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Facts
The appeals were filed by the assessee against the orders of the CIT(A). The core issue involved was an upward transfer pricing adjustment made by the TPO and confirmed by the AO. The assessee also contested the penalty proceedings initiated under Section 271(1)(c) of the Income Tax Act.
Held
The Tribunal found merit in the assessee's submission that the penalty notice issued under Section 274 read with Section 271(1)(c) was bad in law due to a generic format without striking off irrelevant portions, thus not specifying the exact ground for penalty. Consequently, the penalty was deleted. For ITA No. 7356/Mum/2014, the issue was restored to the AO for fresh consideration.
Key Issues
Whether the penalty levied under Section 271(1)(c) is valid when the notice does not specify the exact grounds for penalty? Whether economic adjustments for depreciation, capacity utilization, and foreign exchange fluctuation are permissible in transfer pricing?
Sections Cited
143(2), 92CA, 144C, 271(1)(c), 35D, 274, 37(1), 10B
AI-generated summary — verify with the full judgment below
Income Tax Appellate Tribunal, “H” BENCH, MUMBAI
O R D E R Per Amarjit Singh (AM): Both these appeals filed by the assessee are directed agasint the different orders of ld. CIT(A)-15, Mumbai. Since both these appeals P a g e | 2 & Schott Glass India Private Limited Vs. ITO-8(3)-1 pertained to the Assessment year 2007-08 are interconnected therefore these appeals are adjudicated by this common order as follows: “1. The learned Commissioner of Income Tax (Appeals) erred in confirming the upward transfer pricing adjustment by Rs. 8,59,31,291 in relation to the international transactions entered into by the Appellant Company as done by the Transfer pricing Officer/Assessing Officer 2. The learned Commissioner of Income Tax (Appeals) erred in not granting the Appellant Company sufficient opportunity of being heard before making additions which is opposed to the principles of natural justice and hence is bad in law.
3. The learned Commissioner of Income Tax (Appeals) has erred in not considering and understanding the rationale behind the economic adjustments carried out by the appellant for the purpose of benchmarking with respect to manufacturing segment.
The learned Commissioner of Income Tax (Appeals) failed to appreciate that charging entire depreciation of Tank 3 (100%) to the profit and loss of the appellant company was in accordance with the provisions of companies Act and hence appropriate adjustments would need to be made to determine the economic profitability of the appellant from a transfer pricing perspective.
5. The learned Commissioner of Income Tax (Appeals) has failed to appreciate the fact there was underutilization of capacity in Tank 3 during FY 2006-07 and hence economic adjustments were necessary to eliminate the differences in the economic circumstances of comparable and the Appellant Company.
The learned Commissioner of Income Tax (Appeals) has ignored the fact that the underutilization of capacity in Tank 3 was only in FY 2006-07 and hence the costs related to underutilization of capacity were extraordinary in nature for the Appellant Company.
The learned Commissioner of Income Tax (Appeals) has failed to appreciate that the unrealized foreign exchange loss was merely an accounting exposure and was non- operating in nature since the unrealized foreign exchange loss was due to the interest paid by the Appellant Company on External Commercial Loan taken and was in the nature of finance cost.
8. The learned Commissioner of Income Tax (Appeals) has erred in not considering the judicial decisions and OECD guidelines quoted by the Appellant Company in a correct perspective.
9. Each one of the above grounds is without prejudice to the other.”
P a g e | 3 & Schott Glass India Private Limited Vs. ITO-8(3)-1 2. Fact in brief is that return of income declaring total income at Rs.nil was filed on 31.10.2007. The case was selected for scrutiny assessment and notice u/s 143(2) of the Act was issued on 19.10.2007. The assessee company is a 100% subsidiary of Schott Glass Werke Beitilunga GmbH, Germany. It has two divisions namely turbing and trading division.
During the course of assessment the AO noticed that assessee had entered into international transactions with the associated enterprises exceeding Rs. 15 crores. Therefore, after taking into consideration the transaction reported in the form no. 3CEB, the AO has made reference u/s 92CA(1) to the transfer pricing officer for computing the arm’s length price. Thereupon the transfer pricing officer vide order dated 29.10.2010 passed u/s 92CA(3) has made an upward adjustment to the arm’s length price by Rs.8,59,31,291/- in relation to the international transactions entered into by the assessee company with its associate enterprises during the financial year 2006-07.
