arise out of any business exigencies and conduct, (iv) The compensation paid of Rs.20 crore by TEDPL to TET is just an eyewash in consultation with the arbitrator to evade tax and create a scheme to be put forth before the Income-tax authorities, M/s Thakur Estate Developers Pvt. Ltd. (v) At no point of time, during the course of assessment proceedings, TEDPL could give any reasonable explanation to the excessive compensation paid to TET and why it should be allowed. On the basis of the above reasons, the AO made an addition of Rs.20 crore.
4. Aggrieved by the order of the AO, the assessee filed an appeal before the Ld. CIT(A). After considering the submission/arguments, the Ld. CIT(A) held that (i) TEDPL had failed to handover the built-up area to TET, owing to legal dispute, therefore, it had to pay compensation as per MoU dated 14.12.2007, (ii) TEDPL enjoyed TET’s fund amounting to Rs.49.23 crore for a period of over three years and in fact, the land for the project was acquired largely out of the said fund and on sale of the land, TEDPL earned profit of above Rs.48 crore, therefore, it is desirable the TEDPL should have paid some compensation to TET, (iii) since the rate of residential and commercial property increased drastically between 2007 and 2011, if TEDPL was not in a position to execute the contract and TET had to go elsewhere to purchase or construct the college building, it had to incur more costs and therefore, payment of reasonable compensation to TET was necessary. The Ld. CIT(A) allowed the appeal of the assessee holding that payment of compensation @ 10.30% could not be termed as excessive even by considering the interest rate of bank FD which was about 9.5% in the relevant period.
M/s Thakur Estate Developers Pvt. Ltd.
Before us, the Ld. DR submits that the conduct of TEDPL, TET and award of the arbitrator on record shows that the entire exercise of cancellation of the contract as well as MoU is a scheme to bring Rs.20 crore in the tax-free bracket. TET is a registered trust. It is stated by him that whereas TEDPL has claimed the compensation of Rs.20 crore as a business expense and avoided tax thereon, TET has simultaneously earned Rs. 20 crore and claimed it as tax-free income. Thus the entire group has managed to save tax on an amount of Rs.20 crore. It is further submitted by him that the arbitrator has not given any sound reasons for giving his award. He has merely accepted the claim of TET and awarded the same in his final order. Both TEDPL and TET are part of the Thakur Group. Therefore, payment of Rs.20 crore as compensation by TEDPL to TET has resulted in diversion of the above sum from taxable bracket to tax-free bracket. Further, the award of Rs.20 crores against an advance of Rs.49.23 crore, within a period of three years, is extremely high. The TET has paid the advance in instalments to TEDPL, over a period of three years, and has got Rs.20 crore as compensation means that the return on investment for TET is more than 12% per annum, which is more than the FDR interest offered by the scheduled banks. The Ld. DR thus submits that the promptness with which TEDPL and TET have responded to each other’s proposal and the manner in which the arbitration award has been given is only an eyewash and a mechanism to evade tax. Reliance is placed by him on the decision in McDowell v. CTO 154 ITR 148 (SC).
M/s Thakur Estate Developers Pvt. Ltd. The Ld. DR thus submits that the order passed by the Ld. CIT(A) be set aside and the one passed by the AO be confirmed.
Per contra, the Ld. counsel of the assessee files a Paper Book (P/B) containing inter alia (i) copy of MoU between TEDPL. and TET dated 14 December 2007, (ii) copy of order from Charity Commissioner dated 21 August 2008, (iii) copy of documents in respect of litigation with Varde and family dated 4 December 2008 along with English translated copy, (iv) copy of N.A. order dated 12 October 2009 alongwith English translated copy, (v) copy of Memorandum of understanding between TEDPL and Jai Mata Di Corporation dated 3rd December 2007, (vi) copy of letter dated 10 December 2010 to TET to take back advance of Rs.49.23 crore, (vii) copy of letter dated 13 December 2010 received from TET asking for compensation of Rs.20 crore,(viii) copy of letter dated 04 January 2011 to TET giving consent to appoint Arbitrator, (ix) copy of final arbitration award by arbitrator dated 25 February 2011, (x) consent term between TEDPL and State of Maharashtra & Anr. dated 10 July 2012 and (xi) copy of writ petition dated 26 September 2012 in respect of litigation with Maharashtra Industrial Development Corporation (MIDC) (State of Maharashtra & others). 