CPT-V22P7 (1-15 Dec2011)

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol.
22 n 1
CONTENTS
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December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 2
contents
FOUNDER EDITOR : EDITOR :
VOLUME 22 ISSUE 7 DECEMBER 1-15, 2011
U.K. BHARGAVA RAKESH BHARGAVA

HON. COORDINATING EDITOR :
Direct Tax Laws

605 Treatment of Capital Gains 610 617 621 625
under the provisions of MAT//S. RAJARATNAM A Critical Analysis of the provisions of section 40(a)(ia)//NARAYAN JAIN Concept of Facilitating NGOs//MANOJ FOGLA Uncharitable Face of Charity//G.N. GUPTA Tax Accounting Standard on Government Grants and Accounting Standard 12 A comparative study//
DINDAYAL DHANDARIA
DR. VINOD K. SINGHANIA

Corporate Professionals Today comes in three Volumes, Annual subscription from January December 2011 is Rs. 3200. Single copy Rs. 200 only. Corporate Professionals Today is published on every 10th & 25th of the month. Non-receipt of part must be notified within 60 days of the due date. Address your editorial and subscription correspondence to : TAXMANN ALLIED SERVICES (P.) LTD., 59/32, New Rohtak Road, New Delhi110 005. Phones : +91-11-45562222 Fax : +91-11-45577111 PRINTED AND PUBLISHED BY : AMIT BHARGAVA on behalf of Taxmann Allied Services (P.) Ltd. and Printed at Tan Prints (India) Pvt. Ltd., 44 Km. Mile Stone, National Highway, Rohtak Road, Village Rohad, Distt. Jhajjar, Haryana (India) and Published at 59/32, New Rohtak Road, New Delhi-110 005 (India). EDITOR : RAKESH BHARGAVA
Material published in this part is the exclusive copyrighted property of Taxmann Allied Services (P.) Ltd. and cannot be reproduced or copied in any form or by any means without written permission of the Publisher. Editors do not necessarily agree with the views expressed by authors of articles/features. Views so expressed are the personal views of author(s). This publication is sold with the understanding that authors/ editors and publishers are not responsible for the result of any action taken on the basis of this work nor for any error or omission to any person, whether a purchaser of this publication or not. All disputes are subject to jurisdiction of the Delhi High Court. Email : sales@taxmann.com Website : http//www.taxmann.com MODE OF CITATION [2011] 22 CPT. . . TOTAL PAGES INCLUDING COVER 136
630 An insight into expenditure 638 641

before commencement of business//NAVEEN WADHWA TDS Issues//GAURAV PAHUJA Landmark Rulings
Accounts & Audit

659 Fair value accounting DSOUZA
Integral to IFRS//DOLPHY
664 Issues in CARO reporting in 672 AS-11 and AS-16 Dusting

SRINIVASAN ANAND G.
Audit report of companies//
the dilemma for treatment of exchange rate differences on borrowing cost during construction period//VARUN
KUMAR
iii
CONTENTS
677 Accounts & Audit in Brief//RAJESH GOSAIN 684 Carbon credits : A new dimension to the
BAREJA
Service Tax
694 Some Controversies in Service Tax//V.S. DATEY 701 The Ongoing Battle on Validity of Levy of Service 708
Tax on Renting of Immovable Property for Commercial/Business use//V. PATTABHIRAMAN Hindu marriage is a religious ceremony besides being a social function//T.N. PANDEY
accounting and taxation methods//DR. SUSHMA
Corporate Laws
688 Conversion of Chartered Accountant (CA)
Firms into Limited Liability Partnerships (LLP) //SARIKA GOSAIN
713 Service Tax Penalty & Reasonable Cause//

GAURAV GUPTA
Investment Planning
721 Recent changes in PPF & Small Saving Schemes
w.e.f. 1-12-2011
Stock Market
727 How shareholders are cheated by some promoters//ARUN K. MUKHERJEE
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DIRECT TAX LAWS
INTRODUCTION
1. Mr. N. A. Palkhivala, the eminent jurist, described the tax on book profits as "constitutionally illegal, economically unsound and morally repugnant". But such tax has marched ahead with liability becoming stiffer with the each Finance Act. The tax liability now referred to as Minimum Alternate Tax (MAT) has been in vogue in different garbs in sections 115J, 115JA and now in section 115JB, mutilating the book profits with many deeming provisions out distancing book profits computed under the company law with the liability further enhanced with the progressive hike in rates of taxes. One of the outstanding issues, which is awaiting decision of the Apex Court is regarding the treatment of capital gains in the computation of the book profits.
2. RELEVANT JUDICIAL PRECEDENTS

2.1 The Ruling in Sutlej Cotton Mills Ltd.s case - The assessee-company had taken the amount of sale proceeds of capital assets directly to reserves without routing it through the Profit & Loss Account (P&L). The Assessing Officer questioned the computation in view of the fact that the treatment of gains in the accounts did not accord with the requirements of Parts II and III of Schedule VI of the Companies Act, and that, therefore, it had to be added to the disclosed book profits so that liability for tax on capital gains was not avoided. This treatment was affirmed in first appeal and the matter came before the Special Bench of the Tribunal in Sutlej Cotton Mills Ltd. v. Asstt. CIT [1993] 45 ITD 22 (Cal.)(SB). The Tribunal did not question the right of the Assessing Officer to recast the profit and loss account. It did not agree with the contention
Advocate & Tax Management Consultant
S. RAJARATNAM
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DIRECT TAX LAWS

on behalf of the assessee, that whatever is shown in the books is bound to be accepted by the Assessing Officer "without questioning", since acceptance of such a view would mean that the Assessing Officer is bound to accept book profits even in case of fraud or misrepresentation or where there has been a total disregard of the provisions of Parts-II and III of the Schedule VI of the Companies Act, which is the subject-matter of cross reference in section 115J as well. There can be no inference, that accounts approved by the Board of Directors have been prepared according to the requirements of company law. There is an implied authority for the Assessing Officer to verify and satisfy himself, whether the net profit as shown in the P&L account is based upon accounts prepared in accordance with Parts-II and III of the Schedule VI. The Tribunal would not, however, accept the argument of the Revenue that the assessee knowing fully well, that it would be caught within the mischief of section 115J, if capital gains had been credited to the P&L Account, took it to the capital reserve with the sole object of avoiding tax. The Tribunal found that considering the objective of the provision to tax zero tax companies and the requirement of the Companies Act as regards computation of income as required under the company law, the transaction relating to capital structure of the company could not and need not form part of Profit and Loss Account, which normally represents operating profits from trading transactions and not transactions relating to investments. The need for disclosure of the profit on sale of investments is satisfied, if the information relating to them is available as a part of the accounts and not necessarily by credit to the profit and loss account. There is support for such a view in Spicer and Peglers Book Keeping and Accounts and also in the language of Parts-II and III of Schedule VI of the Companies Act itself. It was felt by the Tribunal as a matter of sound accepted accounting practice, that the assessee was entitled to treat the accretion to fixed assets, when realised, as capital reserve, particularly when the realised amount is reinvested in another asset and not available for distribution as profits following the rule of purposive interpretation in the light of objects expressed in the Finance Ministers speech and Memorandum explaining the provision in the absence of any allegation of fraud or misrepresentation. In other words, the disclosed book profit cannot be lightly disturbed. The Assessing Officer has got a right to make adjustments but only those specifically authorised under section 115J and not any other adjustment, where the profits in the profit and loss account are rightly computed as found in the instant case. The decision of the Supreme Court in McDowell & Co. v. CTO [1985] 154 ITR 148/22 Taxman 1, which was pressed into service by the revenue, was also considered by the Tribunal, but concluded that a mere tax mitigation cannot be tax avoidance as decided by the Privy Council in Challenge Corporation 187-(1) AC 155, where for revaluation of shares in the facts of the case, it was held, cannot be treated as a colourable action. A permissible accounting treatment within the frame work of law with the incidental tax advantage cannot be dismissed by characterising it as a "device". The ruling in Sutlej Cotton Mills Ltd.s case (supra) was followed in GKW Ltd. v. Jt. CIT [2000] 74 ITD 161 (Cal.), where it was decided that profit on sale of capital assets cannot form part of the book profits. In coming to the conclusion, the Tribunal cited two decisions in Pandit Deo Sharma v. CIT [1953] 23 ITR 226 (All.) and CIT v. Sugauli Sugar Works (P.) Ltd. [1983] 140 ITR 286/[1981] 7 Taxman 163 (Cal.). In the latter case, it was decided in the context of section 41(1), that a mere credit in the accounts does not justify taxation, if it was not normal business profit. The decision of the Calcutta High Court has since been affirmed in CIT v. Suguali Sugar Works (P.) Ltd. [1999] 236 ITR 518/102 Taxman 713 (SC).
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2.2 The ruling in Veekaylal Investments case The well-reasoned decision of the Special Bench of the Tribunal in Sutlej Cotton Mills Ltd.s case (supra) has been specifically overruled by the Bombay High Court in CIT v. Veekaylal Investment Co. (P.) Ltd. [2001] 249 ITR 597/116 Taxman 104. The main reason, though not the sole reason of the High Court, runs as under : The important thing to be noted is that while calculating the total income under the Income-tax Act, the assessee is required to take into account income by way of capital gains under section 45 of the Incometax Act. In the circumstances, one fails to understand as to how in computing the book profits under the Companies Act, the assessee-company cannot consider capital gains for the purposes of computing book profits under section 115J of the Act. There is a clear misdirection, in law, in the above reasoning, because section 45 could have no application, because of the non obstante clause with which section 115J (now sections 115JA and 115JB) is prefaced. Capital gain is a class of income deemed as income for purposes of computation of statutory income and cannot, therefore, be part of taxable book profits. Accounting of book profits has to conform to accounting principles, mandatory accounting standards and requirements of company law. The High Court has, no doubt, also justified its decision on the further argument, that clause (2) of Part II of Schedule VI of the Companies Act would require disclosure of non-recurring transactions of an exceptional nature, so that such disclosure is necessary, whether it is on capital or revenue account. What had been overlooked is that, disclosure does not mean that it should be shown as income in profit and loss account, even where it does not have the character of income as is commonly understood. Information relating to capital gains is bound to be reported in the final accounts of the assessee like various other items relating to any company required to be given to the shareholders not only by way of profit and
loss account but also as equally, if not more importantly, in the balance sheet with Schedules and Notes on Accounts. In Needle Industries (I) Ltd. v. CIT [1990] 183 ITR 393/[1989] 46 Taxman 93 (Mad.), where the company had credited insurance monies for loss of stocks due to fire directly to the reserves, the inference was that it was sufficient disclosure, so that jurisdiction even within the shorter time-limit under section 147(b) was held to be not available. The High Court found that the credit to the reserves in the balance sheet is sufficient information. One has only to point out that moneys received towards share capital, for example, is always disclosed in the balance sheet and is not expected to be routed through profit and loss account. There is also a direct authority in CIT v. N. Guin & Co. (P.) Ltd. [1979] 116 ITR 475/1 Taxman 124 (Cal.) for the view, that capital gains cannot be equated with commercial profits in the context of additional tax under section 23A (now deleted) for inadequate distribution of dividend. It was decided with reference to Palmers Company Law and Spicer and Peglers Book Keeping and Accounts, that divisible profits in business sense cannot include reserves and capital profits for purposes of distribution of dividend by businessmen and accountants. The Legislature itself had made a sharp distinction between profits and gains of business on one hand and capital gains on the other. At any rate, it is for the directors to decide, whether the surplus realised on sale of capital asset should be treated as profits of the company and where it is channelised to reserves, "it is not for the Income-tax Officer to lay down that it should have been treated as profits". Where the admitted position is that the directors have taken the surplus to reserves, it was held in this case, that such treatment is bound to be accepted. This law should have an equal application for purposes of book profit tax, the object of which is also to tax income, which is not distributed as dividend. It is not, therefore, surprising that the Special Bench of
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the Tribunal in Sutlej Cotton Mills Ltd.s case (supra) relied upon this decision. 2.2.1 Aftermath of Veekaylals case - The Tribunal in Kopran Pharmaceuticals Ltd. v. Dy. CIT [2009] 119 ITD 355 (Mum.) upheld the inclusion of capital gains as taxable book profits, though it was taken by the assessee directly to the reserves following the decision in Veekaylal Investment Co. (P.) Ltd.s case (supra) as the decision was that of the jurisdictional High Court. Same view was taken by the Tribunal in Growth Avenue Securities (P.) Ltd. v. Dy. CIT [2010] 126 ITD 179 (Delhi). Where the capital gains were credited to profit and loss account, it was treated as the only justification for inclusion in CIT v. Indo Marine Agencies (Kerala) (P.) Ltd. [2005] 279 ITR 372 (Ker.), so that the controversy as to whether accounting treatment will make a difference to liability persists. This view was adopted by the Tribunal in ITO v. Frigsales (India) Ltd. [2005] 4 SOT 376 (Mum.), where capital gains were credited to profit and loss account. Where the assessee had credited the gains in the P&L Account, the High Court in N.J. Jose & Co. (P.) Ltd. v. Asstt. CIT [2010] 321 ITR 132/[2008] 174 Taxman 141 (Ker.) found that there is no provision for exclusion of such income in the list of adjustments permitted under the Explanation to section 115J. The same view was taken in respect of capital gains on transfer of business by way of slump sale in CIT v. Brindavan Beverages Ltd. [2010] 321 ITR 197/ 186 Taxman 233 (Kar.), in the light of the preponderant view in favour of including capital gains, where it is taken into account in the P&L account by the assessee. Weight of evidence on the basis of decision in Apollo Tyres Ltd. v. CIT [2002] 255 ITR 273/ 122 Taxman 562 (SC) would appear to favour the inference of liability on the basis of accounting treatment, but the non-controversial inference, in law, is that mere accounting treatment cannot create a liability in the context of computation of income. Should such a law be inapplicable for book profits tax? The better reasoning, therefore, would be, what is not required to be included in the case of deemed income like capital gains, should not form part of book profits irrespective of accounting treatment. In another case dealing with capital gains, the assessee had sold a rubber estate and claimed that the surplus was exempt as an agricultural income, so as to be outside the purview of taxation, whether it be in computation of statutory income or book profits. The Tribunal in Harrisons Malayalam Ltd. v. Asstt. CIT [2009] 315 ITR (AT) 1/32 SOT 497 (Cochin) decided the issue on the basis that the sale of rubber estate by way of slump sale of agricultural land has character of an agricultural income and that the surplus is not, therefore, includible as a part of taxable book profits. The Tribunal adverted to the decisions of the several High Courts including that of the Supreme Court in Singhai Rakesh Kumar v. Union of India [2001] 247 ITR 150/115 Taxman 101 for its inference. Being exempt under section 10, it fell outside the purview of the Minimum Alternate Tax under section 115JB. In the view taken by the Tribunal, it was not necessary to consider the larger question, whether capital gains could be treated as part of income for purposes of MAT steering clear of the subsisting controversy. Where the assessee had availed of the benefit of tax exemption for capital gains by investing the proceeds in approved bonds under section 54E, the issue was whether even in such a case, non-taxable capital gains on account of the relief, could be treated as liable for book profits tax. Where capital gains are included as part of the book profits, there is no entitlement to concessions for such capital gains as was found in Nafab India (P.) Ltd. v. Dy. CIT [2005] 92 ITD 343 (Delhi). A view adverse to the taxpayer relying upon decision in Veekaylal Investment Co. (P.) Ltd.s case (supra) was taken by the Special Bench of the Tribunal in Rain Commodities Ltd. v. Dy. CIT [2010] 4 ITR (Trib.) 551/40 SOT 265 (Hyd.) (SB) in respect of long-term capital gains in the view that exemption under section 47(iv)
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available for transfer of asset to wholly owned subsidiary, normally available, will not be available for purposes of computation of book profits under section 115JB overlooking the fact that the question of section 47 would arise only where section 45 itself is applicable, and that both the section 45 or 47 should not be applicable because of the non obstante clause prefacing section 115JB. If section 45 is applicable, there should be no reason why exemption under section 47 should not be applicable. But in this case, the assessee had included the capital gains by crediting the same to the profit and loss account but claimed it as a deduction in the computation of book profits, so that the decision in Apollo Tyres Ltd.s case (supra) was also relied upon. Where the assessee unwittingly or under the wrong impression that the audit guidelines which require disclosure are understood as requiring credit to the profit and loss account, such credit invites liability, where the accounting entries are treated as binding. It is an unsatisfactory position of law, if this is the law. Incidentally, audit guidelines are sometimes understood as requiring every credit to the reserves to be routed through profit and loss account, but such guidelines do not bind the company, so that such understanding at best may only require the Auditor to record his qualification. In case of depreciable assets, accounting principles require the surplus to the extent of depreciation allowed to be credited back to profit and loss account, so that the tax on capital gains relating to that extent cannot possibly avoid liability, but even in such a case, the surplus over original cost cannot be
treated as part of book profits. Any other view would make the tax on book profits a mockery by making the taxable book profits even more different from the real book profits.
CONCLUSION
3. The decision in Veekaylal Investment Co. (P.) Ltd.s case (supra) would need review in the light of reasoning in Sutlej Cotton Mills Ltd.s case (supra) and in the view that it is superseded, where capital gains is not credited to the profit and loss account, so that it may not be open to the Assessing Officer to treat it as book profits, because of the bar against distortion of accounts, which have become final, by adjustments not authorised by the Explanation to the provision. If this could be the final view, it would make a difference between two companies with different accounting treatment of such capital gains, so that a clarification or review may well be required as regards application of Apollo Tyre Ltd.s case (supra) as well, whether the income as per profit and loss account is so sacrosanct as to be unalterable, a point dealt with more satisfactorily in Sutlej Cotton Mills Ltd.s case (supra), when it did not take a rigid view on accounting treatment, but based its decision on merits of the case. Now that this tax has to be carried over to the Direct Taxes Code with the same uncertainty relating to treatment of capital gains, one would wish the reasonable interpretation confining the tax to real book profits which would find official acceptance too, by necessary amendment to the Bill before it becomes a law.
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DIRECT TAX LAWS
A Critical Analysis of the provisions of section 40(a)(ia)
INTRODUCTION
1. Section 40(a)(ia) was introduced in the Incometax Act, 1961 by the Finance Act, 2004. The said provision was introduced for better compliance of TDS provisions. It has resulted in augmenting the revenue through the disallowance of various expenses on which TDS is not deducted by the assessees. Under the provisions of section 40(a)(ia), read with TDS provisions the A.O. can disallow the expenses where TDS is not deducted or paid in time with respect to the expenses claimed by the assessee. It disallows the claim of even genuine and admissible expenses claimed by an assessee under the head Income from Business & Profession, if the assessee does not deduct TDS on such expenses. The default in deduction of TDS or its non-payment would also result in levy of interest or penalty as provided for under section 201, under section 221 and under section 271C. The Act also provides for prosecution proceedings under section 276B. The hue and cry over such a harsh provision, is in continuum, especially when the High Courts of Madras and Punjab & Haryana have upheld the vires of the provision. However, in view of hardship faced by the assessees and different representations made, the Finance Act, 2010 has liberalised the provisions of section 40(a)(ia) w.e.f. AY 201011 as per which the assessee will be entitled to deduction of expenses if he has deposited the TDS on or before the due date of filing of return under section 139(1). In this article some of the related aspects and recent cases have been discussed.
Advocate & Tax Consultant
NARAYAN JAIN
EXPENSES WHICH ARE ALLOWED SUBJECT TO DEDUCTION AND DEPOSIT OF TDS (WHERE THE PAYMENT IS MADE TO A RESIDENT)
2. As per section 40(a)(ia), the following payments made to a resident shall be allowed as deduction
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only if tax is deducted at source as per the provisions of Chapter XVII-B and is deposited as per the provisions of section 200(1) : (a) Interest - section 193 or section 194A (w.e.f. Asst. Year 2005-06) (b) Payment to contractors/sub-contractors section 194C (w.e.f. Asst. Year 2005-06) (c) Commission or brokerage - section 194H (w.e.f. Asst. Year 2005-06) (d) Fees for technical services, fees for professional services under section 194J (w.e.f. Asst. Year 2005-06) and (e) Rent under section 194-I [w.e.f. Asst. Year 2007-08] (f) Royalty under section 194J [w.e.f. Asst. Year 2007-08] However, in view of hardship faced by the assessees and different representations made, the Finance Act, 2010 has liberalised the provisions of section 40(a)(ia) w.e.f. Asst. Year 2010-11. As per the amended provisions the assessee will be entitled to deduction of expenses if the assessee has paid the tax deducted at source (which was deducted/ deductible anytime during the previous year) on or before the due date of filing of return under section 139(1). The Finance Act, 2008 had earlier granted marginal relief with retrospective effective from the Asst. Year 2005-06 by providing that where the tax is deducted in the last month of the previous year, i.e., March, then the deduction of expenses was allowed if the payment was made within the due date of filing of return of income under section 139(1). However, if the deduction was made between April to February and the tax was not paid within the previous year, deduction for such expenses was not available. 2.1 If the TDS is paid after the due date of filing the return - In this connection it has now been clarified by proviso to section 40(a)(ia) that where tax has been deducted after the end of previous year or has been deducted
during the previous year but paid after the due date specified under section 139(1), such an expenditure shall be allowed as a deduction in computing the income of the previous year in which such tax has been paid.
AMENDMENT MADE BY THE FINANCE ACT, 2010 W.E.F. ASST. YEAR 2010-11
3. Relaxing the provisions of section 40(a)(ia) - Whether clarificatory in nature and with a retrospective effect? The matter was dealt with by the Mumbai Special Bench of ITAT in Bharati Shipyard Ltd. v. Dy. CIT [2011] 132 ITD 53/13 taxmann.com 101 wherein it was held that any amendment which has not been given retrospective effect by the Legislature, cannot be construed as retrospective on solitary ground that original provision caused some hardship to assessees. Relevant criteria to be taken into consideration for arriving at decision about retrospective or prospective effect of a later provision, is to unearth intention of the Legislature at time of introducing original provision and not whether it caused hardship to taxpayers. If it was very well known at time of inserting original provision that it is going to be harsh, then any subsequent relaxation in it will not be retrospective unless expressly so stated. The amendment brought out by Finance Act, 2010 to section 40(a)(ia) w.e.f. 1-4-2010 has only extended time for depositing tax deducted at source by due date under section 139(1) from earlier lesser time available for compliance; other consequences of section 40(a)(ia) are still present in provision. Thus, amendment by Finance Act, 2010 is not aimed at removing any unintended hardship to assessee, but to relax intended hardship to some extent by increasing time available for deposit of tax. When the amendment does not remove unintended hardship or is not explanatory, same cannot be held to be retrospective unless it is specifically provided for. Therefore, amendment brought out by Finance Act, 2010 to section 40(a)(ia) w.e.f. 1-4-2010 being not remedial and curative in nature cannot be declared as having
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retrospective effect from date of insertion of provision, i.e., 1-4-2005. Earlier decisions : The Mumbai Bench of ITAT in the case of Bansal Parivahan (India) (P.) Ltd. v. ITO [2011] 43 SOT 619 and Ahmedabad Bench in the case of Kanubhai Ramjibhai Makwana v. ITO [2011] 44 SOT 264/9 taxmann.com 55 had held that the amendment by Finance Act, 2010 is remedial in nature, designed to eliminate unintended consequences which may cause undue hardship to taxpayers and which made the provision unworkable or unjust in a specific situation is clarificatory in nature. The amendment has to be treated as retrospective w.e.f. 1-4-2005. The above decisions have been followed in Kulwant Singh v. ITO [2011] 10 taxmann.com 25 (Ahd.) wherein Interest, commission, etc., were paid without deduction of tax at source for the Asst. Year 2005-06 and it was held that amendments made in provisions of section 40(a)(ia) by the Finance Act, 2008 and Finance Act, 2010, being curative in nature, would apply with retrospective effect from 1-4-2005 and held that where assessee deducted tax at source from payments on account of transportation charges for FY ending 31-3-2005 and paid same to the credit of Government before due date of filing of return, provisions of section 40(a)(ia) could not be invoked for disallowing those payments. liability. No exception can be taken to incorporation of a provision which excludes right to seek permissible deduction in the event of failure of the assessee to deduct or to deposit the deducted tax. Moreover, the proviso relaxes the rigour. If in the subsequent years, one makes the deduction or makes the deposit, one gets the benefit of deduction. The provision cannot be held to be harsh. There is no inherent lack of jurisdiction on the part of the Legislature in enacting the provision providing for penalty for evasion of statutory liability. Earlier also at the time of introduction of section 40(a)(ia) into the statute book, the constitutionality of the said provision was challenged before the Madras High Court in the case of Tube Investments of India v. Asstt. CIT [2010] 325 ITR 610/[2009] 185 Taxman 438. The Court rejected the said challenge and upheld the validity of section 40(a)(ia) and the competence of the Legislature in enacting such a provision on the ground that the said provision had been introduced in order to augment tax through the mechanism of TDS and section 40(a)(ia) was in furtherance to the said objective.
DISALLOWANCE OF FREIGHT CHARGES FOR NON-DEDUCTION OF TDS