4. In pursuance of the order passed by the TPO u/s 92CA(3) the assessing officer prepared a draft order as per the provisions of Sec. 144C(1) of the Act and served upon the assessee vide letter dated 25.11.2020. The assessee was required to file its objection if any to the proposed variation made in its return of income on account of upward adjustment in arm’s length price before the Dispute Resolution Panel as well as before the assessing officer within 30 days of receipt of the draft order in accordance with the provisions of Clause (b) of sub- section (2) of Sec. 144C of the Act. However, the assessee has not filed any objection within the period specified before the Dispute Resolution Panel, therefore, the assessing officer has finalized the assessment on the basis of the draft order referred in sub-section (1) of Sec. 144C of the Act, after making addition of Rs.8,59,31,291/- pertaining to upward adjustment to the arm’s length price as recommended by the TPO. The P a g e | 4 ITA No.7356/Mum/2014 & ITA No.2594/Mum/2012 Schott Glass India Private Limited Vs. ITO-8(3)-1 AO has also initiated penalty proceedings u/s 271(1)(c) of the Act for furnishing of inaccurate particulars of income/concealment of income.
The assessee has made economic adjustment on the issue of excess depreciation, foreign exchange fluctuation and under utilized capacity. The assessee has selected only one comparable i.e Triveni Glass Ltd. and the most appropriate method used by the assessee for benchmarking its international transaction was TNMM and profit level indicator used was operating profit/sales. The TPO has also considered the single comparable i.e Triveni Glass as opted by the assessee and there was no dispute in respect of most appropriate method/PLI or comparable. The international transaction reported by the assessee with its associate enterprises were as follows:
Sr. Nature of service F.Y. 2006-07 Method No. Adopted 1. Import of raw materials and 14,698,635 TNMM spares 2. Import of Finished Goods 92,50,948 TNMM 3. Export of Finished Goods 39,358,319 TNMM 4. Import of assets 34,603,694 TNMM 5. Export of assets 7,485,095 TNMM 6. Services received 55,660,566 TNMM 7. Services provided 23,060,732 TNMM 8. Interest received 135,138 CUP 9. Interest paid 11,088,261 CUP 10. Reimbursement of expenses from 5,923,096 At Cost Associated Enterprises Total 186,090,440 The assessee has benchmarked its transaction from serial no. 1 to 6 by adopting TNMM with operating profit to sale as PLI which was 11.18% and it has identified one company Triveni Glass Ltd. as comparable which was having margin of 9.05%. The assessee had made adjustment of depreciation claimed on set-up of a new tank and because of under utilization of the new tank. The second adjustment was made by the assessee because of under utilization of capacity and third adjustment was made on account of foreign exchange fluctuation loss. The TPO has P a g e | 5 & Schott Glass India Private Limited Vs. ITO-8(3)-1 not agreed with the action of the assessee for the aforesaid economic adjustment made by the assessee. The TPO stated that the argument of the assessee of claiming depreciation of new tank was not convincing as the assessee has availed the tax benefit for its income tax computation. Regarding under utilization of capacity the TPO stated the assessee had made adjustment on estimated basis as per the annual report of the assessee company it had utilized 87% capacity in 2006 against its installed capacity and in the current year the position was 76%. He further stated that there was never 100% utilization of the capacity and the working was made only on estimated basis. Therefore, TPO proposed adjustment as under: Particulars Amount Sales 60,89,72,676 Total expenses (excluding interest) 66,82,96,637 Operating expenses (expenses relating to 63,97,91,490 commission related expenses of 2,35,05,147) AE expenses 11,42,13,843 Net Loss -3,08,18,814 Operating profit to sales ALP ratio 9.05% Operating profit 5,51,12,027 ALP Expenses 52,55,78,097 ALP of AE transaction 2,82,82,552 Adjustment to be made 8,59,31,291 The assessing officer has incorporated the aforesaid adjustment in Arm’s Length Price in the assessment order passed u/s 143(3) dated 07.01.2011.