6.1 Relying on the documents mentioned at para 6 hereinbefore, the Ld. counsel submits that soon after acquiring land bearing survey no. 91 and 92, the deal went into rough weather as MIDC staked claim on certain portion of the land and also another person with the name ‘Varde’ staked claim on portion of the property and TEDPL found it M/s Thakur Estate Developers Pvt. Ltd. MoU on the said land for TET. For litigation with Varde and family, TEDPL had to pay compensation of Rs.3 crore. It is stated by him that the delay in commencement of the project was due to long waiting period for permission from Charity Commissioner. Since it was agricultural land, TEDPL had to wait for NA order, which was received on 12 October 2009 i.e. after lapse of 21 months from the date of MoU and without NA order, no construction work could have started. As per the said NA order, TEDPL was allowed only 1,35,315 sq. mtr. out of total area of 1,63,080 sq. mtrs. that too with number of conditions after which it came to know that balance land is in the ownership of MIDC, Government of Maharashtra and TEDPL was unaware of this. Also plot no. 91 on which educational premises were to be constructed had to be given to MIDC in exchange of plot no. 93 which was owned by MIDC as per the consent terms and writ petition no. 6111 of 2011 in the High Court of Mumbai. Accordingly, vide letter dated 10 December 2010, TEDPL conveyed its decision to cancel the contract. 6.2 Defending the payment of compensation, the Ld. counsel made a reference to clause 9 and 10 of the MoU in this regard. It is stated that TET insisted for compensation/damage of Rs.20 crore over and above advance payment of Rs.49.23 crore on account of cancellation of contract with them. TET had a right in the premises to be constructed on plot no. 91 and it had also right to claim compensation/damages from TEDPL and to go for arbitration by sole arbitrator as per MoU.
M/s Thakur Estate Developers Pvt. Ltd. The Ld. counsel submits that TEDPL had declared profit of Rs.28,95,46,027/- on sale of plot no. 91 and 92 and paid taxes thereon of Rs.7,19,12,529/-. In fact, had TET invested the amount in bank FDR, it would have earned interest at about 9.5%. As against this, the compensation paid @ 10.30% (interest amount is computed on advances of Rs.49.23 crore on day to day basis till the date of refund in May 2012) was only marginally higher. Further, as per the MoU, if TET does not pay money to TEDPL as per schedule, then they had to pay interest @ 15%. 6.3 The Ld. counsel submits that payment of damage for breach of contract as in the present case is an allowable expenditure u/s 37 of the Act. Reliance is placed by him on the decision in CIT v. Hans Machoo & Co. 247 ITR 79 (Del), CIT v. SA Builder Pvt. Ltd. 299 ITR 88 (P&H) and CIT v. Murari Lal Ahuja & Sons 177 ITR 228 (P&H).
We have heard the rival submissions and perused the relevant materials on record. The reasons for decision are given below. The facts in detail have been delineated hereinbefore. We mention below the crucial facts for adjudication of the present case: a) MIDC staked a claim on certain portion of the land and also another person with the name ‘Varde’ staked claim on portion of the property and TEDPL found it difficult to carry out the construction in terms of MoU with TET (page 52-58G of P/B). b) Delay in commencement of the project was due to long waiting period for permission from the Charity Commissioner. The order M/s Thakur Estate Developers Pvt. Ltd. Charity Commissioner was received on 21 August 2008 i.e. about nine months from the date of acquisition of land from M/s Jai Mata Di Corporation (page no. 41-51 of P/B). c) Since it was agricultural land, TEDPL had to wait for N.A. order, which was received on 12 October 2009 i.e. after lapse of 21 months from the date of MoU. (page no. 59-64M of P/B). Without N.A. order no construction work could have started. As per the aforesaid N.A. order, TEDPL was allowed only 1,35,315 sq. mtr. out of total area of 1,63,080 sq. mtrs. that too with number of conditions. d) TEDPL paid compensation of Rs.3 crore to ‘Varde’ towards litigation (page 52-58G of P/B). e) Part of plot no. 91 (on which educational premises were to be constructed) had to be given to MIDC in exchange of plot no. 93 which is owned by MIDC as per the consent terms and writ petition no. 6111 of 2011 of the High Court of Mumbai. (page 148- 160 of the P/B). 7.1 At this juncture, we refer to clause 9 and clause 10 of the MoU which reads as under: “9. In the event of the party of the First Part not being able to fulfil their part of the contract, for any reason whatsoever within the stipulated period, then the party of the Second Part shall be entitled to claim compensation apart from the return of the amount received by the party of the First Part till then. However, in case the party of the First Part is not able to complete the contract due to any reason beyond the control of the party of the First Part, the party of the First Part shall be entitled to refund entire amount received M/s Thakur Estate Developers Pvt. Ltd. by them till then, together with damages and mutually decided then by an between the parties hereto.