5. Where there is no oral or written contract with the transporter: Where there is no contract, oral or written, with the transporter, the provisions of section 194C do not apply. Hence, no disallowance under section 40(a)(ia) is permissible - CIT v. Bhagwati Steels [2010] 326 ITR 108/[2011] 198 Taxman 275/9 taxmann.com 266 (Punj. & Har.), CIT v. United Rice Land Ltd. [2008] 174 Taxman 286 (Punj. & Har.), R.R. Carrying Corporation v. ACIT [2009] 30 DTR 569 (Ctk.); Also refer Mrs. Kavita Chug v. ITO [2011] 44 SOT 95 (Kol.).
CONSTITUTIONALITY OF SECTION 40(a)(ia)

4. Recently in Rakesh Kumar & Co. v. Union of India [2010] 325 ITR 35/[2009] 178 Taxman 481 (Punj. & Har.) wherein there was case of business disallowance of Interest, commission, etc., paid from which no TDS was deducted and it was held that provisions of section 40(a)(ia) cannot be declared ultra vires on the ground of being harsh and discriminatory. The Legislature, in exercise of its taxing power, cannot only provide for levying tax, but it can also provide for penal action for enforcing the charge, if there is any evasion of tax or statutory
DISALLOWANCE UNDER SECTION 40(a)(ia)

6. Where assessee paid interest outside India for delayed payment for the purchase of machinery without deduction of tax:
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The interest paid by assessee is not interest on loan but for delayed payment for the purchase of machinery, therefore, the provisions of section 40(a)(i) are not attracted. Therefore, no disallowance can be made under section 40(a)(i) CIT v. India Pistons Ltd. [2006] 282 ITR 632 (Mad.); CIT v. India Pistons Ltd. [2007] 295 ITR 550 (Mad.).
prescribed in section 139(1), disallowance could not be made under section 40(a)(ia). In the result, the appeal filed by the assessee was allowed. 7.3 In Dy. CIT v. Choice Sanitaryware Industries [2011] 9 taxmann.com 120 (Rajkot) the case related to Asst. Year 2005-06 where the assessee had paid certain sum to Clearing and Forwarding, (C&F) agents besides payment of agency commission. The amounts consisted of reimbursement of various expenses claimed by C&F agents. The A.O. relying on Boards Circular No. 715, dated 8-8-1995 held that assessee was required to deduct tax on reimbursement of expenses as well and made impugned disallowance. Honble ITAT held that the circular in question is applicable only in cases where bills are raised for gross amount inclusive of professional fees as well as reimbursement of actual expenses. Since C&F agent raised two separate bills, one for commission and other for reimbursement of expenditure, CBDTs Circular No. 715, dated 8-8-1995 would not be applicable in such case and assessee would not be liable to deduct tax on said payment. Also refer to ITO v. Dr. Willmar Schwabe India (P.) Ltd. [2005] 3 SOT 71 (Delhi). 7.4 In Dy. CIT v. Divis Laboratories Ltd. [2011] 131 ITD 271/12 taxmann.com 103 (Hyd.) it was held that no tax is deductible under section 195 on commission payable to non-resident for services rendered outside India. Therefore, payment of commission made to overseas agent without deduction of TDS does not attract disallowance under section 40(a)(ia). 7.5 In ITO v. UAN Raju Constructions [2011] 48 SOT 178/14 taxmann.com 184 (Visakha.) the case related to section 40(a)(ia), read with section 194C. In this case the assessee was a Joint venture formed by a company and a proprietary concern with an objective to participate in tender process for construction of highways and bridges. The assessee obtained a contract from KRC. The said contract was
7. SOME RECENT JUDGMENTS

7.1 In Raja & Co. v. CIT (Central) [2011] 335 ITR 381/196 Taxman 461 (Ker.) the assessee did not make any payment of tax at source in respect of inward freight charges paid for goods purchased. The A.O. passed an assessment order without considering disallowance under section 40(a)(ia). The CIT in exercise of power under section 263, set aside assessment order and directed the A.O. to consider whether any disallowance was required to be made under section 40(a)(ia). Since the assessee had not deducted any tax at source while making payments to transport contractors, impugned order of the CIT issued under section 263 for considering disallowance under section 40(a)(ia) was to be upheld. 7.2 In H.S. Mohindra Traders v. ITO [2011] 44 SOT 43 (Delhi)(URO), assessee paid interest, commission, etc., without deduction of tax at source for Asst. Year 2007-08. Assessee was required to deduct tax on clearing charges, freight cartage inward and shipping expenses. A.O. found that tax was required to be deducted on these expenditures in month of February, 2007 and assessee had deducted tax only in month of March, 2007 and, thereupon, tax so deducted was paid on 9-4-2007 and 12-6-2007. A.O. relying on provisions of section 40(a)(ia) held that since tax was not deducted and deposited within stipulated time, the expenditure could not be allowed. On appeal, CIT(Appeals) upheld disallowance. Honble Delhi ITAT held that in view of fact that assessee having deducted tax in month of March, 2007 paid the same before due date of filing return as
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DIRECT TAX LAWS

not executed jointly by both parties but total contract was divided between two parties in an agreed ratio. The returns of income were filed for both years in status of association of persons, declaring NIL income. The A.O. was of view that assessee should be treated as main contractor and members to whom work was allotted should be treated as subcontractor and, therefore, assessee should have collected sub-contract commission from subcontractors. Accordingly, A.O. computed income of assessee by treating 1 per cent of gross receipt as income of assessee by way of subcontract commission in both assessment years. The A.O. also observed that assessee had deducted TDS at 1 per cent under section 194C on major portion of value of contract allotted to its members but in Asst. Year 200506, TDS was not deducted. Accordingly, A.O. disallowed relatable amount by invoking provisions of section 40(a)(ia). Held that, since consortium of joint venture had been formed only to procure contract work and in reality, both parties had divided contract work between themselves and declared income derived from their respective share of contract work in their hands, there was no merit in presumption made by A.O. that assessee was main contractor and members were sub-contractors. Hence, the question of estimation of income by way of sub-contract commission did not arise; further question of deduction under section 194C(2) and disallowance under section 40(a)(ia) also did not arise. 7.6 In Emersons Process Management India (P.) Ltd. v. Addl. CIT [2011] 47 SOT 157 (Mum.)(URO), it was held that TDS requirements do not come into play in case of reimbursement of expenses and is a settled law. Undoubtedly, these payments are made for the services rendered but the TDS requirements would come into play at the point of time when payments are made to the person who is rendering the services or to the person with whom contract for rendering of these services is entered into. Here the issue dealt with a situation in which payment is made to a group concern under a cost sharing arrangement and the payment is thus not for services but as reimbursement of expenses. Therefore, TDS requirements do not come into play at this stage. The disallowance was deleted.
8. PAYABLE OR AMOUNTS/SUMS PAYABLE, CONNOTATION OF

8.1 Appellate Courts inundated with appeals against provisions of section 40(a)(ia).The appellate courts have been inundated with appeals against AOs action in invoking the provisions of section 40(a)(ia) of the Act. One of the grounds agitated by assessees is that the section is applicable only to amounts which are outstanding at the end of the year, i.e., the amounts payable and that the provision cannot be applied to the expenses actually paid during the year. This argument is accepted by few Courts and Tribunals. However, recent trend of the judgments is to the contrary, which seems to be the correct view. Some precedents in this respect are given hereunder. 8.2 Interpretation of the words payable or sums payable: 8.2.1 The provision reads as hereunder: 40. Notwithstanding anything to the contrary in sections 30 to 38, the following amounts shall not be deducted in computing the income chargeable under the head Profits and gains of business or profession, (a) in the case of any assessee** ** **
(ia) any interest, commission or brokerage, rent, royalty, fees for professional services or fees for technical services payable to a resident, or amounts payable to a contractor or sub-contractor, being resident, for carrying out any work (including supply of labour for carrying out
614
any work), on which tax is deductible at source under Chapter XVII-B and such tax has not been deducted or, after deduction, has not been paid on or before the due date specified in sub-section (1) of section 139,Provided that where in respect of any such sum, tax has been deducted in any subsequent year, or has been deducted during the previous year but paid after the due date specified in sub-section (1) of section 139, such sum shall be allowed as a deduction in computing the income of the previous year in which such tax has been paid. (emphasis supplied) The provision clearly uses the term payable and not paid. Hence, as per the literal construction no word can be substituted in place of the said word nor can any new word be supplied in the provision by the Courts. The language of the provision has thrown open the two terms paid and payable for judicial interpretation. 8.2.2 Meaning of terms payable and paid as per judicial dictionaries: (a) Oxford dictionary defines the terms payable and paid as under: payable (pay-a-ble) adjective [predic.] 1. (of money) required to be paid; due: interest is payable on the money owing send a check, payable to the ASPCA 2. able to be paid: it costs just $195, payable in five monthly instalments Noun (payables) debts owed by a business; liabilities. Paid: Past and past participle of PAY. (b) According to Blacks Law Dictionary (Seventh Edition) at p. 1150, the term payable is defined as a sum of money that is to be paid. Another meaning to the term payable is given as under:
An amount may be payable without being due. Debts are commonly payable long before they fall due. (c) According to Wests Legal Thesaurus/Dictionary: Paid means pay to discharge a debt. Payable : means Justly or legally due (payable immediately). Uncollected (Outstanding debts). Unpaid, undischarged, unsatisfied, unsettled, mature, owed, ripe, collectable, in arrears, redeemable. 8.2.3 Comparison of the provision as initially proposed to be enacted and after its enactment - On a comparison between the provision as initially proposed to be enacted and the one after its enactment it can be noticed that the Legislature consciously replaced the word amounts credited or paid with the word payable. By changing the words from credited or paid to payable the legislative intent has been made clear that only the outstanding amount or the provision for expense liable for TDS is sought to be disallowed in the event there is a default in making compliance of the obligation laid under Chapter XVII-B of the Act. 8.2.4 Decisions in favour of assessee - One of the first decisions on this point was dealt in the case of Teja Constructions v. Asstt. CIT [2010] 39 SOT 13 (Hyd.)(URO) wherein the provisions of section 40(a)(ia) were interpreted by applying Rule of Literal Construction and it was held that only those expenses can be disallowed which are payable at the end of the year, because the provision of section 40(a)(ia) uses the term amounts payable and not amounts paid. It was held that only those expenses can be disallowed, for default in deducting tax at source, which have not been actually spent by the assessee, though claimed in its books of account maintained on mercantile system of accounting. Also refer to K. Srinivas Naidu v. Asstt. CIT [2010] 131 TTJ 17 (Hyd.) (UO) and Mrs. Shah Charulata Milind vide ITA No. l318/PN/2008 (Pune Bench). In the case of Jaipur Vidyut Vitran Nigam Ltd. v. Dy. CIT [2009] 123 TTJ 888, the Jaipur ITAT relying on CBDTs Circular No. 5 of 2005,
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DIRECT TAX LAWS

dated 15-7-2005 held that the purpose of introducing section 40(a)(ia) was to augment TDS compliance and to curb bogus payments. Hence, the payments which have been made and not found to be bogus cannot be disallowed by invoking section 40(a)(ia) of the Act. The ITAT held that the bare provisions of section 40(a)(ia) provide for disallowance of expenses for non-deduction of amount which remains payable to a resident in respect of certain expenses. It is not applicable where expenditure is paid and is applicable only in cases where payments are due and outstanding. The word, payable is not defined, though the word paid is defined under section 43(2) to mean actually paid or incurred. Hence, by implication the word payable does not include paid or incurred. It placed reliance upon the decision of Teja Constructions case (supra). 8.2.5 Decisions against the assessee - There are following 2 decisions against the assessee and in favour of Revenue which have been pronounced by the Honble Kolkata ITAT: (a) Matrix Glass & Structures (P.) Ltd. [ITA No. 658 (Kol.) of 2010] - It was held that the plea that disallowance under section 40(a)(ia) can be made only on payable amount cannot be accepted. It held that such an interpretation would defeat the very purpose of enacting the said provision. Even if the sum payable is paid and TDS is not deducted and/or deposited, the provisions of section 40(a)(ia) would be attracted. Honble ITAT further held that when the literal construction produces unjust or unwarranted or absurd result, then such, literal construction has to be given a go by for the sake of implementing the provision. (b) Very recently, in Dy. CIT v. Ashika Stock Broking Ltd. [2011] 44 SOT 556/9 taxmann.com 7 (Kol.), the assessee made certain payments to contractors without making any TDS and the A.O. disallowed those payments by invoking provisions of section 40(a)(ia). On instant appeal, assessee contended that section 40(a)(ia) was not applicable in a case where sum had been paid, as impugned section was with reference to sums payable. The Honble Kolkata ITAT rejected the contention of the assessee and held that the issue had been considered by the ITAT, Kolkata Benches, Kolkata in ITA No. 1418 (Kol.)/ 09 vide order dated 15-1-2010 in the case of Poddar Sons Ex.L (P.) Ltd. v. ITO where it had been held as per para 6.6, that even if the sum payable or paid to the contractors or sub-contractors on which tax is deductible at source as per the provisions of the Act, section 40(a)(ia) will be attracted. Since assessee has not deducted TDS as per provisions of section 194C of the Act, it was held that the CIT(A) had rightly confirmed the action of the A.O. in making disallowance. Disallowance made by A.O. was upheld.
CONCLUSION
9. The law has developed in the recent times with respect to the provisions of section 40(a)(ia). While as the Constitutionality of the section has been upheld, the crack-down, in law, and the new centre-point has been the interpretation of words paid, payable and amounts payable. There are differing views of various Tribunals on the point. The air may be cleared now by either by a High Courts verdict or by the CBDTs intervention.
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DIRECT TAX LAWS
Concept of Facilitating NGOs
INTRODUCTION
1. In the current milieu of corporatisation of the charities sector and the increasing influence of CSR various new models of NGOs are emerging. One of the new models of charitable work is the concept of Mother NGO or a Facilitating NGO which does not implement programmes directly but generates funds and resources for its downstream NGOs. The issue here is whether such NGOs can be considered as charitable in nature and whether they can charge a facilitation fee without being deemed as a commercial entities? The judicial precedents on these issues have been given as FAQs in the following paras:
2. A CHARITABLE ORGANISATION WORKING THROUGH OTHERS ONLY

2.1 Can a Charitable Organisation be said to be existing for a particular purpose when it is not directly engaged in such a purpose but is working through various other charitable organisations? - In the case of Aditanar Educational Institution v. Addl. CIT [1997] 90 Taxman 528 the Honble Supreme Court laid down the ratio for determining the purpose for which an organisation exists. In this case the assessee was registered solely for the educational purposes but it imparted education through various registered schools and colleges. The department contended that the assessee itself was not providing any education directly, therefore, it could not be considered as existing solely for educational purposes. The Court observed that it would rather be unreal and hyper-technical to hold that the assessee-society was only a financing body and would not come within the scope of other educational institution as
MANOJ FOGLA
CA
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DIRECT TAX LAWS

specified in section 10(22). The relevant observation of the Court is as under : "It will be rather unreal and hyper-technical to hold that the assessee-society is only a financing body and will not come within the scope of other educational institution as specified in section 10(22). The object of the society is to establish, run, manage or assist colleges or schools or other educational institutions solely for educational purposes and in that regard to raise or collect funds, donations, gifts, etc. Colleges and schools are the media through which the assessee imparts education and effectuates its objects. In substance and reality, the sole purpose for which the assessee has come into existence is to impart education at the levels of colleges and schools and so, such an educational society should be regarded as an educational institution coming within section 10(22)." 2.2 The other relevant cases - The other relevant cases in this regard are: Addl. CIT v. Aditanar Educational Institution [1979] 118 ITR 235/[1980] 3 Taxman 56 (Mad.); CIT v. Rajagopal Educational Trust [Special Leave Petition No. 6281 of 1986]; Katra Education Society v. ITO [1978] 111 ITR 420 (All.); CIT v. Doon Foundation [1985] 154 ITR 208/22 Taxman 9 (Cal.); Agarwal Shiksha Samiti Trust v. CIT [1987] 168 ITR 751/[1988] 36 Taxman 165 (Raj.); Governing Body of Rangaraya Medical Colleges v. ITO [1979] 117 ITR 284 (AP); and Secondary Board of Educations v. ITO [1972] 86 ITR 408 (Ori.). [2011] 198 Taxman 63. In this case the assessee had received ` 2 crores as donation during the year and had donated ` 2.07 crore to various NGOs and institutions. The Assessing Officer argued that giving money to various organisations could not be considered to be a charitable activity. He further argued that the funds given as inter-charity donation might not have been applied for charitable purposes. It was held that the Assessing Officer had not pointed out violation of any provision of section 13 by the assessee. The Commissioner (Appeals) as well the Tribunal, both had found that the organisations to which donations were given by the assessee during the assessment year in question, were genuine charitable organisations. There was absolutely no material before the Assessing Officer to show that the funds given to those NGOs/institutions were used for personal benefit of the donor or any of its directors. 3.2 Can inter-charity donation be treated on par with direct implementation of Charitable Activities? - End justifies the means is what the Courts have consistently held in determining the charitable nature of an organisation. In CIT v. J.K. Charitable Trust [1992] 196 ITR 31/ [1991] 59 Taxman 602 (All.), it was held a charitable purpose may be served in more than one way. One is to directly contribute for the promotion of that cause; the other is to contribute money to another charitable organisation which advances that cause. In other words, the Allahabad High Court laid down the principles of treating the work done through another charity on par with doing the work directly. The Supreme Court in CIT v. Thanthi Trust [1999] 239 ITR 502, has also upheld the treatment of inter-charity donations as valid application of funds. In this case the Supreme Court further held that the Assessing Officer cannot deny exemptions even if the donee-trust has not expended the amounts received in the year of receipt. Similar views were also taken in CIT v. Aurobindo Memorial Fund Society [2001] 247 ITR 93/[2000] 108 Taxman 271 (Mad.) and CIT v. Matriseva Trust [2003]
3. A CHARITABLE ORGANISATION MOBILISING DONATIONS AND THEN GIVING THEM AS INTER-CHARITY DONATIONS
3.1 Can a Charitable Organisation be considered as charitable in nature when the entire donation mobilised is given as inter-charity donation? This issue was brought before the Delhi High Court in CIT v. HPS Social Welfare Foundation
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128 Taxman 261 (Mad.). To sum up, intercharity donations have been held as valid applications for the purposes of section 11(1)(a).
4. NGOs PROVIDING NON-FINANCIAL SUPPORT ONLY

4.1 Is it possible to create a Charitable Organisation which acts as a support organisation to another Charitable Organisation? (Such support need not be financial in nature) Charitable purpose has never been confined or given a narrow interpretation of expecting charities to physically implement the programmes themselves. The Courts have always held that any activity which directly or indirectly supports charitable activities or even charitable organisations should be considered as a charitable activity. There was an interesting case in the Delhi High Court where one NGO formed a charitable trust to manage its properties. The CIT denied its registration because according to him managing the properties of another NGOs was not a charitable purpose. The Delhi High Court in the case of DIT (Exemption) v. Pradan Property Holding Trust [IT Appeal No. 361/2007, dated August 16, 2010, ruled that a trust constituted for the management of properties of another charitable society should be considered as charitable in nature. The Court observed that the stated fact that the assessee does not carry on any independent charitable activity was not enough to deny it registration under section 12AA. It further observed that there was no reason why holding of properties cannot be said to be a charitable object.
of Income-tax (Exemptions) [2009] 183 Taxman 462 (Delhi), the assessee was a foundation setup by the Institute of Chartered Accountants of India (ICAI) with the main objective to make it an academy for imparting, spreading and promoting knowledge, learning, education and understanding in various fields related to profession of accountancy. It was a deemed company under section 25 of the Companies Act, 1956 and was having status of an academy. The assessee filed an application for claiming exemption under section 10(23C)(iv) taking a plea that it was covered by the expression charitable purposes as defined in section 2(15). The application was rejected on the grounds : (i) that the assessee had undertaken three research projects on behalf of the local bodies and had also received remuneration for those projects which amounted to doing business of providing professional services; and (ii) that the assessee had received monies from Infosys Technologies Limited in the form of Infosys Fellowship Fund and, though it was for grant of fellowship to deserving candidates for undertaking research projects, yet if a fellow would leave in the middle of the programme or would finish his research early with funds left in the account, only Infosys would decide how money was to be spent and, hence, the assessee could not be said to be doing any charitable activity in that regard. The issue raised was, whether merely on undertaking research projects at the instance of the Government/local bodies and taking remuneration for such projects, essential character of assessee-foundation could be said to have been converted into one which carried on commerce or business or activity or rendering any service in relation to trade, commerce or business? It was held that the charitable character would not change even if the foundation had charged fees against various projects.
5. CHARGING OF REMUNERATION OR ADMINISTRATIVE COST IN CASE OF A CHARITABLE PROJECT

5.1 Can any remuneration or fee charged against any Charitable Project be considered as a Commercial Activity? - In the case of ICAI Accounting Research Foundation v. Director General
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6. THE SUPREME COURT ON COMMERCIALITY AND EXISTENCE OF PROFIT FOR CHARITABLE ORGANISATIONS
6.1 Courts decision in some of the cases With regard to the issue of surplus generated by charitable organisation it is important to study the observations of the Honble Supreme Court in T.M.A. Pai Foundation v. State of Karnataka [2002] 8 SCC 481. The 11-Judge Constitution Bench has held that the private educational institutions are bound to generate funds for betterment and growth of the institutions for which there may be a surpluses for furtherance of education. Therefore, it is not only permissible but an important requirement to run the institutions of such strength. Further, in Aditanar Educational Institutions case (supra), the Honble Supreme Court has observed that when surplus is utilized for educational purposes i.e., for infrastructure development, it cannot be said that the institution was having the object to make profit. The Honble Supreme Court has rightly observed time and again that surpluses used for management and betterment of the institutions could not be termed as profit. If the stand of the Department/revenue is accepted to be correct, especially in the wake of the methodology adopted by the Assessing Officer in ascertaining profits, then no educational institution like the petitioner-society could be said to be existing solely for educational purposes, as in every case of an educational institution there is possibility of a profit. The Court further held that no profiteering does not imply that the institutions cannot have a reasonable surplus for future sustenance and expansion of the institute. It was held that upto 6-15 per cent of the profit could be considered as reasonable and legitimate. This issue was further reaffirmed by the Supreme Courts ruling in the case of P.A. Inamdar v. State of Maharashtra AIR 2005 SC 3226.
CONCLUSION
7. In the light of the various judicial precedants it can be said that the term charitable purpose is very broad one and is not confined to a narrow interpretation, i.e., the charitable work has to be directly implemented by the NGO. To sum up, the following ratios emerge from these judicial precedents :
u
A charitable organisation can be said to be existing for a particular purpose, even if it is not directly engaged in such a purpose but is working through various other charitable organisations. Inter-charity donation is treated on par with direct implementation of the charitable activities. A charitable organisation can be considered as charitable in nature, even if the entire donation mobilised is given as an inter-charity donation. The revenue cannot argue that the funds given as inter-charity donation might not have been applied for charitable purposes in the absence of any evidence. It is possible to create a charitable organisation which acts as a support organisation to another charitable organisation. Such support needs not be financial in nature. Reasonable remuneration or fee charged against any charitable project cannot be considered as a commercial activity. Existence of a surplus or profit as a part of charitable activity is permissible.
/SEC. 11
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INTRODUCTION
Uncharitable Face of Charity
1. Before amendment by the Finance Act, 2008 with effect from 1-4-2009, the definition of charitable purpose contained in section 2(15) of the Income-tax Act, 1961 (hereinafter called the Act) included relief of the poor, education, medical relief and the advancement of any other object of general public utility. The newly substituted section 2(15), however, is as follows: Charitable purpose includes relief of the poor, education, medical relief, preservation of environment (including watersheds, forests and wildlife) and preservation of monuments or places or objects of artistic or historic interest, and the advancement of any other object of general public utility : Provided that the advancement of any other object of general public utility shall not be a charitable purpose, if it involves the carrying on of any activity in the nature of trade, commerce or business, or any activity of rendering any service in relation to any trade, commerce or business, for a cess or fee or any other consideration, irrespective of the nature of use or application, or retention of the income from such activity. [Emphasis supplied].
Advocate, Chairman CBDT (Retd.)
G.N. GUPTA
PROFESSIONAL ASSOCIATIONS NO LONGER CONSIDERED AS CHARITABLE INSTITUTIONS BY THE REVENUE