6. The assessee filed the appeal before the ld. CIT(A). The ld. CIT(A) has dismissed the appeal of the assessee.
7. During the course of appellate proceeding before us the ld. Counsel submitted that the manner in which the transfer pricing officer has computed the disallowance was incorrect. In this regard, the ld. Counsel further submitted that without prejudice even the transfer pricing adjustment computed by the TPO at Rs.859,31,291/- was wrong P a g e | 6 & Schott Glass India Private Limited Vs. ITO-8(3)-1 and the correct computation as per working comes to Rs.111,57,259/- . The ld. Counsel has also filed the computation sheet showing that adjustment in the arms length price come to Rs.111,57,259/-. The ld. Counsel further submitted that TPO has not considered the economic adjustment as required under Rule 10B(1)(e)(iii) of the IT Rule. The ld. Counsel has also placed reliance on the decision of Bangalore Bench of the Income-tax Appellate Tribunal in the case of DCIT Vs. Novell Software Development India Pvt. Ltd. (ITA No. 1491/Bang/2014) dated 04.09.2019 and decision of Hyderabad bench of the Tribunal in the case of Qual Core Logic Ltd. Vs. DCIT (ITA No. 893/Hyd/2011) dated 31.05.2012. In respect of economic adjustment relating to capacity utilization the ld. Counsel referred the following decision. “(i) CIT Vs. Petro Araldite P. Ltd. (2018) 93 taxmann.com 438. (ii) DCIT Vs. Claas India Pvt. Ltd. (2015) 62 taxmann.com 173 and submitted that capacity utilization related adjustment should have been granted to the assessee. Similarly, regarding economic adjustment relating to foreign exchange the ld. Counsel submitted that TPO has not given any specific findings and submitted that such adjustment is to be granted to the assessee while computing its margin under the TNMM.
On the other hand, the ld. D.R submitted that in respect of economic adjustment on account of excess depreciation the assessee has imported tank but it has not brought and installed it as new capital asset and same was an item of regular import required as a replacement. Regarding the claim of assessee to its margin on account of under utilization capacity the ld. D.R submitted that this claim is factually incorrect. He submitted that assesse has utilized capacity of merely 76% during the year under consideration as against its installed capacity. However, the comparable company M/s Triveni Glass Ltd. had capacity utilization of merely 46.65% during the year under consideration. Therefore, the ld. Counsel contended that there was no P a g e | 7 ITA No.7356/Mum/2014 & ITA No.2594/Mum/2012 Schott Glass India Private Limited Vs. ITO-8(3)-1 under utilization of capacity by the assessee during the year under consideration vis-à-vis the comparable company. In respect of adjustment on account of foreign exchange fluctuation loss the ld. D.R submitted that loss suffered by the assessee on account of difference is an item of expenditure allowable u/s 37(1) of the Act and the assessee’s contention regarding allowability of the adjustment to its margin for the purpose of comparability is not acceptable.
Heard both the sides and perused the material on record. The assessee has benchmarked its international transactions following TNMM as most appropriate method. The TPO has not agreed with the assessee for making economic adjustment on account of excess depreciation, foreign exchange fluctuation and under utilized capacity as discussed above in this order therefore proposed upward adjustment in the arm’s length price by Rs.8,59,31,291/-. The detail of such adjustment claimed by the assessee are as under: Adjustments “i. Depreciation on Tank 3 Furnace Rs.4,94,64,366.00 ii. Costs in relation to under utilized capacity Rs.5,91,46,5890.95 iii. Unrealized loss on foreign exchange Rs.1,73,83,241.00 The assessee was relied on Rule 10B of the Income Tax Rules for accounting of economic adjustment for the purpose of determination of arm’s length price. The assessee also referred Rule 10B(1)(e)(iii) of the Income Tax Rules in support of such adjustment and also relied upon the judicial pronouncements as referred above. The provision of rule 10B(1)(e) of the IT Rule in respect of transactional net margin method which is reproduced as under: (i) the net profit margin realized by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base; P a g e | 8 & Schott Glass India Private Limited Vs. ITO-8(3)-1 (ii) the net profit margin realized by the enterprise or by an unrelated enterprise from a comparable uncontrolled transaction or a number of such transactions is computed having regard to the same base, (iii) the net profit margin referred to in sub-clause (ii) arising in comparable uncontrolled transactions is adjusted to take into account the differences, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market; (iv) the net profit margin realized by the enterprise and referred to in sub- clause (1) is established to be the same as the net profit margin referred to in sub-clause (iii); (v) the net profit margin thus established is then taking into account to arrive at an arm's length price in relation to the international transaction.” (Emphasis supplied)
As per clause 3 of the above rule the net profit margin arising in comparable uncontrolled transaction may be adjusted to take into account the difference between the international transactions and the comparable uncontrolled transaction which could materially affect amount of net profit margin in the market. The assessee has made economic adjustment with respect to the capacity utilization depreication and foreign exchange fluctuation relating to purchase of a new tank (“Tank 3”) to compute the profit margin during the assessment year under consideration. The assessee company has identified M/s Triveni Glass Ltd. as comparable to the company and segmental operating profit margin of the company was calculated at 9.05% for the F.Y. 2006-07 and the operating margin of the assessee company was computed at 11.18% after making economic adjustments.