That in case of any differences or disputes arising relating to any of the clauses of this Memorandum of Understanding or otherwise, between the parties hereto, the same be referred to the sole arbitrator as mutually decided by and between the parties hereto under the Arbitration and Conciliation Act 1996 or any modification or re-enactment thereof.” Thus it is clear that TET, on cancellation of the said agreement by TEDPL had a right to receive compensation/damages as per clause 9 and clause 10 of MoU. 7.2 We may refer here to the decisions cited before us. In McDowell (supra), relied on by the Ld. DR, the issue involved was a simple question under the Andhra Pradesh sales-tax law – the uncomplicated issue being whether excise duty voluntarily paid directly to the state by the buyer should be included in the turnover of the manufacturer who contended that sales-tax was payable on the contractual sale price which did not include excise. The court had merely to decide whether the manufacturer could legitimately reduce his sales-tax liability in this manner. We have brought out the relevant facts in the instant case at para 7 and 7.1 hereinbefore. A bare perusal of it indicates that the case TEDPL is distinguishable from the above case relied on by the Ld. DR. 7.3 Now we turn to the decisions relied on by the Ld. counsel of the assessee. In Jamna Auto Industries (supra), it is held that ‘damages paid in consequence of arbitrator against assessee for failure to honour its M/s Thakur Estate Developers Pvt. Ltd. own import order was on account of damage for breach of contract and not liability incurred for contravention of any law, hence same was allowable as business expenditure’. In Hans Machoo & Co. (supra), it is held that ‘Tribunal having recorded a finding that there was a breach of contract and assessee had to pay damages, it was justified in allowing deduction of amounts paid; such a transaction cannot be described as speculative transaction within the meaning of section 43(5)’. In S.A. Builders (P.) Ltd. (supra), it is held that ‘compensation for delay in execution of the contract work is not a penalty for breach of law but a compensation for breach of contractual obligations and, therefore, same is allowable as deduction’ In Murari Lal Ahuja & Sons (supra), it is held that ‘compensation paid for breach of contract does not amount to a loss from speculative transaction and would be allowed as business loss.’ In the absence of any suggestion of bad faith or fraud, the true principle is that the taxing statute has to be applied in accordance with the legal rights of the parties to the transaction. When the transaction is embodied in a document, the liability to tax depends upon the meaning and content of the language used therein, and this must be determined in accordance with the ordinary rules of construction as held in CIT v. Motors General & Stores (P.) Ltd. (1967) 66 ITR 692, 699 (SC); Devidas Vithaldas & Co. v. CIT, (1972) 84 ITR 277, 284 (SC); CIT v. Puran Das Ranchoddas & Sons, (1988) 169 ITR 480, 488 (AP).
M/s Thakur Estate Developers Pvt. Ltd. To recapitulate the ratio laid down in the above decisions, the payment of damage for breach of contract as in the instant case is an allowable expenditure u/s 37 of the Act. We hold so. 7.4 But what should be the amount of compensation? We find that the arbitrator has given the final award on 25.02.2011 in the following manner: “Now, having considered the matters in dispute, after taking into consideration all documents and materials placed before me, after conducting procedures as found necessary for solving the matter in dispute and having heard the oral evidence presented by the parties, I give my award as follows:
1. 1. The claimant is entitled to receive from the respondent a sum of Rs.20 crores as compensation/damages.
2. The respondents are not entitled to any counter-claim against the claimant.
3. I direct that the respondent will pay to the claimant a sum of R.20 crores for cancellation of the contract as compensation/damages in addition to refund of principal amount paid. We do not propose to award interest to the claimant for any period. The above sum shall be paid to the respondents within a period of 24 months of the date of this award. If the above damages/compensation is not repaid with principal amount of advances given, by the above date then interest at the rate of 18% p.a. shall be paid from the date of this award till the payment of entire amount.” A perusal of the above clearly indicates that the compensation of Rs.20 crore arrived at by the arbitrator is not based on a calculation. During the course of hearing, the Ld. counsel of the assessee files a written submission stating that had TET invested the amount in bank M/s Thakur Estate Developers Pvt. Ltd. FDR, it would have earned interest @ 9.5%. As against this, the compensation paid @ 10.30% (interest amount is computed on advances of Rs.49.23 crore on day to day basis till the date of refund in May 2012) was only marginally higher.
As the award given by the arbitrator is bereft of calculation, we direct the AO to restrict the compensation/damages to 9.5% on Rs.49.23 crore in place of 10.30% on day to day basis till the date of refund in May 2012. The assessee would file the details of before the AO.
To sum up, we hold that the compensation/damages paid by TEDPL is an allowable expense u/s 37 of the Act. The AO is directed to calculate the amount as per our observation hereinbefore and allow the same.
In the result, the appeal is partly allowed.