2. Till the assessment year 2008-09 most of the professional associations were successfully claiming that they were engaged in the advancement of objects of general public utility, despite the fact that they were charging membership fees, selling professional journals to members and public, deriving considerable income from seminars and conferences and often, from educational activities as well. However, from the assessment year 2009-10 onwards, the revenue is more or less consistently holding that such professional associations are
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now hit by the mischief of the provisions contained in the proviso to section 2(15) and, therefore, are no longer entitled to be considered as charitable institutions. This matter is likely to spawn a lot of litigation as the underlying issue is highly debatable and the stand hitherto taken by the revenue, to say the least, is rather simplistic in view of the following reasons & case laws : 2.1 Rationale behind amendment to section 2(15) - At the very outset, it would be useful to understand the rationale behind the amendment to section 2(15) by the Finance Act, 2008. The best way to do so would be to refer to the relevant portion of the Memorandum explaining the provisions in the Finance Bill, 2008 reported in 298 ITR (St) 200201 which read as It has been noticed that a number of entities operating on commercial lines are claiming exemption on their income either under section 10(23C) or section 11 of the Act on the ground that they are charitable institutions. This is based on the argument that they are engaged in the advancement of an object of general public utility as is included in the fourth limb of the current definition of charitable purpose. Such a claim, when made in respect of an activity carried out on commercial lines is contrary to the intention of the provision. With a view to limiting the scope of the phrase advancement of any other object of general public utility, it is proposed to amend section 2(15) so as to provide that the advancement of any other object of general public utility shall not be a charitable purpose if it involves the carrying on of following activities : (a) any activity in the nature of trade, commerce or business or, (b) any activity of rendering of any service in relation to any trade, commerce or business, for a fee or cess or any other consideration, irrespective of the nature of use or application of the income from such activity, or the retention of such income, by the concerned entity. [Emphasis supplied] 2.2 CBDTs Circular no. 11 of 2008 on this issue - Similarly, it has been stated in the CBDTs Circular No. 11 of 2008, dated 19th December, 2008 [reported in 308 ITR (St.) 5] that an entity with a charitable object, inter alia, consisting of advancement of any object of general public was eligible for exemption under section 11 of the Act. However, it was seen that a number of entities who were engaged in commercial activities were also claiming exemption on the ground that such activities were for the advancement of objects of general public utility in terms of the fourth limb of the definition of charitable purpose. Therefore, section 2(15) was amended vide Finance Act, 2008, by adding a proviso. (emphasis supplied). Further, para 3 of the said circular read as : The newly inserted proviso to section 2(15) will apply to entities whose purpose is advancement of any other object of general public utility, i.e., the fourth limb of the definition of charitable purpose contained in section 2(15). Hence, such entities will not be eligible for exemption under section 11 or under section 10(23C) of the Act if they carry on commercial activities. Whether such an entity is carrying on an activity in the nature of trade, commerce or business is a question of fact which will be decided based on the nature, scope, extent and frequency of the activity. 2.3 Facts emerging from conjoint reading of the memo and CBDTs circular - A conjoint reading of the Memo Explaining the provisions of Finance Bill, 2008 & CBDTs Circular dated 19-12-2008 will make it abundantly clear that firstly, an entity not engaged in commercial activities will not be hit by the mischief of proviso to section 2(15) of the Act and secondly, whether an entity is carrying on an activity in the nature of trade, commerce or business is a question of fact. 2.4 The issue is no longer res integra after the decision in DIT (Exemptions) v. ICAI - In fact, this issue is no longer res integra in view of the decision of the Honble Delhi High Court, dated 19th September, 2011 in the case of DIT (Exemptions) v. Institute of Chartered Accountants
622
of India [2011] 14 taxmann.com 5. Briefly stated, the facts in that case were that for assessment year 2005-06, the ICAI filed its return of income declaring its income as Nil and this was accepted in an assessment framed under section 143(3) of the Act. Later on, on the grounds, inter alia that coaching activity undertaken by the ICAI amounted to business and not a charitable activity and, therefore, the ICAI was required to maintain separate books of account and, thus, there was a violation of section 11(4A) of the Act, the Director of Income-tax (Exemptions) (hereinafter called DI) set aside the assessment order under section 263 of the Act. On appeal by the ICAI, the Income-tax Appellate Tribunal examined the provisions of the Chartered Accountants Act, 1949 and found as follows : (i) that ICAI was created to regulate the provisions of Chartered Accountancy and for this purpose the Institute was required to provide education, training and monitor professional skills of the members and to provide education and training to students/article clerks, (ii) the fees charged from students/article clerks were not excessive. Expenditure was incurred for preparation of the study package, CD, etc., salary of the faculty and other professionals, printing and stationery, research and development. Study package included large question bank for which no separate cost was charged. The students registered for chartered accountancy are also provided on-line guidance through institutes own Website. At a very nominal cost, these services are provided to the students. The institute also provides computer training to the students registered with it, at a very low fee. ITAT, therefore, held that the ICAI was not doing any business by running coaching classes. Accordingly, the order passed by the DI under section 263 of the Act was cancelled.
The DI filed an appeal before the Honble Delhi High Court where one of the questions
of law which arose for consideration before the Delhi High Court was Whether the ITAT was justified in the eyes of law in the facts and circumstances of the present case in passing the impugned order that running of the coaching classes is a business activity and, therefore, is in violation of the provisions of Income-tax Act as also supported by judgment of the Patna High Court cited in 208 ITR 608 ? The Honble Delhi High Court after taking into consideration a large number of cases dealing with the question, what constitutes business, came to the conclusion that DI was not justified in holding that the ICAI was carrying on business by holding coaching classes and programmes for which fees were charged was like doing business and, therefore, dismissed the appeal filed by the revenue. 2.5 Landmark decision of Supreme Court in CST v. Sai Publication Fund - There is a landmark decision of the Honble Supreme Court of India in the case of CST v. Sai Publication Fund [2002] 258 ITR 70/122 Taxman 437. Sai Publication Fund was a trust created with the object of spreading the message of Saibaba. In furtherance of and to accomplish said object, the trust published books, pamphlets and other literature containing the messages of Saibaba, which were made available to the devotees on nominal charges to meet the costs. The issue before the Honble Supreme Court of India was whether Sai Publication Fund was a dealer engaged in carrying out business within the meaning of those words in section 2(11) and section 2(5A) of the Bombay Sales Tax Act, 1959 which run as follows :
Section 2(5A) business includes any trade, commerce or manufacture or any adventure or concern in the nature of trade, commerce or manufacture whether or not such trade, commerce, manufacture, adventure or concern is carried on with a motive to make gain or profit and whether or not any gain or profit accrues from such trade, commerce, manufacture, adventure or concern; and any transaction in connection with, or incidental or ancillary to, such trade, commerce, manufacture, adventure or concern.
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Section 2(11) dealer means any person who whether for commission, remuneration or otherwise carries on the business of buying or selling goods in the State, and includes the Central Government, or any State Government which carries on such business, and also any society, club or other association of persons which buys goods from or sells goods to its members. The Supreme Court cited and relied upon the following two observations in the case of Board of Revenue v. A.M. Ansari [1976] 3 SCC 512. (a) The words carrying on business require something more than merely selling or buying, etc. Whether a person carries on a business in a particular commodity must depend upon the volume, frequency, continuity and regularity of transactions of purchase and sale in a class of goods and the transactions must ordinarily be entered into with a profit motive. Such profit motive may, however, be statutorily excluded from the definition of business but still the person may be carrying on business. (b) In our view, if the main activity was not business, then the connected, incidental or ancillary activities of sales would not normally amount to business unless an independent intention to conduct business in these connected, incidental or ancillary activities is established by the revenue. It will then be necessary to find out whether the transactions which are connected, incidental or ancillary are only an infinitesimal or small part of the main activities. In other words, the presumption will be that these connected, incidental or ancillary activities of sales are not business and the onus of proof of an independent intention to do business in these connected, incidental and ancillary sales will rest on the department. If, for example, these connected, incidental or ancillary transactions are so large as to render the main activity infinitesimal or very small, then of course the case would fall under the first category referred to earlier. The Supreme Court in this case held This decision is directly on the point supporting the case of the respondent after noticing a number of decisions on the point including the decisions cited by the learned counsel before us. It may be stated that the question of profit motive or no profit motive is relevant only where person carries on trade, commerce, manufacture or adventure in the nature of trade, commerce, etc. On the facts and in the circumstances of the present case, irrespective of the profit motive, it could not be said that the trust either was a dealer or was carrying on trade, commerce, etc. The trust is not carrying on trade, commerce, etc., in the sense of occupation to be a dealer, as its main object is to spread the message of Saibaba of Shirdi, as already noticed above. Having regard to all aspects of the matter, the High Court was right in answering the question referred by the Tribunal in the affirmative and in favour of the respondent-assessee. We must, however, add here that whether a particular person is a dealer and whether he carries on business are matters to be decided on the facts and in the circumstances of each case.
CONCLUDING REMARK
3. The logical corollary which inexorably flows from a careful perusal of the aforesaid decision of the Supreme Court is that in the cases of many professional institutions whose main activity is not business, the connected incidental or ancillary activities of sales carried out in furtherance of and to accomplish their main objects would not, normally, amount to business, unless an independent intention to conduct business in these connected, incidental or ancillary activities is established by the revenue. Therefore, the issue whether a professional institution is or is not hit by the mischief of the proviso to section 2(15) of the Act will essentially depend upon the facts in the case of the professional institutions.
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Tax Accounting Standard on Government Grants and Accounting Standard 12 A comparative study
I
DINDAYAL DHANDARIA
CA
n this article, the author points out the similarities and differences between the TAS on Government Grants and the Accounting Standard (AS) 12 of ICAI and observes that TAS would have no material impact upon the computation of taxable income of a person as the accounting treatments prescribed by both the Standards are almost similar. TAS on Government grants only fulfils its object of doing away with alternative accounting treatment in AS.
COMPARATIVE STUDY OF TAS ON GOVERNMENT GRANTS AND AS - 12

1. Some of the similarities and differences on the important issues between the two are summarised hereunder: (i) Objectives & Scope - In view of the significance of the receipt of a Government grant by an enterprise, the objective of the Accounting Standard (AS) 12 has been to lay down an appropriate method of accounting for such grants so that the financial statements give an indication of the extent to which the enterprise has benefited from such grant during the reporting period. On the other hand, Tax Accounting Standard (TAS) on Tax Accounting for Government Grants lays
down the method for computation of income chargeable under the head Profits and gains of business or profession or Income from other sources. Thus, the TAS would not require any change in the financial statements prepared in accordance with AS 12. While computing the income from Government Grants, reconciliation between the income as per the financial statements and the income computed as per the TAS would be required to be presented. This will ensure that a taxpayer is not required to maintain two sets of books of account - one in accordance with the Accounting Standards issued by the ICAI/notified under the Companies Act, 1956 and another in accordance with the Accounting Standards notified under the Act.
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(ii) Definitions - Both the Standards, viz., TAS and AS 12 define the terms Government and Government Grants. The definitions of these two words in both the Standards are same except that: (a) While defining the word Government TAS expressly refers to both the Central Government and the State Governments. In AS 12 also, the word Government means both the Central and State Governments though it is not specifically stated. (b) TAS uses the word person instead of enterprise used in AS. (iii) Recognition of Government Grants - TAS provides that the Government grants should not be recognised until there is reasonable assurance that (i) the person shall comply with the conditions attached to them, and (ii) the grants shall be received. It further provides that recognition of Government grant shall not be postponed beyond the date of actual receipt. [Para 4]. AS makes a similar provision that the Government grants available to the enterprise should be considered for inclusion in accounts where there is reasonable assurance that the enterprise will comply with the conditions attached to them and it is reasonably certain that the ultimate collection will be made. But AS stipulates a further condition that such grants should be recognised where such benefits have been earned by the enterprise and states that mere receipt of a grant is not necessarily a conclusive evidence that conditions attaching to the grant have been or will be fulfilled. [Para 6 of AS]. Thus, the two Standards differ on the issue of recognition of a grant where the receipt thereof is not pursuant to earning of the same by the enterprise, i.e., where the same is received in advance. Where a grant has not been received but earned, AS stipulates that an appropriate amount in respect of such earned benefits, estimated on a prudent basis, should be credited to the income for the year even though the actual amount of such benefits may be finally settled and received after the end of the relevant accounting period. Such an accounting treatment is in accordance with the concept of accrual of income. (iv) Various purposes of Government Grants and accounting treatment therefor - TAS prescribes different accounting treatments for Government Grants considering the purposes of the grants, viz.: (a) Where it relates to a depreciable fixed asset; (b) Where it relates to a non-depreciable fixed asset; (c) Where it does not relate directly to the asset acquired; (d) Where it is receivable as compensation for expenses or losses; (e) Where it is in the form of non-monetary assets, given at a concessional rate. AS stipulates accounting treatment for all the above types of Government Grants except the one mentioned in (c) above. In addition, AS stipulates accounting treatment for Grants received in the nature of Promoters contribution. TAS does not deal with this kind of Grant meaning that it does not make any change in the accounting treatment prescribed by AS. (v) Accounting treatment where a Grant relates to a depreciable fixed asset - TAS stipulates that where the Government grant relates to a depreciable fixed asset or assets of a person, the grant shall be deducted from the actual cost of the asset or assets concerned or from the written down value of block of assets to which concerned asset or assets belonged to. [Para 5].
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On the other hand, AS stipulates two methods of presentation in financial statements of grants for the appropriate portions of grants related to specific fixed assets are regarded as acceptable alternatives, as follows: (a) Under one method, the grant is shown as deduction from the gross value of the asset concerned in arriving at its book value. The grant is, thus, recognised in the profit and loss statement over the useful life of a depreciable asset by way of a reduced depreciation charge. Where the whole, or virtually the whole, of the cost of the asset, the asset is shown in the balance sheet at a nominal value. (b) Under the other method, grants related to depreciable assets are treated as deferred income which is recognised in the profit and loss statement on a systematic and rational basis over the useful life of the asset. Such allocation to income is usually made over the periods and in the proportions in which depreciation on related assets is charged. [Paras 8.2 to 8.4 of AS] Thus, TAS does away with alternative methods and stipulates only one method which is similar to the first method stated in AS. However, this difference between TAS and AS does not have any impact on the financial results of a person. (vi) Accounting treatment where a Grant relates to a non-depreciable fixed asset TAS stipulates that where the Government grant relates to a non-depreciable asset or assets of a person requiring fulfilment of certain obligations, the grant shall be recognised as income over the same period over which the cost of meeting such obligations is charged to revenue. [Para 6].
Para 8.4 of AS contains similar stipulation and there is no difference between the two Standards. (vii) Accounting treatment where a Grant does not relate directly to the asset acquired TAS stipulates that where the Government grant is of such a nature that it cannot be directly relatable to the asset acquired, so much of the amount which bears to the total Government grant, the same proportion as such asset bears to all the assets in respect of or with reference to which the Government grant is so received, shall be deducted from the actual cost of the asset or shall be reduced from the written down value of block of assets to which the asset or assets belonged to. [Para 7]. Thus, TAS envisages proportionate reduction in the actual cost of the various assets collectively acquired. AS deals with Grants related to specific fixed assets in its paragraph 8. It does not specifically deal with grants which do not relate directly to the asset acquired and are collectively received for a number of assets. Thus, by making specific provision for proportionate reduction in the actual cost of such assets, TAS removes any scope for confusion in the matter of accounting treatment of grants collectively received for a number of assets. (viii) Accounting treatment where a Grant is receivable as compensation for expenses or losses - TAS stipulates that the Government grant that is receivable as compensation for expenses or losses incurred in a previous financial year or for the purpose of giving immediate financial support to the person with no further related costs, shall be recognised as income of the period in which it is receivable. [Para 8]. AS states that Grants related to revenue are either presented as a credit in the
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profit and loss statement (either separately or under a general heading such as Other Income) or alternatively, they are deducted in reporting the related expense. The alternative treatment envisaged in the above paragraph is possible only when the grant is received in the same year in which the expense is incurred. It may be noted that while TAS prescribes accounting treatment where the incurring of expenditure and the receipt of the grant falls in two separate reporting periods and permits accounting on cash basis, AS does not prescribe any accounting treatment for such a situation. (ix) Accounting treatment where a Grant is receivable as non-monetary assets, given at a concessional rate - TAS stipulates that the Government grants in the form of non-monetary assets, given at a concessional rate, shall be accounted for on the basis of their acquisition cost. [Para 10]. Para 7.1 of AS contains similar stipulation and there is no difference between the two Standards. AS further provides that non-monetary assets given free of cost are recorded at a nominal value. (x) Accounting treatment where a Grant is in the nature of Promoters contribution Para 10.1 of AS stipulates that where the Government grant is in the nature of promoters contribution, i.e. they are given with reference to the total investment in an undertaking or by way of contribution towards the total capital outlay (for example, central investment subsidy scheme) and no repayment is ordinarily expected in respect thereof, the grants are treated as capital reserve which can be neither distributed as dividend nor considered as deferred income. Since TAS has not dealt with this issue, it may be concluded that TAS does not want to make any change in the accounting treatment prescribed by AS. (xi) Accounting treatment of Refund of Government Grants - TAS provides that the amount refundable in respect of a Government grant referred to in paragraphs 6, 8 and 9 (i.e. grants related to a nondepreciable asset and as compensation for expenses or losses) shall be applied first against any unamortized deferred credit remaining in respect of the Government grant. To the extent that the amount refundable exceeds any such deferred credit, or where no deferred credit exists, the amount shall be charged to profit and loss statement. [Para 11]. TAS provides that the amount refundable in respect of a Government grant related to a fixed asset or assets shall be recorded by increasing the actual cost or written down value of block of assets by the amount refundable. Where the actual cost of the asset is increased, depreciation on the revised actual cost or written down value shall be provided prospectively at the prescribed rate. [Para 12]. AS provides for similar accounting treatment vide its Paragraphs 11.2 and 11.3. Thus, there is no difference between the two Standards on this issue. (xii) Disclosure - Para 13 of TAS provides that the following disclosures shall be made in respect of Government grants: (a) Nature and extent of Government grants recognised during the previous year by way of deduction from the actual cost of the asset or assets or from the written down value of block of assets during the previous year. (b) Nature and extent of Government grants recognised during the previous year as income.
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(c) Nature and extent of Government grants not recognised during the previous year by way of deduction from the actual cost of the asset or assets or from the written down value of block of assets and reasons thereof. (d) Nature and extent of Government grants not recognised during the previous year as income and reasons thereof. On the other hand, Para 23 of AS provides that the following should be disclosed: (a) the accounting policy adopted for Government grants, including the methods of presentation in the financial statements. (b) the nature and extent of Government grants recognised in the financial statements, including grants of non-monetary assets given at a concessional rate or free of cost. It seems that the aforesaid disclosures required by TAS would have to be made
in the statement computing the income of a person as TAS does not require a person to maintain books of account on the basis of TAS.
CONCLUSION
2. The gist of the above study is that: (a) Both the standards provide similar accounting treatment for Government grants received for different purposes. (b) There are changes in words, reduction in paragraphs, omission of examples, re-arrangement of paragraphs without having any effect on the main principles stated. (c) TAS does away with some of the alternative accounting treatments prescribed by AS. (d) TAS does not make any difference in computation of income of a person except where a Government Grant is received in advance (i.e. before a person earns it).
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DIRECT TAX LAWS
An insight into expenditure before commencement of business