We have perused the judicial pronouncements referred by the ld. Counsel in the case of DCIT, Circle 5(1)(2) Vs. M/s Novell Software Development India Pvt. Ltd. vide IT(TP)A. No. 1491/Bang/2014 dated 04.09.2019 in respect of adjustment on account of claim of depreciation. The relating operating part of the decision is as under:
P a g e | 9 & Schott Glass India Private Limited Vs. ITO-8(3)-1 “11. Ground No.3 is in respect of disallowing depreciation as an adjustment in comparables. Ld.AR submitted that assessee has a policy of charging higher rate of depreciation as compared to companies selected by Ld.TPO. Assessee placed reliance on the accounting notes wherein policy of depreciation at page15 of paper book, Vol-1 has been encapsulated. She thus submitted that adjustment is to be made to eliminate difference between assessee and comparables. Placing reliance upon decision of this Tribunal as well as Pune Tribunal in Honeywell Technology solutions Lab Pvt.Ltd in ITA No. 1344/Bang/2011 and E-Gain Communications Pvt.Ltd vs ITO reported in (2008) 23 SOT 385, she submitted that Ld.CIT (A) rightly directed Ld.TPO to exclude depreciation from operating costs of assessee as well as comparables. Ld.CIT DR placed reliance upon orders passed by Ld.AO/TPO.
We have perused submissions advanced by both sides in the light of the records placed before us. It has been submitted by the Ld.AR that for assessment year 2005- 06 in assessee’s own case when this issue was remanded by this Tribunal is Ld.TPO/AO had inter alia granted the adjustment on depreciation after taking into consideration the detailed working submitted by assessee. Placing reliance upon page 892-898 of paper book, it has been submitted that for year under consideration detailed working is already available before authorities below. Ld.CIT (A) observed as under: “14.5.(v) Depreciation Adjustment 14.5.1. An extract of my predecessor’s order is reproduced as under; During the appellate proceedings, it is submitted that the appellant company as a policy of charging a higher rate of depreciation as compared to the Companies selected by the TPO, therefore, there is need for making an adjustment to eliminate the difference in the accounting policies for the tested parties and the comparable companies. Having heard the contention of the appellant, as per Rule 10B(3), the margin of the comparables and the tested party have to be computed on the same base considering the accounting policies followed. Accordingly, instead of allowing any adjustment on this account, the AO is directed to compute the margin in respect of the comparables after excluding the depreciation from the cost and also in the case of the appellant the depreciation to be excluded from the cost for computing the arm’s length difference. The appeal on the above issue is disposed accordingly”. 14.5.2 Similar claim has been made in this year and I see no reason to differ with my predecessor and hence, the TPO is directed to follow this direction in the current year. It is ordered accordingly.”
Regarding adjustment on account of capacity utilization we have perused the decision of ITAT Delhi in the case of DCIT, Circle 3(1) Vs. P a g e | 10 & Schott Glass India Private Limited Vs. ITO-8(3)-1 Claas India (P) Ltd. (2015) 62 taxmann.com 173 (Delhi Trib). The relevant operating part of the decision is reproduced as under: “9.4 Reverting to the facts of the instant case, we find that the authorities below have adjusted the operating costs of the assessee in allowing the capacity adjustment. As against that, the correct course of action provided under the law is to adjust the operating costs of the comparable and their resultant operating profit. There is hardly need to accentuate that there can be no estoppel against the law Once the law enjoins for doing a particular thing in a particular manner alone, it is not open to anyone to adopt a contrary or different approach As the authorities below have adopted a course of action in allowing adjustment, which is not in consonance with law, we cannot approve the same The impugned order is set aside and the matter is restored to the file of TPO/AO for giving effect to the amount of idle capacity adjustment in the operating profit of the comparable and not the assessee.”