INTRODUCTION
1. Expenditure incurred before commencement of business is combination of following two expenses: (a) Pre-incorporation expenses (or preliminary expenses); and (b) Pre-operative expenses.
PRE-INCORPORATION EXPENSES
NAVEEN WADHWA
CA
2. Pre-incorporation expenses or preliminary expenses are the expenses incurred before the
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incorporation of the company and these are borne by the promoters of the company. These expenses relate to the formation of an enterprise and are huge in amount, non-recurring and not related to the day-to-day operations. In case of a company, preliminary expenses generally include following: (a) Charges for drafting of legal agreement; (b) Charges for drafting and printing of memorandum and article of association; (c) Preparation of feasibility-cum-project report; (d) Payment of statutory fees for registration of company; (e) Stamp duty for the documents; (f) Advertisement expenses and; (g) Any other expenses incurred to bring into existence the corporate structure of the company. 2.1 Accounting treatment of pre-incorporation expenses 2.1.1 Accounting treatment of preliminary expenditure is dealt with by Accounting Standard (AS)-26: Intangible assets. As per para 56 of AS-26, expenditure on start-up activities (start-up costs) shall be written off to the profit and loss account in the year in which it is incurred, unless this expenditure is included in the cost of an item of fixed asset under AS 10. Start-up costs may consist of: (a) Preliminary expenses incurred in establishing a legal entity such as legal and secretarial costs; (b) Expenditure to open a new facility or business (pre-opening costs); (c) Expenditures for commencing new operations or launching new products or processes (pre-operating costs); (d) Expenditure on training activities; (e) Expenditure on advertising and promotional activities; and
(f) Expenditure on relocating or re-organizing part or all of an enterprise. 2.1.2 Further, in view of section 78 of Companies Act, 1956, the share premium received by the company on issue of securities can be used for writing off the preliminary expenses. The said section does not compel the company rather it gives an option to the company to write off the preliminary expenses against security premium. To sum up, the preliminary expenses can be written off against security premium or alternatively it can be debited to the profit and loss account. 2.1.3 Allocation of pre-incorporation expenses - In this regard, Expert Advisory Committee of ICAI has given an opinion on the query raised by a company whether preliminary expenses can be capitalized with actual cost of fixed asset that the start-up costs of the nature of incorporation expenses incurred for bringing the enterprise into existence in its corporate form cannot be said to be attributable to bringing an asset/ project into existence. Accordingly, the same cannot be capitalized even as an indirect element of cost of the asset/project. 2.2 Tax treatment of pre-incorporation expenses Section 35D of the Income-tax Act, 1961 (the Act) provides for deduction of preliminary expenses. These expenses are bifurcated into two parts by virtue of section 35D of Act: (i) expenditure incurred before commencement of business; and (ii) expenditure incurred after commencement of business, in connection with the extension of the undertaking or in connection with setting up a new unit. However, only specified expenditures, as mentioned in section 35D(2), are eligible for deduction under this section, namely: (a) expenditure in connection with: (i) preparation of feasibility report; (ii) preparation of project report;
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(iii) conducting market survey or any other survey necessary for the business of the assessee; (iv) engineering services relating to the business of the assessee. (b) legal charges for drafting any agreement between the assessee and any other person for any purpose relating to the setting up or conduct of the business of the assessee; (c) where the assessee is a company, also expenditure: (i) by way of legal charges for drafting the Memorandum and Articles of Association of the company; (ii) on printing of the Memorandum and Articles of Association; (iii) by way of fees for registering the company under the provisions of the Companies Act, 1956; (iv) in connection with the issue, for public subscription, of shares in or debentures of the company, being underwriting commission, brokerage and charges for drafting, typing, printing and advertisement of the prospectus; (d) such other items of expenditure (not being expenditure eligible for any allowance or deduction under any other provision of this Act) as may be prescribed. 2.2.1 It must be noted that preliminary expenditure shall be allowed as deduction in 5 equal instalments beginning with the previous year in which the: (a) business commences; (b) the extension of the undertaking is completed; or (c) the new unit commences production or operation. 2.2.2 Exclusive list of specified expenditure - Section 35D - Section 35D of the Act provides the exclusive list of expenditure eligible for deduction under this provision. Any expenditure incurred before commencement of business, notwithstanding it is recognized in the books of account as preliminary expenditure, shall not be allowed as deduction under section 35D unless it is provided specifically under section 35D(2). 2.2.2A Expenditure on Private Placement of equity shares - Not falling in purview of section 35D In the case of Beautex (India) (P.) Ltd. v. ITO [2009] 34 SOT 465 (Delhi), the assessee-company claimed that it had incurred certain preliminary expenses for increasing share capital by way of private placement and, accordingly it was claimed as deduction under section 35D. The Tribunal held that the expenditure had been incurred for raising capital by private placement. Therefore, the expenditure incurred could not be said to have been incurred in connection with extension of an existing undertaking or setting up of a new unit. Accordingly, expenditure incurred could not be allowed under section 35D. Under section 35D(2)(c)(iii) only fees paid for registration of a company is deductible. Fees paid for increase in share capital is not fees for registration of the company and, hence, is not allowed as deduction under section 35D 1. 2.2.3 Section 35D does not override Section 37(1) Section 35D grants a deduction in respect of expenditure which may otherwise be disallowable on the ground that it is of capital nature or is incurred prior to the setting up of the business. In other words, the expenditure which is otherwise allowable as revenue expenditure (for example, debenture issue expenses) cannot be brought within the purview of this section. However, if any capital expenditure or expenditure incurred before commencement of business is not claimed as deduction under section 35D (provided it is allowable under said section), it cannot be claimed as deduction under section 37(1).
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Section 35D cannot be regarded as a specific provision, overriding the general provision of section 37(1). Both section 35D and section 37(1) are enabling provisions and are not mutually exclusive. 2.2.3A Fees paid to increase the share capital is not deductible at all - Where fees paid to increase the share capital is not allowed as deduction under section 35D because it is not connected with either: (a) registration of company; or (b) issue of shares for public subscription, the alternative claim of the assessee under section 37(1), on the ground that increase was meant to provide additional finance for companys activities and as such payment of fees was incidental to its business, shall not be entertained. Since the expenditure incurred in connection with issue of shares with a view to increase share capital was directly related to expansion of capital base of company and was capital expenditure, it shall not be allowed as deduction either under section 35D or section 37(1) 1. 2.2.3B Debenture issue expenses can be claimed under section 37(1) or section 35D - In Shree Synthetics Ltd. v. CIT [2008] 303 ITR 451 (MP), the High Court held that expenditure incurred by the assessee towards execution of debenture issue was in the nature of preliminary expenses thereby falling within the four corners of section 35D and hence, should be allowed as deduction in the manner provided in the said section, i.e., section 35D. However, in the case of Dy. CIT v. Modern Syntex (India) Ltd. [2005] 3 SOT 27, the Jaipur ITAT held that expenditure incurred on issue of partly convertible debentures and fully convertible debentures is allowable as revenue deduction notwithstanding provisions contained in section 35D.
As there are contrary decisions on allowability of expenses on the issue of debentures, it is advisable to claim the said expenditure under section 37(1). Otherwise, assessee shall lose the time value of money because debenture issue expense is allowed as deduction upfront under section 37(1), whereas under section 35D it is allowed in equal instalments in 5 previous years. 2.2.4 Allowability of expenditure for extension of undertaking - Any capital expenditure incurred after commencement of business, which is otherwise not allowable as deduction under section 37(1), may be claimed as deduction under section 35D, provided such expenditure is: (a) specifically provided under section 35D; and (b) incurred in connection with the extension of an undertaking or in connection with setting up a new unit. The expression used in the statute is extension of undertaking. A great emphasis has to be given on the expression undertaking. Business expansion and market expansion of an existing business will not amount to extension of the undertaking. An undertaking is always having an area of physical structure which produces goods and services by utilising the necessary factors of production. Enhancement of the geographical area of marketing does not amount to expansion or extension of the undertaking. It clearly manifests that an apparent extension or expansion must take place in the physical undertaking2. Therefore, any capital expenditure incurred by an assessee shall not be allowed as deduction, unless: (a) such expenditure is specifically mentioned in section 35D; and (b) it is incurred in connection with actual extension of an undertaking.
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PRE-OPERATIVE EXPENSES
3. Pre-operative expense, on the other hand, is a wider term and it includes all expenses incurred after company formation but prior to commercial production. Pre-operative expenses are those which are connected with actions that are required for start-up of operations. Pre-operative expenditure can, therefore, be capitalized by apportionment/ allocation to assets which are the subject matter of operation. 3.1 Accounting treatment of pre-operative expenses 3.1.1 Pre-operative expenses of capital nature are to be capitalized with the cost of fixed assets in relation to which they have been incurred. Further, there are few revenue expenses which are directly attributable to the asset under construction, i.e., salary of engineers and technicians engaged in installation of plant. These expenses are also apportioned to the asset under construction and capitalized with cost of such asset at the time of commissioning. The cost directly attributable to acquisition or construction of an asset can be following: (a) Site-preparation; (b) Initial delivery and handling costs; (c) Installation costs, i.e., construction of special foundation for plant; (d) Professional fees, i.e., architect and engineers fees. Such expenses are allocated to the acquired or constructed asset and forms part of actual cost of acquisition of asset. 3.1.2 Now a question arises what treatment shall be given to the general and administrative cost incurred during the course of construction of asset or before actual commencement of business. The nature of general and administrative expenses can be understood with the following example. Example - A newly incorporated company intends to start a power generation plant. It engaged a consultant and architect to develop the plan and to handle general office work. It hired 2 office staff and 1 accountant to process the salary, payment to contractors, payment for purchase of construction material and to take care of all accounting and statutory work. As per para 9 of AS-10: Accounting for fixed assets, administration and other general overhead expenses are usually excluded from the cost of fixed assets because they do not relate to a specific fixed asset. However, in some circumstances, such expenses as are specifically attributable to construction of a project or to the acquisition of a fixed asset or bringing it to its working condition, may be included as part of the cost of the construction project or as a part of the cost of the fixed asset. Therefore, the entire cost of consultant and architect shall be allocated to cost of fixed assets, whereas, salary of accountant can be allocated on some reasonable basis. Salary of office staff shall be debited to profit and loss account only because it has no nexus, direct or indirect, with construction of power plant. 3.2 Tax treatment of pre-operative expenses It is a well established principle that all expenses, as envisaged in section 30 to section 37, are allowed as deduction if they are incurred during the course of carrying on the business and are directly and intimately connected with the business. The expression for the purpose of the business as used in section 37(1) refers to a business that is being carried on by the assessee. Thus, any expenditure incurred before the setting up of a business cannot be deducted. However, such expenditure can be treated differently, say, it can be capitalized with actual cost of capital asset or it can form part of work-inprogress, etc. 3.2.1 Capitalization with actual cost of fixed asset All pre-operative or pre-production expenditure,
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which has direct or indirect nexus with the acquisition or creation of fixed asset, have to be capitalized. Where any capital asset, say a crane is used in construction of a building, the depreciation on such crane shall be regarded as pre-operative expenditure and will form part of actual cost of building constructed. A reference can be made to the decision of the Supreme Court of India in case of Challapalli Sugars Ltd. v. CIT [1975] 98 ITR 167. In this case the Supreme Court held that the expression actual cost of an asset should include all expenditure necessary to bring such an asset into existence and to put it in working condition. The Court held that the expression actual cost should be construed in the sense which no man of commerce would misunderstand. For this purpose, it would be necessary to ascertain the connotation of this expression in accordance with the normal rules of accountancy prevailing in the commerce and industry. There should be nexus between expenditure incurred with setting up of business
u
In the case of CIT v. Bharat Agrico Co. [1999] 102 Taxman 296 (Pat.), the assessee capitalised along with cost of machinery, pre-operative expenses which included interest paid to partners prior to start of business. The High Court held that the payment of interest to the partners had no nexus, direct or indirect, with the setting up of the business; hence, it could not be added to actual cost of machinery for capitalisation. In the case of Kapur Sons & Co. v. CIT [1985] 23 Taxman 66 (Delhi), the Court had held that certain expenses such as rent and taxes cannot be capitalised to the cost of building (cinema hall), as such expenses are not paid in connection with construction of such building. In this case the Court referred to the nature of expenses, being ground rent and tax paid to Municipal Corporation, for the inclusion of these expenses incurred in the construction of the cinema hall. The Court held that there has to be some nexus between expenses and actual cost.
In the case of Gujarat Ambuja Cements Ltd. v. Asstt. CIT [2005] 4 SOT 59 (Mum. ITAT), the assessee started commercial production since October 1986. Prior to this, assessee charged depreciation on some fixed assets, which were put to use before start of commercial production. Assessee capitalized pre-operative expenses including depreciation on such assets in accordance with accounting practices of ICAI. The Tribunal held that assessee was entitled to depreciation as per rules on capitalized value of pre-operative expenses including depreciation charged on assets used in pre-operative period. In case, the expenditure incurred has no nexus, whether direct or indirect, with the setting up of a business or the installation of the machinery, it can neither be allowed as deduction nor it can be capitalized with actual cost of capital asset.
3.2.2 Allowable as revenue expenditure if there is an extension of business - Any expenditure, to be regarded as pre-operative expenditure, should be incurred before commencement of business. However, where there is an extension of an established business, any expenditure incurred before commencement of extended business shall be an allowable expenditure, provided there is complete interlacing of funds, unity of control, common management, common administration, etc., pervading two lines of activity. 3.2.2A In the case of Dy. CIT v. Modern Syntex (India) Ltd. [2005] 3 SOT 27, the Jaipur Tribunal held that in case of expansion of existing business, expenditure incurred for such purpose was to be considered as revenue expenditure and therefore, was allowable as business expenditure. 3.2.2B To establish that new business line is an extension of an established business, the
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enterprise should prove that there is an interlacing and inter-dependence between businesses carried on by the enterprise. Interlacing and interdependence is primarily judged on following criteria 3: (a) Unity of control; (b) A common management; (c) A common business organization; (d) A common administration; (e) A common fund; and (f) A common place of business. In the case of Kalyani Steels Ltd. v. Dy. CIT [1997] 62 ITD 233, the Pune Tribunal held that management, funds, place of business of new undertaking and of established undertaking was common. Thus, interest expenses incurred in connection with new undertaking and claimed as pre-operative expenses could be allowed as deduction. In Jay Engineering Works Ltd. v. CIT [2008] 166 Taxman 115 (Delhi), the assessee-company was manufacturing fans and sewing machines at various units. It undertook a Fuel Injection Equipment Project in Hyderabad. Assessee claimed that pre-operative expenses incurred in relation to said project like testing charges, interest charges, bank commission, foreign travelling, etc., were in nature of revenue nature. The Assessing Officer rejected assessees claim holding that said pre-operative expenditure was in nature of expenses incurred in connection with setting up of a new line of business and, therefore, said expenditure was capital expenditure. The Delhi High Court held that new venture was managed from common funds; control over two units was in hands of same management and administration; and there was necessary unity of control leading to an inter-connection, inter-dependence and inter-lacing of two ventures. It could be said that Fuel Injection Equipment Project was only an extension of existing business of assessee. Therefore, preoperative expenditure incurred by assessee on said project was revenue expenditure. 3.2.3 Setting up of business v. Actual commencement of business - From the above discussion, it is established that all expenses incurred before commencement of business is not allowed as deduction. Now the question arises at this juncture, whether all expenses incurred before actual commencement of business, but incurred after business is ready to be commenced, are disallowed. The answer is No. This question is considered by the Delhi High Court in the case of GNS Stock Holdings (P.) Ltd. v. Dy. CIT [2011] 12 taxmann.com 376/ 46 SOT 510. The High Court held that: (a) The actual commencement of the business may have some interval from the date when the business was set up, but in order to hold that the business is set up, it is to be seen as to whether it was ready to commence though actual commencement might not have been taken place. (b) It is only after the date of setting up of the business that the previous year of the newly set up business would commence, and the expenses incurred prior to the date of setting up of business could not be taken into account for the purposes of determining the profits of a newly set up business. (c) The assessee is entitled to admissible business expenses from the day when the assessees business could be said to have been set up from the day when the business was ready to commence and not from the date of actual commencement of the business.
CONCLUSION
4. Any preliminary or pre-incorporation expenses shall be amortised in profit and loss account upfront or alternatively it can be written off against security premium.
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However, for the computation of income-tax, such expenditure shall be allowed as deduction in 5 equal instalments subject to conditions specified in Section 35D, namely:
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or construction of a new asset. If expenses are not attributable to acquisition of a fixed asset or setting-up of a new business, it will be charged to profit & loss account. For income-tax purpose, pre-operative expenses shall form part of actual cost of asset, if it has direct or indirect nexus with acquisition of capital asset. Pre-operative expenditure, unless they form part of cost of capital asset, will be a sunk cost and not allowed as deduction if there is no nexus between expenses and acquisition of asset. The entire discussion can be assimilated through following chart. A revenue expenditure incurred by a company at different levels shall be treated as under:
the expenditure is mentioned specifically in section 35D(2); the expenditure is incurred before commencement of business; or the expenditure is incurred after commencement of business, in connection with the extension of an undertaking or in connection with setting up a new unit.
Pre-operative expenses shall form part of actual cost of an asset in accordance with Accounting Standard-10: Fixed assets, if such expenses are directly or indirectly attributable to acquisition
1. CIT v. Hindustan Insecticides Ltd. [2001] 116 Taxman 406 (Delhi) 2. Medreich Ltd. v. Dy. CIT [2011] 15 taxmann.com 371 (Bang. - Trib.) 3. B.R. Ltd. v. V.P. Gupta, CIT [1978] 113 ITR 647 (SC)
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DIRECT TAX LAWS
1. Whether proportionate disallowance can be made under section 40(a)(ia) due to the less deduction of TDS?
One interesting and beneficial judgment has recently been given by the Tribunal in the case of Dy. CIT v. S.K. Tekriwal [2011] 15 taxmann.com 289 (Kol. - Trib.) which shall undoubtedly help in setting aside the objections of the revenue and the consequent proportionate disallowance of expenses by applying the provisions of section 40(a)(ia). It shall cover the case of less deduction of TDS due to the difference of opinion about provisions applicable. The Tribunal has held that as section 40(a)(ia) does not cover the case of lower deduction of tax at source but is only applicable where there is no deduction at all and where tax is not paid after deduction by the assessee and, hence, has concluded that where there is a deduction of tax by the assessee, though at a lower rate due to the difference of the opinion about the provisions applicable, yet the related expense cannot be disallowed by the revenue.
TDS Issues
2. Whether an assessee can be treated as an assessee-in-default under section 201 unconditionally for less deduction of TDS?
In the above cited case law it has been held that an assessee can be declared as an assesseein-default under the provisions of section 201 where there is less deduction of TDS. This question calls for deciding the fact whether the provisions of section 40(a)(ia) should be treated at par with the provisions of section 201, as far as the shorter deduction of TDS is concerned, meaning thereby that when both sections, i.e., sections 40(a)(ia) and 201 intend to strengthen the recovery of tax deducted at source then what is the reason of giving relief under the provisions of the former when there is less deduction of TDS but no relief under the provisions of the later in the same circumstances, i.e., for less deduction. Although
GAURAV PAHUJA
CA
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the decision of the Tribunal in the above said case is in accordance with the provisions of section 40(a)(ia), as it does not cover the case of less deduction, yet, at the same time, the decision given by the Honble Supreme Court in the case of Hindustan Coca Cola Beverage (P.) Ltd. v. CIT [2007] 163 Taxman 355, seems to have been ignored altogether, which provided that where the deductee, recipient of income, has already paid the taxes on amount received from the deductor, the department once again cannot recover tax from the deductor on the same income by treating the deductor to be an assessee-in-default for shortfall in amount of tax deducted at source. Thus, it would not be appropriate to say unconditionally that an assessee can be treated as an assessee-in-default when there is less deduction of TDS by an assessee and the same can be done only when the recipient didnt pay the taxes due on the amount received from the deductor, subject to other relevant provisions of the Act.
which comes under the purview of section 194J. However, the term other personnel as used here is in relation to the managerial, technical or consultancy services, thus, it must not be correlated with some other kind of personnel CIT v. McDowell & Co. Ltd. [2009] 314 ITR 167/180 Taxman 514 (SC). Also, in order to bring consideration received for rendering a service under fee for technical services it is necessary that some technical know-how must be provided by a human element. In view of the above, where no technical knowhow is provided but only a standard service is provided to the customers, e.g., for the movement of the containers, it cannot be treated as the rendering of a technical service bringing it under the purview of section 194J and the same should come under the provisions of section 194C. Similar view is taken by the ITAT, Mumbai Bench B in the case of Asstt. CIT v. Merchant Shipping Services (P.) Ltd. [2011] 129 ITD 109/9 taxmann.com 17.
3. Whether payment of consideration by a shipping agent to another person for the shifting of the cargo of its customers through various types of cranes owned by such another person should be subject to tax deduction under section 194C or 194J?
No doubt, the shifting of the cargo involves the use of heavy cranes and the use of knowledge and the skills of the persons engaged in handing the containers while they are in the process of loading and unloading but should such knowledge and skills be treated as the technical knowledge resulting into providing a technical service becomes a moot question in determining the applicability of section 194C or 194J. Further, the recipient shall always prefer lower deduction and, thus, would like to follow the provisions of section 194C. Moreover, the use of the expression other personnel in the Explanation (2) to section 9(1)(vii), intends to widen the scope of the fee for technical services
4. Whether section 194C is applicable only when there is a sub-contractor directly employed for the execution of a contract or it would be applicable even when the execution of a contract is done through a sister concern?
The said controversy arose due to the use of the expression any person responsible for paying any sum to any resident in section 194C. According to the simple reading of the section, TDS is applicable even when payment is made to a sister concern by an assessee. However, the basic intention of the section should also be given its due importance before a conclusion is drawn. Although the section seeks to bring any such sum under tax net which is paid by an assessee for carrying out any work by another person for the assessee, yet its intention cannot be to charge a sum of money which is paid by an assessee to another establishment which is its sister concern and
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this kind of routing is done just for the sake of simplifying a transaction or for the purpose of smooth execution of the contract. Doing so shall be equivalent to a situation where tax is paid for transferring the money from one pocket of a person to his another pocket. Further, this controversy is answered by the first appellate authoritys Bangalore Bench, in the case of Sands Advertising Communications (P.) Ltd. v. Dy. CIT (TDS) [2010] 37 SOT 179 in favour of the assessee. of the term profits in lieu of salary becomes significant here. In addition, the manner and the way of collection and distribution of tips to the employees has to be considered, e.g., the tips are paid by the customers on their own once they are pleased with the service rendered to them or the tip is charged compulsorily from them by way of a service charge and is included in the bills raised by the hotels, which on collection comes under the books of account of the hotels first and then is paid to employees. As far as the importance of existence of a relationship of employer and employee is concerned, it shall be there, irrespective of the way of collection and disbursement of tips, as the employee is getting the tips in addition to the salary for the services rendered by him to his employer. The Honble Delhi High Court in the case of CIT v. ITC Ltd. [2011] 199 Taxman 412/11 taxmann.com 84, held that the receipt of tips by the employees is chargeable under the head Salaries and, thus, is liable for TDS deduction under section 192 of the Act as section 17 widens the scope of section 15 of the Act. Further, in the said case it is mentioned that the tips were collected from the customers by way of service charges and were to be paid to the assessee necessarily and without any option to the customers, thus, such payment was not gratuitous or voluntary contribution by the customers. Also, when such tips were collected by the assessee it was routed through its books of account and when it was finally disbursed among the employees of the assessee, it made the deduction of TDS mandatory under section 192 of the Act. Thus, it is implied that where an employer does not collect the tips by way of a service charge through its inclusion in the bills issued to its customers and the employees collect the tips from the customers directly, which is gratuitously paid by the customers without any compulsion, the same cannot be brought to tax deduction under section 192 and shall probably escape assessment.
5. Whether TDS is to be deducted under section 192 by the hotel employers at the time when they pass on the tips collected by them to their employees by treating them as a part of salary of such employees or these should be treated as an income from other sources in the hands of recipients?
Section 192 which provides for the TDS deduction on the payment of salary by a person is reproduced below: any person responsible for paying any income chargeable under the head salaries shall, at the time of payment, deduct income-tax on the amount payable at the average rate of income-tax computed on the basis of the rates in force for the financial year in which the payment is made, on the estimated income of the assessee under this head for that financial year. Thus, in order to bring a payment under the purview of the above said section, it is mandatory that it should be chargeable under the head salaries. Further, the terms salary, perquisite and profits in lieu of salary are defined under section 17 of the Income-tax Act, 1961. Apparently the tips collected by the hotel employers and given by them to their employees does not come under the purview of salary or perquisite. However, the scope
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LANDMARK RULINGS
An Overview of Latest Judgments on Direct Tax Laws
Unabsorbed book losses for the purpose of MAT shall not be computed in accordance with section 70 to section 79
| In Susi Sea Foods (P) Ltd. v. Asstt. CIT [2011] 15 taxmann.com 232 (Visakhapatnam - Trib.), for the purpose of the MAT provision, the assessee bifurcated its accumulated loss shown in its books of account into business loss and depreciation. As depreciation was less than business loss, it deducted same from the net profit. The Assessing Officer, however, deducted business loss of the earlier years from profits earned in the subsequent period and computed the business loss at nil. Accordingly, the accumulated losses appearing in its books of account were held to be unabsorbed depreciation. Further, applying provisions of the Incometax Act in respect of carry forward of business loss, it also ignored losses of more than 8 years. The Tribunal remanded the matter - The Tribunal remitted back the matter to the Assessing Officer with following observations: 1. Principles prescribed in sections 70 to 79 are not applicable for computing accumulated losses shown in books of account following accounting principles; 2. There is drastic variation between incometax provisions and accountancy principles in respect of manner of carry forward and set off of losses and, hence, both systems should not be mixed, lest it would give misleading results; 3. Sections 70 to 79 provide for set off or carry forward and set-off of losses under the Act only; manner of set-off or modalities of carry forward and set-off of loss to be followed for book purposes is nowhere prescribed in the Act; thus, section 115JA(4) cannot have application for said purpose; and 4. Loss incurred in a year cannot be ignored, i.e., it is not possible to omit past losses from books of account under double entry system of accounting. [Section 115JA, read with sections 70 and 79, of the Income-tax Act, 1961 - Minimum alternate tax - Assessment year 2000-01]
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Expenses on improvements made in the newly purchased house shall not form part of the cost of acquisition
In Smt. S. Sudha v. Asstt. CIT [2011] 15 taxmann.com 212/48 SOT 335 (Chennai - Trib.), the assessee purchased a residential apartment and claimed deduction under section 54F which included the price as per sale deed, stamp charges, registration charges, advocates, fees, brokerage, tiles laying, white-washing, electrical rewiring and wood work.
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The Tribunal partly held in favour of assessee It held that expenses relating to laying of tiles, white-washing, electrical re-wiring and wood work were incurred by the assessee after purchasing the property, which could not be treated as part of the acquisition cost. The amount spent by the assessee to improve the habitability might have been an essential expenditure, but it couldnt form part of the cost of acquisition. However, regarding the expenses incurred in relation to advocates fees and brokerage, the Tribunal held that legal scrutiny of title deeds and documents is very essential in purchasing immovable properties. Therefore, the exclusion of brokerage and advocates fees from the cost of acquisition of the new property was not justified. [Section 54F of the Income-tax Act, 1961 - Capital gains - Exemption of, in case of investment in residential house - Assessment year 2008-09]
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account; if there is only some shortfall in deduction of tax due to any difference of opinion as to taxability of any item or nature of payments falling under various TDS provisions, assessee can be deemed to be an assessee-in-default under section 201 but no disallowance can be made by invoking provisions of section 40(a)(ia). [Section 40(a)(ia), read with sections 194-I and 194C, of the Income-tax Act, 1961 - Business disallowance - Interest, etc., payable to a resident without deduction of tax at source - Assessment year 2007-08]
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Expenditure on installation of accounting software is a revenue expenditure

| In CIT v. Asahi India Safety Glass Ltd. [2011] 15 taxmann.com 382 (Delhi), assessee was in business of manufacturing safety glass used in automobiles. It entered into an agreement with A for installation of a software application for assistance in areas of financial accounting, inventory and purchase. As software application supplied by A worked on Oracle application, A required assessee to enter into a licence agreement with Oracle also. In respect of aforesaid transactions, assessee incurred certain expenditure and claimed deduction thereof as a revenue expenditure. Assessing Officer disallowed deduction holding that expenditure incurred had brought about an enduring benefit to assessee. On appeal, Commissioner (Appeals) as well as Tribunal allowed deduction of aforesaid expenses holding that said expenses were recurring in nature, expended either to upgrade system or to run the system. The High Court held in favour of assessee It held that expenditure incurred to enable management to run its business effectively, efficiently and profitably, leaving fixed assets untouched, would be an expenditure in nature of a revenue expenditure, even though advantage may last for an indefinite period. Extent of expenditure cannot be a decisive factor in determining the nature of expenditure. Therefore, the expenditure incurred by the assessee on
No disallowance under section 40(a)(ia) if there is a shortfall in deduction of tax at source, however, assessee shall be deemed to be an assessee-in-default
In Dy. CIT v. S.K. Tekriwal [2011] 15 taxmann.com 289 (Kolkata - Trib.), assessee was engaged in the business of construction. The Assessing Officer noticed that the assessee had debited certain payments in the profit and loss account under the head Machine hire charges and tax at the rate of 1% was deducted from such payments. The Assessing Officer concluded that the payments were made for hiring of machines, and that the provisions of section 194-I were applicable and so, tax should have been deducted at the rate of 10%. The Assessing Officer then made proportionate disallowance under the provisions of section 40(a)(ia). The Tribunal held in favour of assessee - It held that section 40(a)(ia) refers only to a duty to deduct tax and to pay it to Governments
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account of software and professional expenses was a revenue expenditure. [Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Assessment years 1997-98 and 1998-99]
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| Exemption under section 54F could not be restricted to 50% merely because property was purchased jointly in names of assessee and his wife In CIT v. Ravinder Kumar Arora [2011] 15 taxmann.com 307 (Delhi), assessee had shown certain long-term capital gain on sale of a plot of land and claimed exemption under section 54F on account of purchase of new residential property. Assessing Officer allowed only 50% of exemption claimed on ground that residential house was purchased jointly in names of assessee and his wife. On appeal, Tribunal allowed assessees claim in full by recording finding of fact that whole of purchase consideration was paid by assessee and property was purchased by assessee in joint name with his wife for shagun purpose and because of fact that assessee was physically handicapped. The High Court held in favour of assessee It held that section 54F mandates that house should be purchased by assessee; it does not stipulate that house should be purchased in name of assessee only. Therefore, the Tribunal was justified in allowing exemption under section 54F for total consideration paid by assessee. [Section 54F of the Income-tax Act, 1961 - Capital gains - Exemption of, in case of investment in residential house]
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consideration of surrendering his tenancy rights, the assessee was given certain premises by the developer who had developed the property in which the assessee had the tenancy rights in question. This property was sold by the assessee in the year 1995. The assessees submission was that since this property was acquired without any cost of acquisition, income arising on the sale thereof could not give rise to any taxable capital gains. The Assessing Officer rejected his claim. On appeal, the Commissioner (Appeals) was of the view that market value of tenancy right, i.e., the date on which the assessee was given free premises by the developer, was the cost of his acquisition in respect of the asset sold. The Tribunal held in favour of revenue - It held that the market value of tenancy right at the time when it was surrendered, was to be regarded as cost of acquisition of premises and, thus, when said premises was sold, subsequently, income arising from its sale was to be brought to tax as capital gains. Further, the Tribunal held that there is an important distinction between an asset not having cost of acquisition and an asset cost of acquisition of which cannot be determined. The former could lead to taxable capital gains and the sale of latter one cannot lead to taxable capital gains. [Section 48 of the Income-tax Act, 1961 - Capital gains - Computation of - Assessment year 199697]
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Exemption under section 54F shall be available on purchase of two floors forming part of single residential unit
FMV of tenancy right shall be the cost of acquisition for computation of capital gain on surrender of tenancy rights
| In Balmukund P. Acharya v. ITO [2011] 15 taxmann.com 244 (Mumbai - Trib.), the assessee was in possession of a rented premises. In
In Asstt. CIT v. Sudha Gurtoo [2011] 15 taxmann.com 231 (Delhi - Trib.), the assessee sold two commercial properties/capital assets and claimed deduction under section 54F on ground of purchase of two residential units, being ground floor and first floor in a Group Housing Complex. The Assessing Officer disallowed same on ground that deduction
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was not allowable, as two distinct properties were purchased. The Tribunal held in favour of assessee - It held that deduction under section 54F shall be allowed because what the assessee had in her possession was one single unit comprising of two floors of one and the same double storeyed residential house having common staircase, kitchen, etc. [Section 54 of the Income-tax Act, 1961 - Capital gains - Exemption of, in case of investment in residential house - Assessment year 2005-06]
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a deduction was only a contingent liability and provision made for liability which might have arisen in the future and (ii) as the assessee was following mercantile system of accounting, no deduction could be allowed in respect of a liability which had definitely not arisen and that deduction could be made in respect of an ascertained and enforceable liability which could be enforced on or before the end of the relevant previous year. Thus, he held that claim of deduction was not admissible and it was, accordingly, declined. On appeal, the Commissioner (Appeals) upheld the Assessing Officers order. The Tribunal held in favour of assessee - It held that deduction on account of interest rate swap valuation was to be allowed. In this regard, the Tribunal provided the following reasonings: (a) the real issue in this appeal is not the deductibility but only timing of the deduction; (b) the accounting principle of prudence, which has been relied upon by the assessee, is now binding in view of section 145(2), read with Notification No. 9949; (c) just because anticipated profits are not assessed to tax, it would not follow, as a corollary thereto, that anticipated losses cannot be allowed as deduction in computation of business income; The Tribunal relied on the order passed by the Special Bench in the case of Dy. CIT (IT) v. Bank of Bahrain & Kuwait [2010] 41 SOT 290 (Mum.). [Section 28(i), read with section 145, of the Incometax Act, 1961 - Business loss/deductions - Allowable as - Assessment year 2003-04]
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Provision for expected losses recognized in accordance with AS-7 is an allowable expenditure
In Dredging International N.V. v. Asstt. DIT [2011] 15 taxmann.com 198 (Mumbai - Trib.), the assessee claimed deduction in respect of provision for future losses, which the Assessing Officer rejected in the draft assessment order. The Tribunal held in favour of assessee - The Tribunal held that provision for foreseeable losses made in accordance with guidelines of AS-7 and duly debited in audited accounts of company is an allowable expenditure. [Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Assessment year 2006-07]
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Losses on account of valuation of interest rate swaps are allowable deductions
In ABN Amro Securities India (P.) Ltd. v. ITO [2011] 15 taxmann.com 177/133 ITD 343 (Mumbai - Trib.), the assessee was engaged in the business of dealing in the Government Securities, bonds, debentures and providing services of arranging for and underwriting issue of debentures and bonds, etc. The assessee had claimed a deduction for loss on interest rate swap valuations. The Assessing Officer concluded that : (i) what had been claimed as
Commercial use of residential units by purchaser would not disentitle the developer to benefit of section 80-IB(10)
| In Smt. Manju Gupta v. Asstt. CIT [2011] 15 taxmann.com 287 (Mumbai - Trib.), assessee-
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company was engaged in business of construction of housing project. The housing project completed by assessee consisted of 19 shops and 32 residential flats. Assessing Officer noted that said residential flats were sold to a company which rented said flats for non-residential purposes. Assessing Officer found that builtup area of shops and residential flats used for non-residential purposes, as a whole, exceeded stipulated limit of 2000 sq. ft., and, therefore, found that assessee had violated condition prescribed in section 80-IB(10)(d). On that ground, claim of assessee under section 80-IB(10) was denied by Assessing Officer. The Tribunal held in favour of assessee - It held that flats were constructed as residential units as was evident from approved plan and completion certificate and any subsequent use by an end-user for non-residential purposes could not change nature of residential units to commercial establishments. Therefore, deduction under section 80-IB(10) could not be denied on that ground. Insofar as shops were concerned, it was a fact that area covered by shops was less than 10% of total built-up area and in view of decision of the Special Bench of Tribunal in Brahma Associates v. Jt. CIT [2009 ] 30 SOT 155/119 ITD 255 (Pune) claim of assessee under section 80-IB(10) could not be rejected. [Section 80-IB of the Income- tax Act, 1961 Deductions - Profits and gains from industrial undertakings other than infrastructure development undertakings - Assessment year 2008-09]
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that amount received without any consideration was taxable under section 56. However, the Assessing Officer recognized that partition of HUF had taken place on 31-5-2005. On appeal CIT(A) upheld the order of the Assessing Officer. The Tribunal held in favour of assessee - It held that the money received by the assessee in her capacity as coparcener and towards her share of the properties of the HUF, on partition of HUF, could not be said to be sum of money or property received without consideration. The right, title and interest of the coparcener in the assets of the HUF would itself be a consideration. Therefore, the sum received by the assessee towards her share as coparcener of the HUF from the HUF on partition of the HUF could not be brought to tax as income and the addition made by the Assessing Officer in this regard was directed to be deleted. [Section 171 of the Income-tax Act, 1961 - Hindu undivided family - Assessment after partition Assessment year 2006-07]
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Consideration received for live broadcasting cannot be considered as royalty
| Sum received by coparcener on partition of HUF cannot be brought to tax In Smt. Sudha V. Iyer v. ITO [2011] 15 taxmann.com 234 (Mumbai - Trib.), the assessee received certain sum on account of partition of HUF. The Assessing Officer was of view that order for partition was passed on 14-102008 and not in the relevant current assessment year (i.e., assessment year 2006-07). He held
In Asstt. DIT v. Neo Sports Broadcast (P.) Ltd. [2011] 15 taxmann.com 175 (Mumbai Trib.), the assessee entered into an agreement with Nimbus, a commercial agent of Bangladesh Cricket Board (BCB), for receiving signal and broadcasting cricket matches that were to be played in Bangladesh. The assessee contended that the payment to be made on account of recorded matches was in the nature of royalty but that towards live matches was not covered within the definition of royalty and, hence, not taxable. The Deputy Director noticed that the matches were to be broadcast in the Indian Territory and the income by way of advertisement revenue and subscription revenue was to be received by the assessee. It was observed that without the receipt of signal, no income would accrue to the assessee on this account. He, therefore, held that there was a business connection between Nimbus and receipts in
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India and, accordingly, the payment under consideration was in nature of royalty for transfer of any copyright. The Tribunal held in favour of assessee - It held that any consideration received for live broadcasting cannot be considered as royalty for transfer of a copyright so as to fall within domain of the Explanation 2 to section 9(1)(vi) and, therefore, there is no requirement of deduction of tax under section 195. Following principles were laid by the Tribunal in this judgment: (a) In order to constitute a business connection of a non-resident in India, it is necessary that some sort of business activity must be done by non-resident in taxable territory of India; (b) When a non-resident allows any resident to commercially exploit its asset for a consideration, it would not amount to business connection in terms of section 9(1)(i); (c) A copyright can be created only after work has been performed for first time; and (d) There is no copyright in live events and depicting same cannot infringe upon any copyright. [Sections 9 of the Income-tax Act, 1961, read with section 2(y) of the Copyright Act, 1957 - Income - Deemed to accrue or arise in India - Assessment year 2008-09]
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area was given on lease to persons who were running shops, cinema halls, eateries, etc., in the mall. Under agreements entered into by and between the assessee and the lessees, the assessee was collecting business conducting fees and business facility charges which were all offered to tax under head Income from house property. In addition to above charges, the assessee had also been collecting maintenance charges from the lessees as also from the persons to whom premises were sold, towards promotion and upkeep of the mall and such amount was offered to tax under head Income from business. The Assessing Officer held that upkeep of the mall and promotional charges also originated from property itself and, therefore, were to be taxed as Income from house property. On appeal, the Commissioner(Appeals) allowed claim of the assessee by holding that agreement in rest of upkeep of mall was basically an independent contract to ensure a well-maintained, modern, secured and quality premises and to have a top class support system to maximize footfalls in the mall. The Tribunal upheld the order of the Commissioner(Appeals). The High Court held in favour of the assessee It held that the Tribunal was justified in holding that maintenance charges received were towards maintenance and promotion of the common area and amounts received towards maintenance charges were business receipts liable to be assessed under head Income from business. [Section 28(i) of the Income-tax Act, 1961 - Business income - Chargeable as - Assessment years 200405 to 2006-07]
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Receipt of maintenance charges for a building given on rent shall be taxable as business income
In CIT v. Runwal Developers (P.) Ltd. [2011] 15 taxmann.com 196/203 Taxman 3 (Bombay) (Mag.), the assessee was in business of building and developing residential and commercial complexes and was also running a mall. It had constructed an area, part of which was sold to various persons. Major portion of the remaining
| Project completion method is an acceptable method for computation of business income in case of a real estate company In Asstt. CIT v. Skylark Build [2011] 15 taxmann.com 213/48 SOT 306 (Mumbai - Trib.), the assessee started a project with construction of a transit building on land provided by the Municipal Corporation of Greater Mumbai (MCGM) to shift slum dwellers. Under the
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scheme formulated by MCGM, the assessee had been offered TDR in lieu of handing over possession of constructed transit buildings. The assessee had constructed nine transit buildings, seven of which had been handed over to MCGM. It had received TDR in two instalments and both were sold in the respective years in which they were received. The amount received therefrom was set off against work-in-progress. The Assessing Officer rejected the method followed by the assessee and assessed the income from sale of TDRs during the year of receipt as an independent item of income. On appeal, the Commissioner(Appeals) observed that the assessee was following project completion method and the sale proceeds could be taxed only in the year of completion. The Tribunal remanded the matter - The Tribunal remanded back the matter to the Assessing Officer with the following observations: (a) Since assessee had been following project completion method which was an accepted method of accounting in construction business and was also recommended as per AS-7, income from project had to be computed in year of completion; (b) Since Assessing Officer had not given any finding regarding year of completion of project, that aspect required verification; (c) In case on verification it was found that project was completed in any assessment year, Assessing Officer would compute income from project after taking into account entire expenditure and receipts from beginning of year including TDRs; (d) However, in case project was not found complete, Assessing Officer would set off TDR receipts against work-in-progress and no income would be assessed on account of TDR receipts separately. [Section 5 of the Income-tax Act, 1961 - Income Accrual of - Assessment years 2006-07 and 2007-08]
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No penalty under section 271(1)(c) could be levied merely because assessees claim to set off the losses is denied
In Rubber Udyog Vikas (P.) Ltd. v. Asstt. CIT [2011] 15 taxmann.com 303 (Delhi - Trib.), assessee claimed set off of brought forward business loss against capital gains earned during year. Assessing Officer denied the same as it is not permissible under section 71/72 and levied penalty under section 271(1)(c). The Tribunal held in favour of assessee - It held that since assessee had disclosed all particulars along with return of income, no penalty could be levied under section 271(1)(c) merely on ground of denial of assessees claim for set off of business loss against other heads of income. [Section 271(1)(c) of the Income-tax Act, 1961 Penalty - For concealment of income - Assessment year 1994-95]
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Liaison office of non-resident assessee in India cannot be considered as its PE in India
In Dy. DIT v. M. Fabricant & Sons Inc. [2011] 15 taxmann.com 358 (Mumbai - Trib.), the liaison office of non-resident assessee in India was carrying out activities of selection of goods and negotiation of price as part of purchasing process as per instructions of assessee. The Assessing officer held that the liaison office shall be regarded as its permanent establishment. The Tribunal held in favour of assessee - It held that liaison office could not be considered as a permanent establishment of assessee in India and, therefore, profit attributed to liaison office could not be held to have accrued or arisen in India. [Section 9 of the Income-tax Act, 1961 - Income - Deemed to accrue or arise in India]
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Gross interest received on refund of tax is taxable and not the interest remaining after deduction of the interest on late payment of TDS
In Dy. CIT v. Sandvik Asia Ltd. [2011] 15 taxmann.com 381 (Pune - Trib.), assessee earned interest income on income-tax refund. It also paid interest on late payment of tax. Assessee claimed that interest paid by it was to be set off against interest received and only net interest was liable to tax. Assessing Officer rejected its claim. The Tribunal held in favour of revenue - It held that assessee was assessable in respect of gross interest received from department and not merely on net interest remaining after set off of interest paid to department. Therefore, Assessing Officer had rightly set aside assessees claim. [Section 4 of the Income-tax Act, 1961 - Income Chargeable as - Assessment year 1992-93]
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as a whole it was clear that word minorities in the trust deed was with reference to religious minorities only and further, the assessees own argument that people of different religious denominations would stand to be covered by term minorities, i.e., those residing in Tellicherry Municipality and its suburbs (to which objects of the trust extend), itself abundantly clarified that import and purport of said word was with reference to religious minorities. Further, to extent word minorities occurring in deed was liable to be construed as referable to religious minorities, section 13(1)(b) would stand automatically attracted. Therefore, denial of registration under section 12A to the assessee by the Commissioner was justified, and his order was, accordingly, to be upheld. [Section 13, read with section 12A, of Income-tax Act, 1961 - Charitable or religious trust - Denial of exemption - Assessment year 2008-09]
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Denial of registration to a charitable religious trust because it is established for the benefit of a religious community
Shareholder for the purpose of section 2(22)(e), refers to both a registered shareholder and a beneficial shareholder
| In Dy. CIT v. Madhusudan Investment & Trading Co. (P.) Ltd. [2011] 15 taxmann.com 252 (Kolkata - Trib.), the assessee-company leased out its property to M Ltd. for 22 years. In pursuance of a settlement of a dispute, a security deposit of ` 3.80 crores was paid by M Ltd. to the assessee to be refunded at the end of the lease period. According to the Assessing Officer the security deposit was nothing but an advance and, thus, was deemed dividend under section 2(22)(e), as two of the beneficial shareholders of the M Ltd. were also shareholders and were substantially interested in the assessee-company. The assessee submitted that it neither held any shares in M Ltd. nor had any beneficial interest in the said company, and that deemed dividend in terms of section 2(22)(e) can be assessed only in hands of a person who is a shareholder of the lendercompany and not in the hands of a person other than a shareholder.
In Tellicherry Minority Welfare Trust v. CIT [2011] 15 taxmann.com 185/48 SOT 313 (Cochin - Trib.), the assessee-trust, formed for charitable and religious purpose, applied for registration under section 12A. Beneficiaries of the Trust were financing poor minorities and other backward classes. On examination of the assessees objects, the Commissioner observed that the assessee-trust was established for benefit of a particular religious community or caste and, thus, was hit by section 13(1)(b). He, accordingly, rejected the assessees application. The assessee contended that the Commissioner had misconstrued the word minority to mean a religious minority or with reference to a religious community. The Tribunal held in favour of the revenue It held that from reading of the Trust deed
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The Tribunal held in favour of assessee - It held that no deemed dividend shall arise in the hands of the assessee-company. In this regard, the Tribunal held as following: (a) Deemed dividend can be assessed only in hands of a person who is a shareholder of lender-company and not in hands of a person other than a shareholder; (b) Expression shareholder being a person who is beneficial owner of shares referred to in first limb of section 2(22)(e) refers to both, registered shareholder and beneficial shareholder; (c) Therefore, if a person is a registered shareholder but not a beneficial shareholder then provision of section 2(22)(e) will not apply. Similarly, if a person is a beneficial shareholder but not a registered shareholder, then also provision of section 2(22)(e) will not apply. [Section 2(22) of the Income-tax Act, 1961 - Deemed dividend - Assessment year 2003-04]
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asset as defined in section 2(14). Therefore, consideration received by assessee would be taxed under the head Capital gains. [Section 2(14), read with section 45, of the Incometax Act, 1961 - Capital gains - Capital asset Assessment year 2003-04]
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Mere writing off the bad debts from the books is sufficient for allowability of claim under section 36(1)(vii)
In CIT v. Sirpur Paper Mills. Ltd. [2011] 15 taxmann.com 373 (Andhra Pradesh), assessee filed its return wherein certain amount was claimed as bad debts. In support of that claim, assessee submitted that it had issued computer generated reminders to customers in a standard proforma. Assessing Officer accepted a part of assessees claim. Tribunal, however, allowed assessees claim in full. The High Court held in favour of assessee It held that when an assessee writes off a debt or a part thereof as irrecoverable in accounts for previous year, same can be allowed as deduction under section 36(1)(vii) and no further proof is necessary. [Section 36(1)(vii) of the Income-tax Act, 1961 Bad debts - Assessment year 1996-97]
}
Consideration received on letting ones name is taxable as a capital gain