We have also perused the decision of jurisdictional High Court in the case of CIT-8 Vs. Petro Araldite (P) Ltd. (2018) 93 taxmann.com 438 (Bomba) wherein it is held that capacity utilization of the comparable would be required to be made to the profit margin of the comparable on account of difference in capacity utilization in terms of Rule 10B(1)(e)(iii) of the I.T Rule. The relevant operating part of the decision is reproduced as under: “(i) The impugned order of the Tribunal for purposes of arriving at the profit margin of comparable uncontrolled transactions to enable determination of the Arms Length Price (ALP) of the Respondent Assessee's transactions with its Associated Enterprises, had invoked Rule 10-B(1) (e) (iii) of the Income Tax Rules, 1962 (the Rules). Thus, taking into account the capacity utilization as factor which could affect the extent of the profit margin of the comparable for the purposes of determining the ALP of the Respondent-Assessee's transactions (ii) The impugned order of the Tribunal reproduced Rule 10-B (1) (e) (m) of the Rules, which reads as under- "(e) transactional net margin method, by which (i) the net profit margin realised by the enterprise from an international transaction entered into with an associated enterprise is computed in relation to costs incurred or sales effected or assets employed or to be employed by the enterprise or having regard to any other relevant base, (ii) the net profit margın realised by the enterprise or by an unrelated enterprise from a comparable uncontrolled P a g e | 11 & Schott Glass India Private Limited Vs. ITO-8(3)-1 transaction or a number of such transactions is computed having regard to the same base; (iii) the net profit margin referred to in sub-clause (u) arising in comparable uncontrolled transactions is adjusted to take into account the difference, if any, between the international transaction and the comparable uncontrolled transactions, or between the enterprises entering into such transactions, which could materially affect the amount of net profit margin in the open market, (iv) the net profit margın realised by the enterprise and referred to in sub-clause (1) is established to be the same as the net profit margin referred to in sub-clause (iii). (v) the net profit margin thus established is then taken into account to arrive at an arm's length price in relation to the international transaction" (iii) The impugned order of the Tribunal records that the difference in capacity utilization would affect the profit margin of a manufacturing concern. It points out that the fixed overheads of any manufacturing concern will be constant, irrespective of the capacity utilization. Thus, the profit margin would be affected on account of the difference in capacity utilization. Less utilization of capacity, would result in allocation fixed costs over a smaller number of final products. Thus, reducing the profit margin The impugned order of the Tribunal with the aid of illustration, points out that higher capacity utilization would lead to higher profitability as fixed costs would be spread over in a larger number of units manufactured. It was in the above context, that the impugned order of the Tribunal held that difference in capacity utilization would materially affect the profit margin. Thus, if there is a difference in the level of capacity utilization of the assessee and the level of capacity utilization of the comparable, then adjustment would be required to be made to the profit margin of the comparable on account of difference in capacity utilization in terms of Rule 10-B (1) (e)(iii) of the Rules. (v) Revenue is not disputing before us that capacity utilization of a comparables manufacturing unit would impact the net profit margin of the comparable (v) In the above view, taking into account the capacity utilization of the comparable, in the present facts, as it materially affects the profit margin, the invocation of Rule 10-B (1) (c) (m) of the Rules, cannot be found fault with This is self evident position from the reading of the aforesaid provision that all aspects/difference between the international transactions and the comparable uncontrolled transactions which materially affects the net profit margin had to be taken into account so as to have the fair comparison while determining the ALP of the tested party's transaction. (vi) Therefore, this question does not give rise to any substantial question of law as Rule 10-B (1)(e)(iii) of the Rule is self evident Thus, not entertained.”
P a g e | 12 & Schott Glass India Private Limited Vs. ITO-8(3)-1 12. In the light of the facts, judicial pronouncements and provisions of section 10B of the Act as discussed supra in this order we consider it appropriate to restore the issue to the file of the AO for deciding the same denovo after considering the economic adjustments and working of correct computation of adjustment provided by the assessee. Therefore, the case is restored to the file of the AO for deciding a fresh as directed above in this order after affording adequate opportunity to the assessee. Accordingly, this appeal of the assessee is allowed for statistical purposes. “1. On the facts and in the circumstances of the case and in law, the LD. CIT(A) erred in upholding the action of Ld. Assessing Officer ('LD. AO') in levying a penalty of Rs.2,90,26,451 under section 271(1)(c) of the Act in respect of the additions to the returned income pursuant to the Transfer Pricing adjustment on the international transactions u/s 92CA made based on the order of the learned Transfer Pricing Officer ("LD TPO") dated 29 October 2010. The LD. AO/LD. CIT(A) erred in not appreciating that: All details explanations/contentions that were called for in the course of assessment proceedings / appeal proceedings by the I.D. TPO/LD AO/LD CIT(A) were submitted.
The LD. AO/LD, CIT(A) erred in not appreciating that the transfer pricing adjustment made by the LD. TPO was just a mere difference of opinion and thus levy of penalty was unjustified.
3. The LD. CIT(A) has erred in making an incorrect statement that the LD. CIT(A) in the quantum order under Section 250 itself has mentioned that appellant has not acted in a bonafide manner while making economic adjustments in the computation the Profit Level Indicator of the appellant.
4. The LD. AO/LD. CIT(A) erred in not appreciating that the appellant had neither concealed any income nor had furnished any inaccurate particulars of income. The LD. AO/LD. CIT(A) erred in not appreciating that: i. The appellant has acted in good faith and due diligence in respect of the international transactions. ii. Mere confirmation of the additions is not, by itself, a valid ground for levy of penalty.
P a g e | 13 & Schott Glass India Private Limited Vs. ITO-8(3)-1 5. The LD. CIT(A) has erred in not appreciating the submissions made by the appellant in correct perspective.
6. The LD CIT(A) has erred in setting aside the judicial precedents relied upon by the appellant in the submissions by stating that the judicial precedents quoted in the submissions are not applicable to the facts of the case based on his conjectures and surmises.
7. The Appellant submits that the impugned order levying penalty u/s. 271(1)(c) of the Income-tax Act, 1961 be struck down.
8. Each of the above ground is independent and without prejudice to one another.
9. The Appellant reserves the right to add alter or amend any of the above grounds of appeal.”
13. Fact in brief is that in pursuance to TPO order u/s 92CA(3) dated 29.10.2010 the assessing officer has mad upward adjustment to the arm’s length price by Rs.859,31,291/- in relation to international transaction vide order passed u/s 143(3) of the Act on 07.01.2011. The assessing officer has also disallowed claim of deduction u/s 35D amounting to Rs.456,959/- after relying on the earlier years orders in the assessee’s own case. The assessing officer has also initiated penalty proceedings u/s 271(1)(c) of the Act for furnishing inaccurate particulars of income/concealment of income. Thereafter vide order u/s 271(1)(c) of the Act dated 25.03.2013 the assessing officer has levied penalty of Rs.290,26,451/-.
The assessee filed the appeal before the ld. CIT(A). The ld. CIT(A) has dismissed the appeal of the assessee. 15. During the course of appellate proceedings before us at the outset the ld. Counsel submitted that in the notice issued u/s 274 dated 07.01.2011 the assessing officer has not specified under which limb of Sec. 271(1)(c) the penalty proceedings have been initiated which resulted the entire penalty proceedings being bad in law. The ld. Counsel has also placed reliance on the following decisions:
P a g e | 14 & Schott Glass India Private Limited Vs. ITO-8(3)-1 “i. PCIT Vs. Golden Peace Hotels and Resorts (P) Ltd. (2021) 124 taxmann.com 249 (SC). ii. PCIT Vs. Jehangir H.C. Jehangir (2023) 155 taxmann.com 209. iii. Mohd. Farhan A. Shaikh Vs. DCIT (2021) 434 ITR 1 (Bom) iv. Ganga Iron & Steel Trading Co. Vs. CIT (2022) 447 ITR 743 (Bom)
The ld. Counsel also contended that Hon’ble jurisdictional High Court in the case of Mohd. Farhan A. Shaikh Vs. DCIT (2021) 434 ITR 1 has held that if there is a defect in the notice for not striking off irrelevant matter the penalty cannot be levied. On the other hand, the ld. D.R supported the order of lower authorities.