| In Asstt. CIT v. S.P. Sambandam [2011] 15 taxmann.com 388 (Chennai - Trib.), assessee was one of the promoters of company and was in active management till lately. On being relieved from the company, assessee sought to withdraw usage of his name for which company offered him ` 1.35 crores as consideration for use of assessees name in future. Assessee accepted offer of company and received said sum. Assessing Officer taxed said receipt as income from other sources. The Tribunal held in favour of assessee - It held that word S had commercial importance in local market and was, thus, a brand name associated with business of company which had been transferred from assessee to company. Brand name is always treated as a capital
Reopening of an assessment is possible even if original assessment had not been completed
In Nishant Exports v. CIT [2011] 15 taxmann.com 217 (Kerala), the assessee claimed deduction of profit on exports profit under section 80HHC which was allowed in an intimation issued by the Assessing Officer under section 143(1). It was, however, found that the assessee had not satisfied conditions prescribed under amended provisions of section 80HHC - Consequently, the Assessing Officer invoked section 147 and
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revised assessment, withdrawing partial relief granted under section 80HHC to the assessee. The High Court held in favour of the revenue It held that only condition for reopening of an assessment is that the Assessing Officer should have a reasonable belief that income chargeable to tax has escaped assessment, though regular assessment has not been completed. Thus, the Assessing Officer is entitled to reopen and bring to tax escaped income. [Section 147, read with section 143, of the Incometax Act, 1961 - Income escaping assessment General - Assessment year 2000-01]
}
Securing an order shall mean that assessee has commenced its business
| In Dy. CIT v. Hazira Gas (P.) Ltd. [2011] 15 taxmann.com 336 (Ahd. - Trib.), the assesseecompany was incorporated with object of carrying on business of buying, selling, supplying, marketing, distributing and importing of natural gas. In order to achieve aforesaid objectives, it had entered into several agreements and Memorandum of Understandings for sale and purchase of gases. Expenditure incurred on those agreements, etc., was claimed as deduction under section 37(1). Assessing Officer opined that all expenses incurred by assessee were in nature of pre-operative expenses that were to be capitalized. The Tribunal held in favour of assessee - It held that it was noted from details of Memorandums of Understanding that assessee had entered into agreements of sale of gases with other companies in assessment year in question or before. In view of fact that assessee had started securing orders for sale of gases, it could be concluded that it had commenced its business and, thus, expenditure in question was to be allowed as deduction. [Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Assessment year 2003-04]
}
Where no aircraft is purchased by airline company, business cannot be deemed to have commenced
In Kingfisher Training & Aviation Services Ltd. v. Asstt. CIT [2011] 15 taxmann.com 325 (Bangalore - Trib.), the assessee-company was engaged in operation of air-transportation and other air services. During relevant assessment year, assessee incurred various expenses relating to pre-operation activities. Assessee filed its return wherein it claimed set off of said expenses against interest income earned from bank deposits. Revenue authorities rejected assessees claim holding that expenditure in question could not be allowed to be set off as it related to pre-operation period. The Tribunal held in favour of revenue - It held that in view of fact that not even a single aircraft was purchased by assessee-company till end of previous year, it was to be concluded that assessee had not set-up its business by end of impugned previous year. Therefore, authorities below were justified in rejecting assessees claim. [Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Assessment year 2005-06]
}
Depreciation on toll road shall be allowed to developer until its ownership is transferred to State Government
| In Gujarat Road & Infrastructure Co. Ltd. v. CIT [2011] 15 taxmann.com 387 (Ahd. - Trib.), assessee was engaged in business of settingup of infrastructure facility by way of construction of road as per policy of Government of India. It entered into an agreement with Government of Gujarat to build, own, operate and transfer (BOOT) a toll road. Assessee built that road and started to collect toll charges from vehicles passing through that road. It claimed depreciation
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on toll road. The Commissioner disallowed its claim on the ground of ownership of toll bridge (i.e., the capital asset) which was not with the assessee. The Tribunal held in favour of assessee - It held that depreciation on toll road shall be allowed to the assessee. In this regard, following reasonings were given by the Tribunal: (a) Toll road was an integral part of the business activity of the assessee and without which the assessee could not carry on its business activity; (b) The road constructed by the assessee formed the most important source of its revenue and the basic objective was to construct the toll road under the BOOT scheme; and (c) Thus, the assessee had fulfilled the basic criteria for claiming depreciation, i.e., existence of a capital asset, ownership of such asset and most important that the assets were put to use for its business purpose. [Section 32, read with section 263, of the Incometax Act, 1961 - Depreciation - Allowance/rate of - Assessment year 2003-04]
}
valid justification for challenging reassessment proceedings on that ground. In this regard, the High Court relied on the judgment in the case of CIT v. Panchvati Motors (P.) Ltd. [2011] 12 taxmann.com 111 (Punj. & Har.) wherein it was held that where an assessee appears in any proceedings or cooperates in any enquiry relating to assessment or reassessment proceedings, it shall be presumed that the assessee has been validly served with a notice and it shall not be open to the assessee to object that notice was not served upon him or was not served same in time or was served upon him in an improper manner; an exception to aforesaid presumption has been made in a case where such an objection has been raised before completion of the assessment or reassessment. [Section 272BB read with section 148 of the Incometax Act, 1961 - Notice deemed to be valid in certain circumstances - Assessment year 2000-01]
}
Compensation received for allowing access to private land is not a rent, but a capital receipt
| Assessee cooperating in assessment or reassessment proceedings, shall be presumed to have been validly served with a notice In Om Sons International v. CIT [2011] 15 taxmann.com 184 (Punj. & Har.), Assessing Officer initiated reassessment proceedings against the assessee under sections 147 and 148. After completion of the reassessment proceedings, the assessee challenged validity of proceedings under section 148 and consequential order passed under section 143(3) in absence of a proper service of notice. The High Court held in favour of the revenue It held that in the objection raised by the assessee in instant case it did not give any
In Dy. CIT v. T. Kannan [2011] 15 taxmann.com 268 (Chennai - Trib.), pursuant to a Court decree, the assessee received certain amount from a company for providing that company easement right to a private road situated on his land. He treated said receipt as a capital receipt and credited same to land account. The Assessing Officer, however, treated said amount as rent received for using the land under the head Income from other sources. The Tribunal held in favour of assessee - It held that there being no relationship of a landlord and tenant between the parties, amount received by the assessee could not be treated as rent. Thus, said receipt was only a capital receipt and could not be taxed under the Act. [Section 4 of the Income-tax Act, 1961 - Income - Chargeable as - Assessment year 2007-08]
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Amount paid for service rendered outside India, to a foreign company which does not have any branch or business place in India does not fall within purview of TDS
In Asstt. CIT v. Leaap International (P.) Ltd. [2011] 15 taxmann.com 251 (Chennai - Trib.), the assessee-company was engaged in the business of foreign forwarding and custom house clearing. It had made payment to foreign companies towards freight charges for moving the goods and for transportation clearing/ forwarding at the foreign ports and the remittances was for services rendered outside India. The Assessing Officer disallowed the expenditure in terms of section 40(a)(i) on account of non-deduction of TDS under section 195. The assessee submitted that services were rendered outside India and the companies, to whom payments were made, did not have any branches in India and, therefore, the payments were not liable for deduction of tax under section 195. The Commissioner (Appeals) deleted the disallowance. The Tribunal held in favour of assessee - The Tribunal held that once it is found that the payments have been made to foreign companies for services rendered outside India and that such foreign companies do not have any branch or business place in India, then the income of such foreign companies would, obviously, not be taxable in India.Then as per the provisions of section 195 as the sum is not chargeable under the provisions of this Act the said section cannot have an application. This view finds support from the decision of the Apex Court in the case of G.E. India Technology Cen. (P.) Ltd. v. CIT [2010] 327 ITR 456/193 Taxman 234. [Section 195 of the Income-tax Act, 1961 - Deduction of tax at source - Payment to non-resident Assessment year 2005-06]
}
In Ramesh D. Tainwala v. ITO [2011] 15 taxmann.com 181/48 SOT 324 (Mumbai - Trib.), the assessee was one of the promoters of TP Ltd. and together with other promoters held substantial shares in the company. By an agreement I Ltd. (acquirer) agreed to purchase shareholding of the assessee along with other promoters of TP Ltd. Acquirer, with a view to ensure that promoters after sale of shares did not indulge in competing in the business, entered into a non-compete agreement whereby the assessee was paid ` 2 crores. The Assessing Officer held that receipt-in-question was a fee received for not carrying out any activity in relation to any business and, therefore, was chargeable to tax under section 28(va). The assessee contended that sum received in cash on account of transfer of right to carry on any business, would be chargeable under head Capital gains in view of proviso to item (i) of section 28(va)(a). The Tribunal held in favour of the revenue It held that since the assessee was not carrying on any business on his own but was a promoter and director of the company whose shares were purchased by the acquirer, in such a situation there was no question of transfer of a right to carry on the business and, therefore, payments on account of non-compete fees could not be brought to tax under section 45. Therefore, payments received as non-compete fee would be chargeable to tax under section 28(va)(a) and not under head of Capital gains. Further, following principles are laid down in this judgment: (a) If a receipt is considered as payment of compensation with source remaining intact, it would be a revenue receipt falling under section 28(va)(a); (b) If receipt is a payment for sterilization of source of income, then it would be a capital receipt, nevertheless falling within ambit of section 45, subject to condition that there results a transfer of capital asset and machinery for computation of the capital gain under section 48.
Receipt of non-compete fees with source remaining intact, shall be taxable under section 28(va)(a)
652
[Section 28(va) of the Income-tax Act, 1961 Business income - Non-compete fees - Assessment year 2007-08]
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Income from job work of other manufacturer of eligible products shall be entitled for deduction under section 80-IA
| In CIT v. Ambuja Ginning Pressing & Oil Co. (P.) Ltd. [2011] 15 taxmann.com 273 (Gujarat), the assessee-company was engaged in the business of ginning and pressing of cotton, etc. The Assessing Officer held that the receipt from the job work by the assessee (net of expenses) were not eligible for deduction under section 80-IA. On appeal, the Commissioner(Appeals) and the Tribunal allowed the deduction claimed under section 80-IA in respect of job work receipts. The High Court held in favour of assessee It held that the job work done by the assessee on account of others could not be said was not a manufacturing activity carried out by the assessee. Consequently, it could not be said that the income derived therefrom was not income derived from the industrial undertaking. Whether the assessee carries on the manufacturing activity on its own behalf or on behalf of others on a job work basis, the income derived therefrom, is income from the industrial undertaking and, therefore, would be entitled to deduction under section 80-IA. [Section 80-IA of the Income-tax Act, 1961 Deductions - Profits and gains from infrastructure undertakings]
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- Trib.), the assessee-trust was formed to run educational institutions. It applied for registration under section 12AA. DIT(E) rejected said application on ground that probable fees to be collected from students was having a component for future expansion of institutions and same component was in nature of profit and, thus, objects of trust also included a profit motive. The Tribunal held in favour of revenue - It held that since object of assessee-trust was to establish a number of educational institutions in a brand name and to run those institutions on commercial lines, it could not be regarded a charitable activity. Therefore, DIT(Exemption) was justified in rejecting assessees application seeking registration under section 12AA [Section 12AA of the Income-tax Act, 1961 Charitable or religious trust - Registration procedure]
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Payment to sub-contractors shall be subject to TDS under Section 194C, even if it is not debited to profit and loss account
In A.K. Patel & Co. (Construction) (P.) Ltd. v. Dy. CIT [2011] 15 taxmann.com 380 (Ahd. - Trib.), the revenue made disallowance under section 40(a)(ia) in respect of payments made by assessee-company to sub-contractors for not depositing TDS on due dates. Assessee submitted as follows: (a) its income under contract was commission income and, hence, no deduction under section 194C was required; (b) it had not debited amount paid to subcontractor as an expense in profit and loss account; and (c) it deducted gross value of sub-contract from its gross income from contract and had shown commission income separately in profit and loss account. The Tribunal held in favour of revenue - It held that mere entry in books of account of assessee is not conclusive and it could not be
Where object of trust was to establish a number of educational institutions in a brand name and to run these on commercial lines, it is not a charitable activity
| In Rajah Sir Annamalai Chettiar Foundation v. DIT [2011] 15 taxmann.com 313 (Chennai
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accepted that assessee had not debited amount of payments made to sub-contractor in its P&L account. Therefore, payment made to subcontracts shall be disallowed under Section 40(a)(ia). [Section 194C, read with section 40(a)(ia), of the Income-tax Act, 1961 - Deduction of tax at source Payment to Contractors/Sub-contractors - Assessment years 2005-06 to 2007-08]
}
There is no bar, in law, to send a notice under section 148 after return is filed by an assessee
| In P. Dayananda Pai v. Asstt. CIT [2011] 15 taxmann.com 249 (Karnataka), as the assessee did not file his return for the relevant assessment year by stipulated date, i.e., 30-10-1991, the Assessing Officer issued him a notice under section 148 on 14-12-1992. However, prior to service of said notice, the assessee filed his return of income. On consideration of the said return, the Assessing Officer observed that there was escapement of income, then accordingly, he issued another notice under section 148 on 24-11-1994. In response, the assessee filed a revised return on 20-10-1995. The assessee contended that second notice dated 24-11-1994 was invalid, in law, as said notice was issued during pendency of the first notice and no reasons were recorded before issuance of notice. The High Court held in favour of the revenue It held that: (a) Notice dated 24-11-1994 was, in fact, not a second notice under section 148 during pendency of an earlier or first notice under section 148 inasmuch as purpose of sending the notice dated 14-12-1992 had been fulfilled when return was filed even prior to the service of said notice. Therefore, notice dated 24-11-1994 was validly issued after considering the return filed by the assessee; (b) Since reasons recorded prior to the issuance of notice on 24-11-1994 on basis of return filed by the assessee were sufficient to establish nexus with material on record and formation of his opinion that there had been escapement of income of the assessee from assessment in particular year, assumption of jurisdiction by the Assessing Officer by recording said reasons and issuance of said notice dated 24-11-1994 was in accordance with law; and
Living allowance provided to employees deputed in USA shall be exempt from tax
In ITO v. Saptarshi Ghosh [2011] 15 taxmann.com 328 (Kolkata - Trib.), the assessees were employees of an Indian company and were deployed on deputation in the USA for rendering services as employees of said company. During deputation, they continued to receive salary and benefits in India. An additional amount of living allowance were paid for purposes of additional routine expenses in the USA. It was clear that place of posting did not change to USA and employees were sent there with reference to specific projects and projects could change at instance of employer. Employees were to report back to employer and serve employer after acquiring skills from US projects. Salary structure of employees remained same. During period of deputation, an employee would continue to receive his salary and benefits in India and additional amounts were paid only for purposes of additional routine expenses in the USA. The Tribunal held in favour of assessee - It held that assessee-employees were to be treated on tour and, therefore, living allowance paid to them was eligible for deduction under section 10(14). [Section 10(14) of the Income-tax Act, 1961, read with rule 2BB of the Income-tax Rules,1962 Special allowance - Assessment year 2006-07]
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(c) There is no bar, in law, to send a notice under section 148 after return is filed by the assessee. Such a notice can be issued by the Assessing Officer after perusal of the return filed by the assessee, after a return is filed but no assessment has been made and the assessee is found to have understated his income or claimed excessive loss or deduction in return. [Section 148 of the Income-tax Act, 1961 - Income escaping assessment - Issue of notice for - Assessment year 1991-92]
}
[Section 28(i), read with section 56, of the Incometax Act, 1961 - Business income - Chargeable as - Assessment years 2004-05 and 2005-06]
}
Taxing authority must not look into business matters from its own viewpoint but that of a prudent businessman
Where entire business is transferred including resources to carry out such business, commission received in consideration of same shall be business income
| In Dy. CIT v. FX Info Technologies (P.) Ltd. [2011] 15 taxmann.com 296 (Delhi - Trib.), assessee was carrying on business of distribution of products of A Ltd. In view of heavy losses, assessee-company decided to transfer distribution arrangement to one S. As per terms of agreement, assessee had agreed to transfer its dealer network to S with list of its clients, customers, benefit of all contracts, engagements and orders in connection with business of As products. Further, assessee had provided services of its skilled employees to S who had vast experience and knowledge in said line of business and in consideration assessee received income in form of commission from S which was offered to tax as business income. Assessing Officer, however, treated said income as Income from other sources. On appeal, Commissioner (Appeals) allowed assessees claim. The Tribunal held in favour of assessee - It held that aforesaid services were rendered by assessee while carrying on business in an organized way. Thus, on facts, Commissioner (Appeals) had rightly concluded that commission income earned by assessee was taxable as business income.
In CIT v. Rockman Cycle Industries (P.) Ltd. [2011] 15 taxmann.com 306 (Punj. & Har.)(FB), assessee borrowed money from its sister concern carrying interest at rate of 18% per annum and purchased preference shares from another sister concern which carried dividend at rate of 4%. Assessing Officer held that there was no justification to borrow funds at rate of 18% interest for making investment in shares, which would give a dividend of 4% only. Having regard to fact that borrowing was made from its sister concern and investment was also in another sister concern, claim for deduction of interest was disallowed by Assessing Officer. The High Court remanded the matter - It held that Assessing Officers or appellate authorities and even Courts can determine true legal relation resulting from a transaction between different concerns and if some device has been used by assessee to conceal true nature of transaction, it is duty of taxing authority to unravel that device and determine its true character. However, legal effect of transaction cannot be displaced by probing into substance of transaction ; taxing authority must not look at business matter from its own viewpoint but that of a prudent businessman. [Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Assessment year 1987-88]
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Payment for hiring of cranes on time basis shall not be covered for deduction of tax under section 194C
In Asstt. CIT v. Sanjay Kumar [2011] 15 taxmann.com 230 (Delhi - Trib.), the assessee
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had paid a sum for hiring cranes on time basis. As per the arrangement, the payment had to be made on a daily basis notwithstanding whether the crane was actually used or not. According to the Assessing Officer such payments were in the nature of payments made to contractors, hence, were liable for deduction of tax at source under the provisions of section 194C. On appeal, Commissioner(Appeals) reversed the order of the Assessing Officer. The Tribunal held in favour of assessee - It upheld the order of the Commissioner(Appeals) on following reasonings: (a) The CBDT has opined, in Circular No. 681 dated March 8, 1994, inter alia, that the provisions of section 194C would not apply in relation to payments made for hiring or renting of equipments, etc.; (b) Payments made to the crane owners were not at all relating to the work/output made by the cranes and it was with reference to the period of the lease; (c) The running cost was to be borne by the assessee. Therefore, such payments could not be said to be made for the work contract as covered by section 194C. [Section 194C, read with section 40(a)(ia), of the Income-tax Act, 1961 - Deduction of tax at source - Contractors/sub-contractors, payments to Assessment year 2006-07]
}
as its collecting agent in India with respect to advertising charges from the Indian advertisers for advertisements placed on TV channels. SIPL was entitled to a commission of 15% on the receipts from Indian advertisers. The Assessing Officer held that the assessee was a conduit for its holding company, i.e., STAR Ltd. He, therefore, held that income from sales revenue of advertisements did not belong to the assessee and could not be assessed in the assessees name. On appeal, the CIT(A) confirmed the order of the Assessing Officer. The Tribunal held in favour of assessee - It held that in terms of the CBDT Circular No. 23 where a non-residents sale to the Indian customers are secured through an agent, the assessment in India of the income arising from the said transactions will be restricted to amount of profit which is attributable to the agents services. The advertisement revenue, in the instant case, had been generated through a commission agent, i.e., SIPL and income in case of SIPL had already been taxed. Therefore, taxability in respect of such sales could not extend beyond that income. The Tribunal further observed that the assessee-company was formed not only for procuring advertisement business from India but also from other countries and, therefore, it was not driven by Indian-tax considerations alone. The Tribunal, accordingly, upheld the assessment of income in case of the assessee. [Section 9 of the Income-tax Act, 1961, read with India-Netherlands DTAA - Income - Deemed to accrue or arise in India - Assessment year 200001]
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Where foreign-subsidiary got exclusive rights for sale of advertising time slots in India on various TV channels, it could not be treated as a conduit of its parent company.
In International Global Networks BV v. Asstt. DIT [2011] 15 taxmann.com 197/48 SOT 127 (Mumbai - Trib.)(URO), the assessee, a company incorporated in Netherlands and subsidiary of STAR Ltd., was granted exclusive rights for sale of advertising time slots in India on various TV Channels. The assessee had appointed SIPL
Creation of assessee-society on splitting up of its parent society could not be treated as inheritance under section 78(2)
| In Ballabgarh Co-op. Milk Producers Union Ltd. v. ITO [2011] 15 taxmann.com 331 (Delhi - Trib.), the assessee-co-operative society was engaged in supply of milk and manufacture
656
of milk products. It was created by bifurcation of an old society. During relevant assessment year, assessee filed its return claiming set off of brought forward loss from parent society against its current income. Revenue authorities rejected assessees claim. The Tribunal held in favour of revenue - It held that in terms of section 78(2), where a person carrying on business or profession has been succeeded in such capacity by another person otherwise than by inheritance, said another person will not have a right to carry forward unabsorbed business loss of first person and set off same against its income in a subsequent year. In instant case, creation of assessee-society on splitting- up of parent society could not be treated as inheritance and, therefore, provisions of section 78(2) were not applicable. In view of above, the Tribunal held that authorities were justified in rejecting assessees claim. [Section 78 of the Income-tax Act, 1961 - Losses - Carry forward and set off of, in case of change in constitution of firm or on succession - Assessment years 2004-05 and 2005-06]
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all communications relating to this agreement would pass. Terms of agreement further provided that assessee would provide all details of agreed endorsements to reinsurers by e-mail and would act as a claim administrator and submit claim advices to relevant market systems. For services rendered, assessee along with other reinsurance brokers acting as an intermediary in reinsurance process for N Ltd. would be entitled to 10% brokerage. The Assessing Officer opined that services provided by assessee were consultancy services in nature and payments received by it would fall within definition of fees for technical services as defined under the Explanation 2 to section 9(1)(vii) as well as vide Article 13(4) of the Indo-U.K. Tax Treaty. The Tribunal held in favour of assessee - It held that mere provision of technical services is not enough to attract Article 13(4)(c) of the Indo-UK Treaty as it additionally requires that service provider should also make his technical knowledge, experience, skill, know-how, etc., known to recipient of service so as to equip him to independently perform technical functions in future, without help of service provider. Payments made to it would be regarded as fees for technical services only if twin test of rendering services and making technical knowledge available at same time is satisfied. Since services rendered by assessee did not involve technical expertise, nor assessee made available any technical know-how, skill, etc., and was merely acting as an intermediary in process of finalization of reinsurer suggesting various options to Indian insurance company for their consideration and acceptance, it could not be said that payment received by assessee from insurance company in India, was fees for technical services. Therefore, it could not be brought to tax in India. [Section 9 of the Income-tax Act, 1961, read with Article 13 of Indo-U.K. DTAA - Income - Deemed to accrue or arise in India [Royalties and fees for technical services] - Assessment year 2006-07]
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Intermediary services suggesting various options for finalization of reinsurer shall not be regarded as technical services for taxability under Article 13 of India-UK DTAA
| In Guy Carpenter & Co. Ltd. v. Addl. DIT [2011] 15 taxmann.com 285 (Delhi - Trib.), the assessee-company, incorporated in London, operated as a recognized insurance broker and it was licensed for carrying out intermediate insurance business by the Financial Services Authority (FSA) of the United Kingdom. It entered into an agreement with N Ltd. in India to reinsure on an excess loss basis, catastrophic risk arising from its primary insurance cover in conjunction with J, M, A and G Ltd. Terms of agreement specified that assessee in conjunction with J Ltd. would be recognized as an intermediary, through whom
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|
Consideration paid for perpetual licence of patent and copyright is taxable as royalty
In Upaid Systems Ltd., In re [2011] 15 taxmann.com 126/203 Taxman 28 (AAR), the applicant, a British company, is engaged in business of providing and enabling electronic payment services via mobile and fixed telecom line and other telecom service networks. Over years, applicant has been conceiving of designing and developing software technology relating to payment processing platforms and services. In year 1966, a new framework for an advanced intelligent processing platform was conceived. In order to exploit that invention commercially, appropriate software had to be designed and developed. After developing an appropriate design, applicant outsourced development of software to an Indian company Satyam which developed the software and thereafter, an assignment agreement effective from 1-1-1998 was executed between parties whereunder Satyam, after receiving good and valuable consideration, assigned to applicant in perpetuity all worldwide rights, title and interest in the software and intellectual property rights and copyright over software developed. Patent authority in Britain granted Patent 947 to applicant in respect of the said software. Applicant, subsequently, discovered certain facts which led it to believe that some of the signatures in inventors assignment, purportedly signed by employees of Satyam, were not genuine but were forged ones due to which value of its entire patent portfolio had been impaired. Applicant filed complaint against Satyam in District Court of Texas. However, thereafter concerned parties entered into a settlement agreement which provided for parties to sever all ties with each other forever and for settlement
of all claims and disputes between parties. Satyam agreed to pay to the applicant an amount of $ 70 million for extinguishment of all rights and obligations between parties, for severing their business relationship arising out of prior agreements towards compensation for deficiency in its patent noted by the applicant, for grant of perpetual worldwide royalty-free licence by the applicant on all its patents to Satyam, subject to Satyam not having a right to assign licence. Satyam deposited said amount in escrow account and sought to deduct tax from amounts to be paid to the applicant. Applicant resisted that claim and has sought advance ruling on its tax liability in India in respect of the aforesaid amount. AAR held partly in favour of applicant - The Authority has partly held in favour of the applicant and segregated the total compensation of $ 70 million into following components: (a) Since as per settlement deed Satyam had been granted perpetual licence over a patent and copyright of applicant, a part of compensation paid by Satyam to applicant ought to be attributed to licence of right to use patented software and any improvement to be made on it which will be taxable in terms of section 9(1)(vi); (b) Other than part of compensation attributable to royalty, balance cannot be considered to be income accruing or arising in India to applicant; (c) The interest earned by applicant on deposits in Escrow account is taxable in hands of applicant. [Section 9 of the Income-tax Act, 1961 - Income - Deemed to accrue or arise in India]
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658
ACCOUNTS & AUDIT
INTRODUCTION
1. Fair value accounting is an integral aspect of International Financial Reporting Standards (IFRS). In good times, everyone likes fair value accounting, however, in bad times there is a cataclysmic outpouring. With the plan to converge to IFRS by India, the debate on fair value accounting has exacerbated. Some argue that fair value accounting is procyclical and caused the financial crisis a few years ago. However, subsequent research done by SEC indicates that financial institutions collapsed because of credit losses on doubtful mortgages, caused by sub-prime lending, and not due to fair value accounting. Those criticizing fair value accounting do not seem to provide any credible alternatives. If we take a step back to historical cost accounting, wherein financial assets have been stated at outdated values and, hence, are not relevant or reliable from the point of view of the providers of capital. Is there any better way of accounting for derivatives, other than using fair value accounting? For example, in the case of longterm foreign exchange forward contracts there may not be an active market. For such contracts, entities obtain MTM quotes from banks. In practice, significant differences have been observed between quotes from various banks. Though fair value in this case is judgmental within a range, yet it is a much better alternative than not accounting for the derivative or accounting at historical price. Almost six years ago an exercise was conducted by a global accounting firm to determine employee stock option charge. By making changes to the input variables, all within the allowable parameters of IFRS, option expense
DOLPHY DSOUZA
CA
Fair value accounting Integral to IFRS
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(based on fair value) as a percentage of reported income was found to vary by as much as 40% to 155%. However, since then the IASB has issued IFRS 13 Fair Value Measurement, and valuation practices have become steadier. With the passage of time subjectivity and valuation spread has reduced substantially. a company is allowed to choose either the cost option or fair value option for accounting purposes. The apprehension of using fair value accounting for investment properties is driven by tax considerations. However, one may note that IFRS financial statements are driven towards the needs of the investors and not of any regulator. Therefore, the income-tax authorities should ensure that IFRS is tax neutral. Being an emerging economy, without deep markets in many areas, India may have to face specific challenges. Many of the challenges in determining fair valuation applicable to emerging economies may also apply to any other developed economies. However, lack of expertise and experience in emerging economies may amplify the problem. Additional education might be needed on how to make estimates and judgments and the disclosure of fair value in the financial statements.
KINDS OF ASSETS AND LIABILITIES LIABLE TO FAIR VALUE ACCOUNTING

2. The next question is what kind of assets and liabilities lend themselves better to fair value accounting. Whilst many non-financial assets under IFRS are accounted for at historical cost, biological assets are accounted for at fair value. Unfortunately many biological assets are simply not subject to reliable estimates of fair value. Take for instance, a colt which is kept as a potential breeding stock and grows into a fine stallion. The stallion starts winning race events and is also used in the Bollywood films. The stallion earns substantial amount for its owner from breeding and other services. The stallion gets older and his utility decreases. Eventually the stallion dies of old age and the carcass is used as pet food. At each stage in the life of the horse, the fair values would change significantly, but estimating the fair values could be extremely subjective and difficult. In many ways, the stallion reminds one of fixed assets. Changes in fair value of fixed assets are not recognized in the income statements; then why should the treatment be different in the case of biological non-financial assets?
PROBLEM AREAS IN CASE OF EMERGING ECONOMIES

4. Many emerging economies do not have a deep and active market for long-term maturities, and in the case of corporate bond there may not be an active market at all. Valuation of such bonds would be difficult as there would be no market, and estimating discounted rate for longer-term maturities could be challenging. A country may have only one risk premium that covers all maturities but not broken up for specific duration or for industrial sector or specific location (risk may vary based on specific location within the country (e.g., South India as compared to East India) - this can compound the problem. Any valuation that involves tax and foreign exchange as a variable will add another dimension of complication in the case of emerging economies. This is because tax rates and regulations are not stable and change quite frequently. Also, experience indicates that foreign exchange reference rates announced by the Central Bank or a regulatory body may be
THE INDIAN SCENARIO

3. In India the debate on fair value has confused us because of lack of understanding of IFRS. For example, a common misunderstanding is that all assets and liabilities are stated at fair value. However, the truth is that under IFRS many non-financial assets such as fixed assets or intangible assets are stated at cost less depreciation. In the case of investment properties,
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significantly different from the market. In the case of foreign exchange forward contract, there may not be an active market beyond one year. Significant differences have been observed in the MTM quotes from various banks on longterm forward contracts. If one has to value a corporate bond that is not actively traded, the discount rate would be the base rate plus credit spread based on credit rating. There are various rates used for discounting, such as the zero coupon interest rate, yield to maturity (YTM) rate, Mumbai Interbank Offer Rate (MIBOR), Fixed Income Money Market and Derivative Association (FIMMDA) rate, etc. FIMMDA issues credit rating based credit spread on a monthly basis. Reuters issues credit spread on a daily basis but only for AAA rated instruments. The reliability of the valuation of the bond would depend upon: (a) the reliability of the base rate used, (b) the availability and reliability of the credit rating for the instrument, (c) the reliability of the credit spread. If a company uses a particular curve to discount a corporate bond (say YTM curve) which is different from the acceptable practice in the market (say FIMMDA), then the value would differ from the way the market determines it. Similar issues would also arise in the case of valuation of Government bonds. Many of them may be very illiquid, particularly the State Government bonds. Quotes from different brokers often differ significantly. Also it is difficult to know if the brokers are acting as principals or agents and whether the broker will fulfil the deal at the committed price. Valuing them in the absence of a market may yield different results as risk premium for State Governments may not be available and would certainly not be the same as that of the Central Government. As per RBIs requirements, State Government securities are valued by applying the YTM method by marking it up by 25 basis point, above the yields of the Central Government securities of equivalent maturity put out by Primary Dealers Association of India (PDAI)/
FIMMDA periodically. However, under IFRS this approximation may not work, as it is clear that the different States have different risk profiles, which impacts their valuation. Under IFRS a company may have to fair value its foreign currency convertible bond listed on a foreign securities exchange. However, in many instances at the reporting period there may be no trade, as it may not be actively traded. This could lend itself to potential abuse as insignificant trades at the reporting date may inaccurately determine the fair value of the bonds. The appropriate thing to do in such situations is to make an adjustment to the quoted price based on a detailed analysis so as to measure the bond at its fair value. It is also common in an emerging economy that an entity is required to estimate fair value on an unquoted instrument, without the benefit of detailed cash flow forecasts, management budgets or robust multiples. An entity may own an insignificant amount, say 10% of another entity and, therefore, may not be legally entitled to obtain that information from the investee. In many cases, local benchmark companies or their financial information may simply not be available on which to base the valuation. RBI requires unquoted equity instruments to be valued at break-up value from the companys latest available balance sheet, and in its absence, at ` 1 per company. Such valuations would not be acceptable under IFRS. IAS 39 allows cost option in limited circumstances (when fair value cannot be determined reliably), though its replacement, IFRS 9 does not permit it. In either standard, valuing a company at ` 1 would not be acceptable. When estimating fair value in an emerging economy, modelling a non-financial variable could be extremely difficult. For example, under IFRS, acquisition accounting requires fair valuation of contingent liabilities of the acquiree. If the contingent liabilities were with regard to tax, in many developed economies there is a settlement system and past experience on which an estimate can be based. However, in
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emerging economies the litigations tend to be very long drawn ones and uncertain, eventually resulting in a full liability or no liability at all. The tax authorities that influence the variable may change their behaviour rapidly, thereby making the historical behaviour an inaccurate basis on which to predict future behaviour. Sometimes market dynamics work in a very complicated manner in emerging economies. It may be difficult to determine the principal or most advantageous market due to regulatory or political circumstances. For example, a commodity market may have been cornered by a few selected players; though in legal terms all market participants can trade in the market, yet in actual terms it may be restrictive. Whether such a market should be considered in determining the fair value, if the market participant is not entirely clear whether it will be allowed entry and trade without any restriction? Such questions would be more common in emerging economies. Many of these questions have been addressed to in IFRS 13. Highest and best use is a concept that underscores fair valuation. As people are supposed to act rationally, a fair value measurement considers a market participants ability to generate economic benefit by using the asset in its highest and best use. However, highest and best use is subject to the restrictions of what is physically, legally and financially feasible. This could be a difficult area, particularly in emerging economies in the absence of clear laws or the manner in which they are implemented. For example, a builder that owns a piece of land may not be clear whether he will be allowed to construct 10 floors or 20 floors and whether the property development is restricted by laws in terms of its usage, for example, only for residential or commercial purposes, etc.? This could make the valuation of the land a difficult task. The above are some of the main issues that emerging economies may face more prominently than developed economies. In any system or methodology, fair valuation cannot be expected to provide the same results if different valuers were valuing it. This is because it is not a science but an art and no guidance or methodology can ever make it a science. Further, recent additional guidance from the IASB contained in IFRS 13 will certainly be helpful in bringing about clarity and consistency on how these issues are handled and in collapsing the range within which the fair value should fall. Issuance of further practical guidance that specifically deals with fair valuation issues in the emerging economies will also reduce the resistance in these economies towards fair valuation.
FAIR VALUE MEASUREMENT UNDER IFRS-13

5. Under IFRS guidance on how to measure fair value was limited and resided in multiple standards that sometimes presented conflicting concepts. With the issuance of IFRS 13 Fair Value Measurement and a similar standard, FAS 157 under US GAAP, a uniform guidance has been created that will reduce complexity in applying the fair value principles and improve consistency across the world. Fair value often means different things to different people. In the context of IFRS it means the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (i.e., an exit price). Fair value is not an entity-specific measurement, rather it is focused on market participant assumptions for a particular asset or liability. For example, an entity may have fair value land on the assumption that it would build a residential complex. However, if market participants believe that the highest and best use is to build a commercial complex, adopting IFRS 13 could result in a higher fair value than previously determined. A fair value measurement assumes that the transaction to sell the asset or transfer the liability takes place either in the principal market
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or in the most advantageous market. For example, if an entity previously measured the fair value of an agricultural produce based on its local market, but there is a deeper and more liquid market for the same agricultural produce (for which transportation costs are not prohibitive), the latter market would be deemed as the principal market and would be used to determine fair value. IFRS 13 includes a fair value hierarchy which prioritizes the inputs in a fair value measurement. Level 1 applies to assets and liabilities that are quoted in an active market; the quoted prices are used for valuation. In Level 2, inputs (other than quoted prices included within Level 1) that are observable for the asset or liability, either directly or indirectly are used. Examples are: interest rates and yield curves observable at commonly quoted intervals, implied volatilities and credit spreads. In Level 3, unobservable inputs for the asset or liability are used. Example is, projected cash flows used to value a business in an entity that is not publicly listed. 5.1 Three different valuation techniques under IFRS 13 - IFRS 13 describes following three different valuation techniques that may be used to measure fair value (which would be classified within the hierarchy, based on the inputs used in the valuation technique): (1) Market approach: uses prices and other relevant information from market transactions involving identical or similar assets or liabilities; (2) Income approach: converts future amounts (e.g., cash flows or incomes and expenses) to a single current (discounted) amount and (3) Cost approach: reflects the amount required currently to replace the service capacity of an asset (frequently referred to as current
replacement cost, which differs from the cost incurred). Management must use valuation techniques that are appropriate in the circumstances and for which sufficient data is available. In some cases, this will result in more than one technique being used (for example, using both an income and a market approach to value a business). While measuring fair value, an entity is required to maximize the use of relevant observable inputs and minimize the use of unobservable inputs. When multiple valuation techniques are appropriate, management evaluates the results and selects the point within any indicated range that is most representative of fair value. 5.2 Fair value measurement in an inactive market - When markets become inactive and market activities significantly decline, the objective of fair value measurement (an exit price in an orderly transaction which is not a distress sale) does not change. However, an entity may determine that a quoted price does not represent fair value because the transactions are not orderly. In such cases, appropriate adjustments would be made to the quoted price to reflect the asset or liability at fair value.
CONCLUDING REMARKS
6. Fair value accounting does not create good or bad news, rather it is an impartial messenger and is the most relevant yardstick from an users (investors) perspective. However, IASB should also focus on providing specific guidance on the fair value challenges that emerging economies such as India would have to face.
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ACCOUNTS & AUDIT
SRINIVASAN ANAND G.
CA
Issues in CARO reporting in Audit report of companies
T
BACKDROP
he Central Government has notified Revised Schedule VI and Companies (Cost Accounting Records) Rules, 2011 during the year 2011. This article examines the impact of the Revised Schedule VI and Companies (Cost Accounting Records) Rules, 2011 on reporting under CARO, 2003.
1. Section 227(4A) of the Companies Act, 1956 (the Act) empowers the Central Government to direct that, by general or special order, the auditors report of such class or description of the companies as specified in the order shall also include a statement of such matters as specified in the order. In other words, auditors report (except in cases of banking companies, insurance companies, section 25 companies and private limited companies satisfying specified conditions) shall include a statement on matters specified by the Companies (Auditors Report) Order, 2003 (CARO, 2003) issued under section 227(4A) of the Act. The year 2011 has seen the
notification by the Central Government of Revised Schedule VI and the Companies (Cost Accounting Records) Rules, 2011-both applicable from financial year 2011-12. This article discusses the impact of Revised Schedule VI and the Companies (Cost Accounting Records) Rules, 2011 on the reporting obligations of auditors of companies under CARO, 2003.
APPLICABILITY OF CARO, 2003EXEMPTION TO PRIVATE LIMITED COMPANIES

2. CARO, 2003 is not applicable to the audit report of a private limited company which satisfies all the following three conditions:
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(a) Paid-up capital + reserves of the company does not exceed ` 50 lakhs at any point of time during the financial year. (b) Company does not have loan outstanding exceeding ` 25 lakhs from any bank or financial institution at any point of time during the financial year. (c) Companys turnover does not exceed ` 5 crores at any point of time during the financial year. The Revised Schedule VI (effective from financial year 2011-12) seems to impact the applicability or otherwise of condition (a) i.e. whether the aggregate of paid-up capital and reserves of the private limited company exceeds the limit of ` 50 lakhs. Suppose a Private Limited reports the following position as on 31st March, 2012:
` Paid up capital Revaluation reserve Capital reserve P&L A/c [Dr. Balance] 30 lacs 10 lacs 11 lacs 22 lacs
and loss account cannot be reduced from the paid up capital and revaluation reserve. Thus, the total of paid-up capital and reserves, in this case, will be:
Paidup capital Revaluation Reserves Capital Reserve Aggregate of paid-up capital and reserves ` 30 lacs ` 10 lacs ` 11 lacs ` 51 lacs
Since the aggregate of paid-up capital and reserves exceeds ` 50 lacs, CARO, 2003 shall apply to the private ltd. company in question.
Situation under Revised Schedule VI

ICAIs views are that debit balance in profit and loss account should be reduced only from the figure of revenue reserves (and not from the paid up capital and revaluation reserve (in cases where there are no revenue reserves) were rendered in the context of the Old Schedule VI. The Old Schedule VI required deduction of debited balance of P&L account from uncommitted reserves only. The Revised Schedule VI provides that the debit balance of P&L account shall be shown as a negative figure under the head Surplus and the balance of Reserves and Surplus after adjusting negative balance of surplus even if the resulting figure is in the negative. Thus, it seems that in view of the Revised Schedule VI, the sum of paidup capital and reserves will be ` 29 Lakhs [i.e. ` 30 lakhs (paid-up capital) plus negative figure of Reserves and Surplus (` 1 Lakh)]. This seems to be a better view as the requirement of the Revised Schedule VI seems to be to take an overall view of the Reserves and Surplus taken together rather than looking at each of them separately. Thus, it seems that CARO, 2003 shall not apply in the instant case as paid up capital plus reserves is less than `50 lakhs. ICAIs clarification on the subject is desirable.
Is CARO, 2003 applicable in this case?
Situation under Old Schedule VI

According to para 1(2)(iv) of CARO, 2003, if the paid capital plus reserves of a private limited company exceeds ` 50 lacs at any time during the year under audit, CARO, 2003 will apply to it. According to the Statement on CARO, 2003 issued by ICAI, all reserves- capital as well as revenue should be considered in reckoning the limit of ` 50 lakhs. Credit balance in profit and loss account should also be considered a reserve for this purpose. Debit balance in profit and loss account, if any, should be reduced from the figure of revenue reserves. If there are no revenue reserves, as in the present case, the debit balance in the profit
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AUDITORS COMMENTS PURSUANT TO PARA 4(vii ) OF CARO, 2003 REGARDING INTERNAL AUDIT SYSTEM
3. As per para 4(vii) of CARO, 2003, the auditor has to report whether the company has an internal audit system commensurate with its size and nature of its business in respect of the following companies: (A) Listed Companies. (B) Unlisted Companies which satisfy one of the following two conditions: (a) Companys paid-up capital and reserves as at the commencement of the financial year concerned exceeds ` 50 lakhs; or (b) Company whose average annual turnover for three consecutive immediately preceding financial years exceeds ` 5 crores. As ICAIs Statement on CARO, 2003 clarifies that the aggregate of paid-up capital and reserves will be calculated in the same manner as for the purposes of exemption of private limited companies from CARO, 2003, the same issues relating to dealing with accumulated loss when company has no revenue reserves explained in para 2.0 above will arise in case of Para 4(vii) also. comment, he should clearly mention the fact that he has made only a general review of cost records and that he has not made any detailed audit of cost records. If the records have not been written up or are prima facie incomplete, the auditor should make a suitable comment in his audit report under para 4(viii) of CARO, 2003. He should also qualify in his main audit report his affirmation under section 227(3)(b) as to whether proper bodies of account as required by law have been maintained so far as it appears from an examination of these books. This is because cost records are books of account under section 209(1)(d).
Cost Accounting Records Rules, 2011

The Central Government, pursuant to the power conferred on it by section 209(1)(d) of the Act issued product-specific Cost Accounting Record Rules from time to time covering 44 products/ activities. The Central Government brought each product/activity within the ambit of section 209(1)(d) by notifying product-specific Cost Accounting Record Rules. Maintenance of cost records prescribed these rules was mandatory for the 44 products and activities covered by these rules. Cost records maintenance was compulsory for the companies producing one or more of these 44 products with exemptions for SSI units. If a company is producing two products - one falling in the list of these 44 products covered by Cost Accounting Records Rules and other not falling in the list of 44 products, then cost records are mandatory for the former product and not for the latter. The Ministry of Corporate Affairs notified the Companies (Cost Accounting Records) Rules, 2011 on June 3, 2011. These Rules introduced a common set of record rules for industries other than 8 regulated industries specified in the Rules, in place of industry specific rules in vogue earlier. The 8 regulated industries which continue to be governed by activity/ product-specific rules are as under:
AUDITORS COMMENTS PURSUANT TO PARA 4(viii) OF CARO, 2003 REGARDING MAINTENANCE OF COST RECORDS
4. In terms of Para 4(viii) of CARO, 2003, where maintenance of cost records has been prescribed by the Central Government under clause (d) of sub-section (1) of section 209 of the Act, Auditor to report whether such accounts and records have been made and maintained. The auditor need to make only a general review of the cost records to ensure that prescribed cost records have been maintained. In his
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1. The Cost Accounting Records (Bulk Drugs) Rules, 1974 2. The Cost Accounting Records (Electricity Industry) Rules, 2001 3. The Cost Accounting Records (Fertilizers) Rules, 1993 4. The Cost Accounting Records (Formulations) Rules, 1988 5. The Cost Accounting Records (Industrial Alcohol) Rules, 1997 6. The Cost Accounting Records (Petroleum Industry) Rules, 2002 7. The Cost Accounting Records (Sugar) Rules, 1997 8. The Cost Accounting Records (Telecommunications) Rules, 2002. The Rules require every company to which the rules apply, including all units and branches thereof, to keep cost records in respect of each of its products and activities on regular basis. Rule 3(1) of the 2011 Records Rules provides that these rules shall apply to every company, including a foreign company as defined under section 591 of the Act, which satisfies the following conditions: (I) The company is engaged in the production, processing, manufacturing, or mining activities; and (II) At least one of the following three conditions is satisfied: (a) the aggregate value of net worth as on the last date of the immediately preceding financial year exceeds ` 5 crores; or (b) the aggregate value of the turnover made by the company from sale or supply of all products or activities during the immediately preceding financial year exceeds ` 20 crores of rupees [Turnover means gross turnover made by the company from
the sale or supply of all products or services during the financial year. It includes any turnover from job work or loan license operations but does not include any non-operational income]; or (c) the companys equity or debt securities are listed or are in the process of listing on any stock exchange, whether in India or outside India. The terms production activity, processing activity, manufacturing activity, or mining activity are defined in the 2011 Records Rules. The term Processing has been defined as under: Processing Activity includes any act, process, procedure, function, operation, technique, treatment or method employed in relation to (i) altering the condition or properties of inputs for their use, consumption, sale, transport, delivery or disposal; or (ii) accessioning, arranging, describing, or storing products; or (iii) developing, fixing, and washing exposed photographic or cinematographic film or paper to produce either a negative image or a positive image; or (iv) printing, publishing, finishing, perforation, trimming, cutting, or packaging; or (v) pumping oil, gas, water, sewage or any other product; or (vi) transforming or transmitting, distributing power or electricity; or (vii) harbouring, berthing, docking, elevating, lading, stripping, stuffing, towing, handling, or warehousing products; or
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(viii) preserving or storing any product in cold storage; or (ix) constructing, reconstructing, reconditioning, repairing, servicing, refitting, finishing or demolishing of buildings or structures; or (x) farming, feeding, rearing, treating, nursing, caring, and stocking of living organisms; or (xi) telecasting, broadcasting, telecommunicating voice, text, picture, information, data or knowledge through any mode or medium; or (xii) obtaining, compiling, recording, maintaining, transmitting, holding or using the information or data or knowledge; or (xiii) executing instructions in memory to perform some transformation and/ or computation on the data in the computers memory. A look at the above definition suggests that companies in farming sector, construction sector, data processing sector, publishing industry, have all been brought within the ambit of cost records maintenance obligations under section 209(1)(d) of the Act. The 2011 Record Rules define the expression Production Activity as under: Production Activity includes any act, process, or method employed in relation to (i) transformation of tangible inputs (raw materials, semi-finished goods, or subassemblies) and intangible inputs (ideas, information, know-how) into goods or services; or (ii) manufacturing or processing or mining or growing a product for use, consumption, sale, transport, delivery or disposal; or (iii) creation of value or wealth by producing goods or services. The 2011 Records Rules define product as under: Product means any tangible or intangible goods, material, substance, article, idea, know-how, method, information, object, service, etc. that is the result of human, mechanical, industrial, chemical, or natural act, process, procedure, function, operation, technique, or treatment and is intended for use, consumption, sale, transport, store, delivery or disposal. The 44 Products Cost Accounting Record Rules notified by the Central Government are basically manufacturing sector-oriented. Maintenance of cost records is a necessity for service sector enterprises also. With this in view, the 2011 Records Rules define production activity to inter alia cover transformation of tangible inputs (raw materials, semi-finished goods, or subassemblies) and intangible inputs (ideas, information, know-how) into goods or services and creation of value or wealth by producing goods or services. Thus, the 2011 Records Rules have extended the requirements to maintain cost records under section 209(1)(d) to companies engaged the services sector also. However, the 2011 Records Rules shall not apply to a banking company or insurance company as such a company is a company which is a body corporate governed by any special Act. Requirements of the 2011 Records Rules - Cost records to be maintained as per CASs and GACAP issued by ICWAI - The cost records are to be maintained in accordance with the generally accepted cost accounting principles and cost accounting standards issued by the Institute of Cost and Works Accountants of India (ICWAI) to the extent these are found to be relevant and applicable. The variations, if any, are to be clearly indicated and explained. Requirement of compliance report from Cost Accountant - Rule 5 of the 2011 Record Rules
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provides that every company to which these rules apply shall submit a compliance report, in respect of each of its financial year commencing on or after the 1st day of April, 2011, duly certified by a cost accountant, along with the Annexure to the Central Government, in the prescribed form (i.e. Form B). Form B means the form of the compliance report and includes Annexure to the compliance report. According to Rule 2(c) of the 2011 Record Rules, cost accountant means a cost accountant as defined in clause (b) of sub-section (1) of section 2 of the Cost and Works Accountants Act, 1959 (i.e. a member of the ICWAI) and who is either a permanent employee of the company or holds a valid certificate of practice under sub-section (1) of section 6 and who is deemed to be in practice under sub-section (2) of section 2 of that Act and includes a firm of cost accountants. In view of the requirements of mandatory compliance reporting by cost accountants, it would be only fair for the Central Government to unburden the statutory auditors from requirements of para 4(viii) of CARO, 2003 and their obligations under section 227(3)(b) regarding maintenance of proper books of account insofar as cost records are concerned. The Central Government should delete Para 4(viii) of CARO, 2003 by Notification and clarify that the obligation of statutory auditor under section 227(3)(b) regarding maintenance of proper books of account insofar as cost records are concerned extends only to the 8 regulated industries listed above. Issue of timely availability of compliance report to statutory auditor - Rule 6 of the 2011 Record Rules provides that every company to which the 2011 Record Rules apply shall submit the compliance report to the Central Government within 180 days from the close of the companys financial year to which the compliance report relates. Since, there is a time-line of 180 days from the end of the financial year within which the report has to be obtained and submitted. This means the compliance report may not necessarily be available to the statutory auditor
for forming his opinion on maintenance of cost accounts and cost records for the purposes of para 4(viii) of CARO, 2003 as the last date for holding Annual General Meeting is also 6 months from the end of the financial year (i.e. 30th September) and statutory auditors report has to be ready at least a couple of months before the AGM so that the annual report containing audited accounts and statutory auditors report can be printed and sent 21 clear days before the AGM. However, the opening paragraph of Compliance Report in Form B reads as under : I/We ...................................... being in permanent employment of the company/ in practice, and having been appointed as cost accountant under Rule 5 of the Companies (Cost Accounting Records) Rules, 2011 of ...................................... (mention name of the company) having its registered office at .. (mention registered office address of the company) (hereinafter referred to as the company), have examined the books of account prescribed under clause (d) of sub-section (1) of section 209 of the said Act, and other relevant records for the period/year ...................................... (mention the financial year) and certify as under: This may be contrasted with the opening para of cost audit report in Form II to the Cost Audit Report Rules, 2011 which reads as under: I/We, ...................................... having been appointed as Cost Auditor(s) under section 233B of the Companies Act, 1956 (1 of 1956) of ...................................... (mention name of the company) having its registered office at ...................................... (mention registered office address of the company) (hereinafter referred to as the company), have audited the books of account prescribed under clause (d) of sub-section (1) of section 209 of the said Act, and other relevant records in respect of the .................................... (mentions name/s of product group/s) for the period/year
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...................................... (mention the financial year) maintained by the company and report, in addition to my/our observations and suggestions in para 2. Item 3 of Form B requires the cost accountant to state whether Detailed unit-wise and product/activity-wise cost statements and schedules thereto in respect of the product groups/activities are/are not kept in the company. The corresponding requirement in cost audit report in Item (vii) of the opening para of cost audit report in Form II reads as under: Detailed unit-wise and product/activitywise cost statements and schedules thereto in respect of the product groups/activities under reference of the company duly audited and certified by me/us are/are not kept in the company. The words duly audited and certified by me/us are/are not kept in the company in cost audit report are absent in Item 3 of Form B. Thus, a comparison of Form B and Form II suggests that the compliance report involves examination of cost records but not an audit of cost records. This is understandable as scope of compliance report is in respect of the product groups/activities while in case of cost audit report it is in respect of the product groups/activities under reference of the company. Thus, the cost accountant has to cover cost records for all product groups/ activities while cost auditor has to cover only cost records of the product groups/activities under reference of the company. Since the cost accountant in compliance report has to cover a much larger area than cost auditor in cost audit report, it is only to be expected that the examination of cost records be less intensive than that of the cost auditor. Further, it is desirable that this compliance report should be available to the cost auditor for the purposes of cost audit. This would mean that cost accountants examination of cost records for compliance report has to be less intensive than in a cost audit. Thus, it would appear that the cost accountant would examine cost records, Detailed unit-wise and product/activity-wise cost statements and schedules thereto to see whether these are maintained and whether they comply with cost accounting standards issued by ICWAI. He would not be required to apply audit procedures like examining documentary evidence supporting the entries in books of account. In view of this, it appears that it may be possible for the company to make arrangement with its Cost Accountant to obtain the compliance report say in April itself. It would be better if the statutory auditor arranges with his company-client before hand to have this compliance report in time so that it will be useful for him to form and base his opinion for the purposes of para 4(viii) of the CARO. Issue of reliance on compliance report to statutory auditor - A question arises whether question arises whether, in case of companies covered under Companies (Cost Accounting Records) Rules, 2011, reliance can be placed by the statutory auditor on the compliance report for the purposes of para 4(viii) of CARO, 2003? If the cost accountant issuing compliance report is practicing cost accountant, then there ought not to be any problem for the statutory auditor in relying on Form B compliance report. He can rely on the same provided he himself does not discover any shortcomings in the work done by the cost accountant during the course of his audit. In such a case, he may preface his remarks as under: Based on the Compliance Report dated ... issued by the cost accountant M/s......... in Form B to the Companies (Cost Accounting Records) Rules, 2011 and based on such test checks as considered necessary, in my/our opinion, cost accounts and cost records have been made and maintained by the company. We have not, however, made a detailed examination of the records with a view to determine whether they are accurate or complete.
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However, if the cost accountant issuing compliance report is a permanent employee of the company then question of independence of the cost accountant arises. It would be better for ICAI to clarify whether the statutory auditor can rely on Form B in such a case.
CONCLUSION
5. The Notification of Revised Schedule VI and Companies (Cost Accounting Records) Rules, 2011 during the year 2011 (which is drawing to a close) will impact audit reporting under CARO, 2003 on issues such as (i) calculation of the limit of aggregate of paid-up capital
and reserves for exemption of private limited company from CARO, 2003 and applicability of the comment on internal audit system under para 4(vii) of CARO, 2003 to unlisted companies and (ii) Comment on cost records maintenance under para 4(vii) of CARO, 2003. There is a need for ICAIs guidance on these issues by revising the Statement on CARO, 2003. The MCA should consider dropping Para 4(viii) of CARO, 2003 and clarify that the obligation of statutory auditor under section 227(3)(b) regarding maintenance of proper books of account insofar as cost records are concerned extends only to the 8 industries which are still governed by product-specific cost accounting records rules.
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ACCOUNTS & AUDIT
AS-11 and AS-16 Dusting the dilemma for treatment of exchange rate differences on borrowing cost during construction period
INTRODUCTION
1. AS-11 in the context of The Effects of changes in Foreign Exchange rates is mandatory for all the enterprises for the accounting periods commencing on or after April 1, 2004. The entities may be covered under AS-11 under two circumstances, i.e., either when an entity has transactions in foreign currency or when it has foreign operations. For the purpose of making financials as per IGAAP, the financials need to be prepared in the Indian currency. As a result of it, the transactions of the entity need to be stated in INR and financial statements of the foreign operations need to be translated to INR. AS-16 Borrowing Costs deals with the capitalization of the interest and other costs incurred by the entity in connection with the borrowing of funds for a qualifying asset. It often happens that enterprises borrow in foreign currency at a lower rate of interest to fund the expansion of the projects. In that situation, when the enterprises pay the interest cost, should it be treated as a Borrowing cost as per AS 16, or as an exchange difference as per AS 11 or both?
THE ISSUE & THE DILEMMA

2. An issue came before the EAC (Expert Advisory Committee) regarding the combined application of the AS-11 and AS-16. The case relates to a company in its expansion phase for its project requirements. The company funded its requirement under External Commercial Borrowing route (ECB) from a bank in the USA, in Dollars. As at the year - end, there was reduction in reinstatement of liability as a result of reduction in exchange rate of US Dollar. The gain on the reinstatement of liability in Foreign Currency Loan Account was credited by the company to Profit & Loss account as Other Income. The same amount was debited to Profit & Loss account as Expenditure transfer
VARUN KUMAR
CA
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to capital account and, thus, crediting the Capital Work in Progress leading to abatement/ decapitalization, because the project was in the construction stage. An opinion was sought from the EAC on whether exchange rate variations on the foreign currency loan taken/foreign currency liability incurred for the project, during the period of construction should be capitalized or abated/decapitalized, as the case may be, as an incidental expenditure during construction? The above issue arose as a result of the implications of AS-11 and AS-16. The dilemma was whether in the above situations, the exchange difference during the construction period should be treated as a Borrowing cost as per AS16, or as an exchange difference as per AS11 or both? SOLUTION 3. The solution was the combined application of paragraph 4(a), 4(e) of AS-16 and paragraph 6 of AS-11. 3.1 Paragraph 4(a) of the AS-16 Borrowing Costs states that: Borrowing costs may include: interest and commitment charges on bank borrowings and other short-term and longterm borrowings; 3.2 Paragraph 4(e) of the AS-16 Borrowing Costs states that: Borrowing costs may include: exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs. 3.3 Paragraph 6 of AS-11 The Effects of changes in Foreign Exchange rates states that: This Statement does not deal with exchange differences arising from foreign currency borrowings to the extent that they are regarded as an adjustment to interest costs (see paragraph 4(e) of AS16, Borrowing Costs).
3.4 It can be said that the costs which will be covered under Paragraph 4(e) of AS-16 will be capitalized as borrowing costs. The amount of interest on the foreign currency borrowing not covered by Paragraph 4(e) AS-16 will be accounted as per AS-11. 3.5 Paragraph 4(e) of the AS-16 Borrowing Costs clearly mentions that borrowing cost may include only that part of exchange difference, which can be considered as an adjustment to interest costs.
DEFINITION OF ADJUSTMENT TO INTEREST COSTS