Heard both the sides and perused the material on record. In the case of the assessee in pursuance of the order of the TPO the assessing officer has made addition on account of adjustment in arm’s length price of Rs.85,93,291/- and also disallowed claim of deduction u/s 35D to the amount of Rs.4,56,959/- as per the assessment order passed by the assessing officer. The assessing officer has levied penalty of Rs.2,90,26,451/- u/s 271(1)(c) of the Act. With the assistance of ld. Representative we have gone through the notice u/s 274 r.w.s 271(1)(c) dated 07.01.2011, the relevant operating part of the notice is reproduced as under:
P a g e | 15 & Schott Glass India Private Limited Vs. ITO-8(3)-1 On perusal of the aforesaid notice it is clear that assessing officer has not specified whether the penalty is being levied on account of concealment of particulars of income or furnishing of inaccurate particulars of income. In this regard, we have gone through the case of Jurisdictional High court referred by learned counsel in the case of Mohd. Farhan A. Shaikh Vs. DCIT (2021) 125 taxmann.com 253 (Bombay), wherein the relevant Para of the head note is reproduced as under:- “Section 271(1)(c), read with section 274 of the Income-tax Act, 1961 - Penalty - For concealment of income (Recording of satisfaction) - Whether where assessment order clearly records satisfaction for imposing penalty on one or other, or both grounds mentioned in section 271(1)(c), a mere defect in notice- not striking off irrelevant matter would vitiate penalty proceedings - Held, yes - Whether since penalty proceedings culminate under a different statutory scheme that remains distinct from assessment proceedings, therefore, assessee must be informed of grounds of penalty proceedings only through statutory notice - Held, yes - Whether even if notice contains no caveat that inapplicable portion be deleted, it is in interest of fairness and justice that notice must be precise, it should give no room for ambiguity - Held, yes [Paras 181 and 188][In favour of assessee]”
Further, we have also perused the decision of coordinate Bench of the ITAT, Mumbai in the case of M/s Bhavya Shashank Shanbhag Vs. DCIT in vide order dated 09.07.2021, wherein the co-ordinate Bench in identical issue and similar facts has deleted the penalty after following the decision of Hon’ble Jurisdictional High Court in the case of Mohd. Farhan A. Shaikh (supra). The relevant part of the decision of coordinate Bench is reproduced as under:- “3. We have heard rival submissions and perused the materials available on record. We find that assessee for both the assessment years vide ground No.1(e) had raised the preliminary technical ground that in the show-cause notice issued by the ld. AO u/s.274 r.w.s. 271(1)(c) of the Act, he had not struck-off the irrelevant portion and that the ld. AO had not specified the specific offence committed by the assessee by stating as to whether the assessee has concealed his particulars of income or had furnished inaccurate particulars of income. 3.1. We find that this issue is no longer res-integra in view of the Full Bench decision of the Hon’ble Jurisdictional High Court in the case of Mohd. Farhan A Shaikh vs. DCIT reported in 434 ITR 1 (Bom). The relevant portion of the said order is reproduced hereunder:-
P a g e | 16 & Schott Glass India Private Limited Vs. ITO-8(3)-1 181. It does. The primary burden lies on the Revenue. In the assessment proceedings, it forms an opinion, prima facie or otherwise, to launch penalty proceedings against the assessee. But that translates into action only through the statutory notice under section 271(1)(c), read with section 274 of IT Act. True, the assessment proceedings form the basis for the penalty proceedings, but they are not composite proceedings to draw strength from each other. Nor can each cure the other's defect. A penalty proceeding is a corollary; nevertheless, it must stand on its own. These proceedings culminate under a different statutory scheme that remains distinct from the assessment proceedings. Therefore, the assessee must be informed of the grounds of the penalty proceedings only through statutory notice. An omnibus notice suffers from the vice of vagueness.
More particularly, a penal provision, even with civil consequences, must be construed strictly. And ambiguity, if any, must be resolved in the affected assessee's favour.
Therefore, we answer the first question to the effect that Goa Dourado Promotions and other cases have adopted an approach more in consonance with the statutory scheme. That means we must hold that Kaushalya does not lay down the correct proposition of law. Question No. 2: Has Kaushalya failed to discuss the aspect of 'prejudice'? 184. Indeed, Smt. Kaushalya case (supra) did discuss the aspect of prejudice. As we have already noted, Kaushalya noted that the assessment orders already contained the reasons why penalty should be initiated. So, the assessee, stresses Kaushalya, "fully knew in detail the exact charge of the Revenue against him". For Kaushalya, the statutory notice suffered from neither non-application of mind nor any prejudice. According to it, "the socalled ambiguous wording in the notice [has not] impaired or prejudiced the right of the assessee to a reasonable opportunity of being heard". It went onto observe that for sustaining the plea of natural justice on the ground of absence of opportunity, "it has to be established that prejudice is caused to the concerned person by the procedure followed". Smt. Kaushalya case (supra) closes the discussion by observing that the notice issuing "is an administrative device for informing the assessee about the proposal to levy penalty in order to enable him to explain as to why it should not be done".
No doubt, there can exist a case where vagueness and ambiguity in the notice can demonstrate non-application of mind by the authority and/or ultimate prejudice to the right of opportunity of hearing contemplated under section 274. So asserts Smt. Kaushalya case (supra) .In fact, for one assessment year, it set aside the penalty proceedings on the grounds of nonapplication of mind and prejudice.
That said, regarding the other assessment year, it reasons that the assessment order, containing the reasons or justification, avoids prejudice to the assessee. That is where, we reckon, the reasoning suffers. Kaushalya's insistence that the previous proceedings supply justification and cure the defect in penalty proceedings has not met our acceptance. Question No. 3: What is the effect of the Supreme Court's decision in Dilip N. Shroff Case (supra) on the issue of non-application of mind when the irrelevant portions of the printed notices are not struck off ? 187. In Dilip N. Shroff case (supra), for the Supreme Court, it is of "some significance that in the standard Pro-forma used by the assessing officer P a g e | 17 & Schott Glass India Private Limited Vs. ITO-8(3)-1 in issuing a notice despite the fact that the same postulates that inappropriate words and paragraphs were to be deleted, but the same had not been done". Then, Dilip N. Shroff case (supra), on facts, has felt that the assessing officer himself was not sure whether he had proceeded on the basis that the assessee had concealed his income or he had furnished inaccurate particulars.
We may, in this context, respectfully observe that a contravention of a mandatory condition or requirement for a communication to be valid communication is fatal, with no further proof. That said, even if the notice contains no caveat that the inapplicable portion be deleted, it is in the interest of fairness and justice that the notice must be precise. It should give no room for ambiguity. Therefore, Dilip N. Shroff Case (supra) disapproves of the routine, ritualistic practice of issuing omnibus show- cause notices. That practice certainly betrays non- application of mind. And, therefore, the infraction of a mandatory procedure leading to penal consequences assumes or implies prejudice.
In Sudhir Kumar Singh, the Supreme Court has encapsulated the principles of prejudice. One of the principles is that "where procedural and/or substantive provisions of law embody the principles of natural justice, their infraction per se does not lead to invalidity of the orders passed. Here again, prejudice must be caused to the litigant, "except in the case of a mandatory provision of law which is conceived not only in individual interest but also in the public interest".
Here, section 271(1)(c) is one such provision. With calamitous, albeit commercial, consequences, the provision is mandatory and brooks no trifling with or dilution. For a further precedential prop, we may refer to Rajesh Kumar v. CIT [2007] 27 SCC 181, in which the Apex Court has quoted with approval its earlier judgment in State of Orissa v. Dr. Binapani Dei AIR 1967 SC 1269. According to it, when by reason of action on the part of a statutory authority, civil or evil consequences ensue, principles of natural justice must be followed. In such an event, although no express provision is laid down on this behalf, compliance with principles of natural justice would be implicit. If a statue contravenes the principles of natural justice, it may also be held ultra vires Article 14 of the Constitution.
As a result, we hold that Dilip N. Shroff Case (supra) treats omnibus show-cause notices as betraying non-application of mind and disapproves of the practice, to be particular, of issuing notices in printed form without deleting or striking off the inapplicable parts of that generic notice. 3.2. Respectfully following the aforesaid decision, we hold that the penalty levied by the ld. AO for both the assessment years is hereby directed to be deleted. 3.3. Since the relief is granted to the assessee on this aspect by adjudicating the ground No.1(e), the other grounds raised
by the assessee for both the years on legality of levy penalty as well as on merits of the case are not adjudicated herein and the same are hereby left open.”
18. In the light of the decision of the co-ordinate Bench as elaborated above, there is nothing before us on hand to differs from the issue raised in the cases cited (supra) so as to take a different view on this issue.