4. Generally, entities borrow funds in foreign currency at a lower interest rate as compared to borrowing locally. In such a scenario, the exchange difference on the principal amount of foreign currency borrowings, to the extent of, the difference between interest on local currency borrowing and interest on foreign currency borrowing, is regarded as an adjustment to the interest costs. In layman terms, the difference between the interest on local currency borrowing and the interest on foreign currency borrowing (to the extent of exchange difference on the amount of principal of the foreign currency borrowings) will be covered under paragraph 4(e) of AS-16 and is actually adjustment to interest costs
ROLE OF ACCOUNTING STANDARD INTERPRETATION (ASI) 10

5. Suppose the entity has borrowed locally instead of foreign currency borrowing. Consider the rate of interest on local currency borrowing as the one at which the entity could have borrowed funds in India. In the given situation, Paragraph 4(e) of AS-16 comes into play and the exchange differences arising from foreign currency borrowings, to the extent they are regarded as an adjustment to interest costs, are capitalized. Further, if there is foreign exchange gain instead of loss then the same should be reduced from
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the cost of the asset to the extent the exchange loss has been capitalized as per provisions of the paragraph 4(e) of AS-16. Any excess exchange gain should be treated as an income for the year in which it arises. 6.1.1 Applications of Paragraph 4(e) of AS 16 and Paragraph 6 of AS-11 for computation of borrowing cost Step 1 Interest on Foreign Currency Loan for the F.Y. 2009-10 INR 2,40,000, i.e., [USD 1,00,000 INR 48 per USD 5%] Step 2 Increase in liability for repayment of loan INR 3,00,000, i.e., [USD 1,00,000 INR 3 (INR 48 INR 45)] Step 3 Interest, if the loan had been borrowed locally INR 4,95,000, i.e., [USD 1,00,000 INR 45 per USD 11%] Step 4 Difference between interest on Local Currency Borrowing and Foreign Currency Loan INR 2,55,000, i.e., [INR 4,95,000 - ` 2,40,000] 6.1.2 The above date can diagrammatically as follows be represented
6. ILLUSTRATIONS
6.1 Illustration 1 - PHP Ltd. (Indian company) engaged in the power generation required funds for expansion. The company opted for borrowing in US Dollars from a bank in the USA under the External Commercial Borrowing route. Loan was obtained of USD 1,00,000 on April 1, 2009. The interest rate was 5% p.a. and payable annually. The exchange rates on April 1, 2009 and March 31, 2010 were INR 45 and INR 48 per USD respectively. Had the company not borrowed in foreign currency, it could have borrowed locally at an interest rate of 11% p.a.
6.1.3 Point to ponder - If the difference between the interest on local currency borrowing and the interest on foreign currency borrowing is equal to or more than the exchange rate difference arising on restatement of principal amount of the foreign currency borrowings, the entire amount of exchange difference is covered under paragraph 4(e) of AS-16.
Note 1 : In illustration 1, the difference between the interest on local currency borrowing and the interest on foreign currency borrowing (INR 2,55,000) is less than the exchange rate difference on the amount of principal of the foreign currency borrowing (INR 3,00,000). Hence, only INR 2,55,000 can be capitalized in the given case under paragraph 4(e) of AS-16.
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6.2 Illustration 2 - Suppose in Illustration 1 above, the company could have borrowed locally at an interest rate of 13% instead of at 11%. 6.2.1 Application of Paragraph 4(e) of AS 16 and Paragraph 6 of AS 11 for computation of borrowing cost Step 1 Interest on Foreign Currency Loan for the F.Y. 2009-10 INR 2,40,000, i.e., [USD 1,00,000 INR 48 per USD 5%]
Step 2 Increase in liability for repayment of loan INR 3,00,000, i.e., [USD 1,00,000 INR 3 (INR 48 INR 45)] Step 3 Interest if the loan had been borrowed locally INR 5,85,000, i.e., [USD 1,00,000 INR 45 per USD 13%] Step 4 Difference between interest on Local Currency Borrowing and Foreign Currency Loan INR 3,45,000, i.e., [INR 5,85,000 INR 2,40,000] 6.2.2 The above data can diagrammatically as follows be represented
Note 2 : In illustration 2, the amount of principal foreign currency borrowings (INR 3,00,000) is less than the difference between the interest on local currency borrowing and the interest on foreign currency borrowing (INR 3,45,000). Hence, INR 3,00,000 can be capitalized fully, in the given case under paragraph 4(e) of AS-16. 6.3 Illustration 3 - In continuation to illustration 1, suppose the exchange rate as at March 31, 2011 is ` 40 per USD. Step 1 Interest on Foreign Currency Loan for the F.Y. 2010-11 INR 2,00,000, i.e., [USD 1,00,000 INR 40 per USD 5%]
Step 2 Decrease in Liability for repayment of loan (INR 5,00,000), i.e., [USD 1,00,000 INR 5 (INR 40 INR 45)] Step 3 Interest if the loan had been borrowed locally INR 4,95,000, i.e., [USD 1,00,000 INR 45 per USD 11%] Step 4 Difference between interest on Local Currency Borrowing and Foreign Currency Loan INR 2,95,000, i.e., [INR 4,95,000 INR 2,00,000] 6.3.1 The above data can diagrammatically as follows be represented
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Note 3 : Now there is foreign exchange gain of INR 5 Lakhs on the foreign currency borrowings. Out of it only INR 3 Lakhs can be reduced from the cost of asset Capital Work in Progress (CWIP) because till date exchange loss of INR 3 Lakhs only has been capitalized under the provisions of paragraph 4(e) of AS-16. The balance of INR 2 Lakhs (INR 5 Lakhs - INR 3 Lakhs), will be treated as an income for the year and credited to Profit & Loss account.
CONCLUSION
7. It can be concluded that the exchange difference arising on the foreign currency borrowings during the construction period should be bifurcated into interest portion (Accounted as per AS-16) and exchange gain/loss (Accounted as per AS-11). The foreign exchange loss on the foreign currency loan can be capitalized
only to the extent the amount of exchange difference on foreign currency principal amount does not exceed the difference between interest on local currency borrowings and interest on foreign currency borrowings. This is considered as borrowing cost to be dealt with under AS-16 (Refer to diagram 1 in illustration 1). The remaining exchange difference, if any, is accounted for under AS-11 (Refer to diagram 1 in illustration 1). If there is the foreign exchange gain arising on the foreign currency borrowings, the same should be reduced from the cost of the fixed asset to the extent the exchange loss has been capitalized as per the provisions of paragraph 4(e) of AS-16 (Refer to illustration 3). Further, if there still remains some exchange gain even after aforementioned reduction from the cost of fixed asset, then the same should be treated as an income for the year in which it arises (Refer to illustration 3).
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Accounts & Audit in Brief

A Fortnightly Analysis of Changes in Accounts & Audit
Accounts and audit, like all fields today, register new developments frequently. Here is a synoptic view of such changes which one cannot afford to miss.
RAJESH GOSAIN
CA
NATIONAL UPDATES
Accounts
Exposure Draft - Limited Revision to AS 10, Accounting for Fixed Assets The Institute of Chartered Accountants of India (ICAI) has issued an Exposure Draft of Limited Revision to Accounting Standard (AS) 10, Accounting for Fixed Assets. The changes are proposed primarily to: (i) (ii) improve accounting for fixed assets during their construction period; incorporate consequential amendments to AS 29, Provisions, Contingent Liabilities and Contingent Assets, regarding the provision made for costs of dismantling/removing
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the items and site restoration; the related obligation of an entity during a particular period for purposes other than to produce inventories during that period; (iii) improve accounting for spares with a view to bring it in line with the improvements being made in International Accounting Standard (IAS) 16, Property, Plant and Equipment at the suggestion made by the ICAI to the International Accounting Standards Board (IASB); and bring consistency between this standard and other AS.
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As a consequence to the change in the accounting for spares, the Guidance Note on Accounting for Machinery Spares (Re: AS 2 and AS 10) would stand withdrawn from the date when AS 10 revision comes into effect. (Comments to be sent to ICAI by December 20, 2011)
Source: ICAI website (24 th November, 2011) Link: http://220.227.161.86/24956announ14787.pdf
Exposure Draft - Guidance Note on Recognition of Revenue by Real Estate Developers The objective of this Guidance Note is to recommend the accounting treatment by sellers or developers dealing in Real Estate. Real estate transactions covered by the following AS are outside the scope of this Guidance Note:
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AS 10, Accounting for Fixed Assets; AS 12, Accounting for Government Grants; AS 19, Leases; and AS 26, Intangible Assets
This Guidance Note covers all forms of transactions in real estate. For example: (a) (b) (c) (d) (e) (f) Sale of plots of land without any development; Sale of plots of land with development in the form of common facilities like laying of roads, drainage lines and water pipelines, etc.; Development and sale of residential and commercial units, row houses, independent houses, with or without an undivided share in land; Acquisition, utilization and transfer of development rights; Redevelopment of existing buildings and structures; Joint development agreements for any of the above activities.
This Guidance Note primarily prescribes the application of Percentage of Completion Method as per AS 7, Construction Contracts, in respect of real estate activities, having the same economic substance as construction type contracts. In respect of transactions of real estate which are in substance similar to delivery of goods, AS 9, Revenue Recognition is applicable. This Guidance Note would be applicable to all real estate transactions commenced or entered into on or after April 1, 2012. An early application is permitted, provided this is applied to all transactions which commenced or were entered into on or after the date of application. This Guidance Note on its becoming effective would supersede the Guidance Note on Recognition of Revenue by Real Estate Developers issued by the ICAI in 2006. (Comments to be received by December 13, 2011)
Source: ICAI Website (14th November, 2011) Link: http://220.227.161.86/24887announ14694.pdf
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Guidance Note on CAS 6 - Material Cost Material cost is one of the major elements of cost, while deriving cost of production. Therefore, the Institute of Cost and Works Accountant (ICWAI) has released Guidance Note on Cost Accounting Standard 6, Material Cost (CAS-6), with a view to standardize the treatment of material cost. This Standard sets out the principles of proper allocation and determination of material cost. More importantly, this is one of the first Standards, framed under the revised framework in line with the international practice in this regard. The Standard provides the detailed discussion about the following:
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Types of the materials This part enlists the various types of materials covered under CAS-6; being raw materials, process materials, additives, manufactured/bought out components, subassemblies, accessories, semi-finished goods, consumable stores, spares and other indirect materials.
The definitions used in the Standard This part defines the meaning of certain terms, e.g., material cost, imputed cost, standard cost, abnormal cost, administrative cost, direct and indirect material cost, etc.
Principles of measurement of material cost This part discusses the principle of valuation of receipt of materials (imported or indigenous), finance cost incurred in acquisition of material, valuation of self manufactured material, etc.
Assignment of material cost Assignment of material cost involves establishing a suitable procedure to identify and record the resources consumed. This part lays down the principles in this regard.
Presentation This part prescribes how the direct and indirect materials are to be classified and disclosed in the cost statements.
Disclosures This part describes how information needs to be disclosed in the cost statements dealing with determination of material cost.
Annexures exhibiting the practical examples
Source: ICWAI Website Link: http://www.casbicwai.org/casb/docs/Guide_note_cas6.pdf
Audit
FAQs - on Companies (Cost Accounting Records) Rules, 2011 and Companies (Cost Audit Report) Rules, 2011 Third part of Frequently Asked Questions (FAQs) is issued to clarify practical aspects on the Companies (Cost Accounting Records) Rules, 2011 and the Companies (Cost Audit Report) Rules, 2011. These include:
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Exemption from these Rules; Authentication of compliance report by the cost auditor; Practical queries in respect of turn key contracts;
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Applicability of the Cost Accounting Rules in case of a retail company engaged in the telecommunication sector; Applicability of the Cost Audit Rules in case of electricity companies; Applicability in case of other types of companies; Price determination in case the product is sold to a related party; Use of digital signature.
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Source: ICWAI Website Link: http://www.icwai.org/icwainew/docs/FAQ/3-FAQ-CARR-CAR.pdf
Cost Accounting Records and Cost Audit - Clarification regarding applicability and compliance requirements Certain applicability and compliance requirements in respect of the Companies (Cost Accounting Records) Rules, 2011 and the Companies (Cost Audit Report) Rules, 2011 are further clarified through this circular. These include:
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Filing of compliance report; Period for maintenance of the cost records; Defining the term turnover; Filing the cost audit reports; Appointment of cost auditor, etc.
Source: ICWAI Website Link: http://members.icwai.org/members/docs/mca/CostAuditLetter.pdf
Cost Accounting Records and Cost Audit - Clarification about coverage of certain sectors This circular enlists the types of the entities covered or exempted from the Cost Accounting Record Rules and certain Cost Audit Orders. Among others, exempted category in respect of Cost Accounting Record Rules mainly include wholesale and retail trading activities, banking, financial, leasing, insurance, education, healthcare, business and professional consultancy, IT & IT enabled services, companies engaged in job work operations, companies engaged in mining activities (till the time of commencement of commercial operations). Certain Cost Audit orders would not be applicable to certain class of companies, e.g., generation of electricity for captive consumption, hundred per cent EOU, etc.
Source: ICWAI Website Link: http://members.icwai.org/members/docs/mca/CostAccountingRecord.pdf
Others
Extension of last date of filing Financial Statements in XBRL mode MCA has extended the due date for filling of financial statements in XBRL mode for the companies covered under Phase-I (excluding exempted companies), having balance sheet date for the financial year 2010-11 on or after 31 March, 2011, without any additional fees. The date has been extended from 30 November, 2011 to 31 December, 2011 or 60 days of their due date of filling, whichever is later.
Source: ICAI Website (30th November, 2011)Link: http://220.227.161.86/25019announ14831.pdf
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Council Guidelines for conversion of CA firms into LLPs ICAI has issued Detailed Guidelines for conversion of CA firms into LLPs. This is a welcome move for all the chartered accountants in practice, willing to extend their size and practice. This is because the limit of 20 partners would no longer be applicable as the LLP is a body corporate, having no upper ceiling as to partners. These Guidelines provide detailed procedure for conversion of CA firms into LLPs and formation of new LLPs by chartered accountants in practice. These have come into force w.e.f. 4th November, 2011.
Source: ICAI Website (4th November, 2011) Link: http://220.227.161.86/24889announ14695.pdf
Rules and Procedures for obtaining opinion from Expert Advisory Committee In the present fast changing and competitive era, the business organisations often enter into complex business transactions, whereas accounting practices and norms are not yet settled, which require authoritative guidance. The Expert Advisory Committee (EAC) of the ICAI is formed to provide such authoritative guidance in the form of opinions on such matters raised by the members of the ICAI. The opinion on these matters can be obtained from the EAC on payment of charges of ` 25,000/10,000 (` 50,000/20,000 proposed) as per its Advisory Service Rules (available on the ICAIs Website or the ICAI head office, New Delhi). These are then available in the form of Compendium of Opinions for the benefit of the members. So far 28 volumes have been issued.
Source: ICAI Website (2nd November, 2011) Link: http://icai.org/new_post.html?post_id=7835&c_id=219
Guidance Note on Non-Financial Disclosure - Latest Publication ICSI for bringing the clarity on disclosure of certain items which are non-financial in nature has issued a Guidance Note on Non-Financial Disclosures as its latest publication.
Source: ICSI WebsiteLink: http://www.icsi.edu/WebModules/Publications/Images/GNNFD.JPG
INTERNATIONAL UPDATES
IAS/IFRS IASB and FASB have published revised proposal for revenue recognition The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) have issued a revised draft standard to improve and converge the financial reporting requirements of the International Financial Reporting Standards (IFRSs) and the US General Accepted Accounting Principles (GAAP) for revenue (and some related costs) from contracts with customers. The proposed Standard would improve IFRSs and US GAAP by:
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providing a more robust framework for addressing to revenue recognition issues; removing inconsistencies from existing requirements;
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improving comparability across companies, industries and capital markets; providing more useful information to users of financial statements through improved disclosure requirements; and simplifying the preparation of financial statements by streamlining the volume of accounting guidance.
(Comments to be provided by 13th March, 2012 through Comment on a Proposal section of www.ifrs.org or on www.fasb.org.)
Source: IASB Website (14th November, 2011)Link: http://www.ifrs.org/Alerts/PressRelease/rev+rec+reexpose+14+Nov+ 2011.htm
Comments invited on two drafts - Q&A for IFRS for SMEs TheSME Implementation Group (SMEIG) has published two draft Questions & Answers (Q&As) on the IFRS for Small and Medium sized Entities (SMEs). The topics covered are:
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Whether an entity can choose to apply the recognition and measurement provisions of IFRS 9, Financial Instruments: Classification and Measurement; Whether the recycling of cumulative exchange differences on disposal of a subsidiary is prohibited. These drafts have been issued by the International Accounting Standards Board (IASB) after issue of the IFRS for SMEs in 2009, with the intent to undertake a post-implementation review of the standard on its application by a broad range of entities.
(Comments to be sent by till 31st January, 2012 on http://www.ifrs.org/IFRS+for+SMEs/ Draft.htm)

Source: IASB Website (21st November, 2011)Link: http://www.ifrs.org/Alerts/SME/CommentsQAsSMEs.htm
2011 French translation of International Financial Reporting Standards (IFRS) 2011 version of the French translated IFRS is now available. This translated version of IFRS can be accessed online by eIFRS/Comprehensive subscribers in the secure eIFRS subscriber area after logging in with their username and password and then navigating to theLatest Additions section.
Source: IASB Website (16th November, 2011)Link: http://www.ifrs.org/Alerts/Publication/French+IFRSs+Nov+2011.htm
OTHERS Guide to Using International Standards on Auditing in the Audits of Small and Medium Sized Entities, Third Edition The Small and Medium Practices (SMP) Committee of the International Federation of Accountants (IFAC) has released the third edition of its Guide to Using International Standards on Auditing in the Audits of SME (ISA Guide). This ISA
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Guide is a comprehensive implementation guide and is issued for helping practitioners to understand and efficiently apply the clarified International Standards on Auditing (ISAs)while auditing SMEs. The first edition was issued in 2007.
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Volume 1 covers the basic concepts of a risk-based audit in conformity with the ISAs. Volume 2 contains practical guidance on performing SME audits, including two illustrative case studiesone of an SME audit and another of a microentity audit.
Source: IFAC Website (9th November, 2011)Link: http://www.ifac.org/publications-resources/guide-using-international-standards-auditing-audits-small-and-medium-sized-en
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ACCOUNTS & AUDIT
Carbon credits : A new dimension to the accounting and taxation methods
INTRODUCTION
1. The term Carbon credit has been coined in response to the concerns of global warming and climate change. One of the major reasons for global warming is the failure of ozone layer to protect the earths atmosphere from ultra-violet rays. This failure is because of industrial pollution and some substance being emitted in the atmosphere by virtue of human activities. This global warming causes many changes in the climatic conditions that will make our earth unfit for living. Such disturbances are causing unusual changes like frequent storms, floods, earthquakes, droughts, crop failures, scanty rainfall, rising sea levels disappearing of islands and coastal areas and many other irreparable damages. In 1997 world submit in relation to global warming held in Kyoto, Japan evolved the concept of carbon credit to mitigate emission of greenhouse gases which cause negative climatic changes. Carbon credit is a tool being used for reducing emission of pollutants in the atmosphere by giving it a monetary value.
GLOBAL LEGISLATION ON CARBON CREDITS

2. The Kyoto Protocol is an international agreement arising from the United Nations Framework Convention on climate change, 1992 (UNFCCC). The UNFCCC is the umbrella under which countries are trying to devise mechanisms and protocols to combat carbon credit. The main objective of UNFCCC is to reduce the impact of greenhouse gases in the atmosphere. There are six major greenhouse gases Carbon dioxide, Methane, Nitrous Oxide, Hydrofluoro-carbons, Perfluoro-carbons and Sulphur hexafluoride. These gases are indexed by their Global Warming Potential (GWP) so that they can be expressed in carbon dioxide units.
Associate Professor Dayal Singh College (E) University of Delhi
DR. SUSHMA BAREJA
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WHAT ARE CARBON CREDITS?

3. Each carbon credit represents one tonne of carbon dioxide either removed from the atmosphere or saved from being emitted. Carbon credits are issued as Certified Emission Reduction (CERs) by the UNFCCC. The CERs are certificates in fungible form which can be traded in any of the following emission markets:
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THE CONCEPT OF CARBON TRADING

4. A carbon market functions much like any other financial market in which carbon shares (sometimes called pollution credits) representing the right to emit greenhouse gases are bought and sold. The market works in conjunction with a cap on allowable emission. Polluters that are below the cap can sell the excess emission rights as credits or shares to others who are above the limit. For trading purpose, one credit is considered equivalent to one tonne of CO2. A simple example will clarify it. ABC Ltd. emits 40 units of greenhouse gases in the environment out of 60 units allotted to it, i.e., it has 20 units of emission as credit outstanding balance in its pollution A/c XYZ Ltd. emits 60 units instead of 40 units allotted to it, i.e., it has a debit balance of 20 units in its pollution A/c. Now ABC Ltd. will transfer its 20 excess units to XYZ Ltd. so that both the companies pollution A/c is matched. This transfer of 20 units will be for a monetary consideration and, hence, it is referred to as carbon trading.
European Union Emission Trading Systems (EUETS) - Multi Country Trading Scheme. Chicago Climate Exchange (CCX) - North America. European Climate Exchange (ECX) - Europe. Nord Pool - Norway, Denmark, Sweden and Finland. Powernext, a Paris based company operating a European energy exchange, owned by NYSE Euro next. Multi Commodity Exchange (MCX) - India.
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In order to facilitate reaching emission limits, three flexible mechanisms were agreed upon in the Marrakesh Accords in 2001. They are:1. Clean Development Mechanism (CDM) It was created to give a cost effective option to developed countries to achieve their emission reduction targets. It is a way out for Annex 1 countries (USA, UK, Japan, New Zealand, Canada, Australia, Germany, France, etc.) to earn such credits by investing and funding climate friendly projects and technologies in the developing countries (Non-Annex 1 - India, Sri Lanka, China, Afghanistan, Pakistan, etc., thus helping control emissions. 2. Joint Implementation Projects (JIP) - Basically these are same as CDMs but with Annex - 1 countries investing in climate friendly technology in Annex-1 countries, rather than other developing countries. 3. Emission Trading (ET) or Carbon Trading (discussed earlier). thrown open by the Kyoto Protocol. By hosting CDM projects, India has a lot to gain from Carbon credit, as is clear from the following:
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It will gain in terms of advanced technological improvements and related foreign investments. It will contribute to the underlying theme of greenhouse gas reduction by adopting alternative sources of energy. Indian companies can make profits by selling the CERs to the developed countries to meet their emission targets.
A FEW ACTIVITIES ELIGIBLE FOR CARBON CREDITS

5. Some of the activities that are eligible for availing of carbon credits include 1. Afforestation and reforestation projects. 2. Agri-biomass based energy projects. 3. Energy generation by controlled combustion. 4. Household level biogas plants treating organic farmyard kitchen and bio-wastes. 5. Solar energy, etc.
India being a developing country has no emission targets to be followed. However, it can enter into CDM projects. Companies investing in Windmill, Bio-gas and Bio-diesel are the ones that will generate carbon credits for selling to the developed nations. The Delhi Metro Rail Corpn. has become the first rail project in the world to earn carbon credits because of using regenerative breaking system in its rolling stock. This system reduces 30 per cent electricity consumption. DMRC can now claim 4,00,000 CERs for 10 years beginning from December 2007 when the project was registered with the UNFCCC. It translates into 1.2 crore per year for 10 years. In this new regime, India could emerge as one of the largest beneficiaries accounting for 25 per cent of the total world carbon trade, as per a recent World Bank report. Indias carbon market is growing faster then IT, BPO biotechnology industries.
ACCOUNTING FOR AND TAXATION OF CARBON CREDITS A NEW DIMENSION ADDED

7. Generation of revenue by taking up structural CDM projects would give a new dimension to Accounting and Taxation. As the concept of carbon trading is new, even at international level, various aspects and jurisprudence are yet to evolve. The Council of The Institute of
BRIGHT INDIAN SCENARIO

6. India has emerged as the world leader in reduction of greenhouse gases by adopting CDMS over the past few years. The Indian companies have successfully encashed the opportunities
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Chartered Accountants of India has approved of the accounting guidance note on carbon credit effective from July 1, 2009. As per the guidance note, the self-generated carbon credits are intangible assets and they need to be treated as inventory in the balance sheet till they are sold. As per AS-2, CERs should be measured at cost or net realizable value, whichever is lower. Regarding tax treatment of CERs, no directive has been issued by the Income-tax Department. Since most of the CDM projects are covered in infrastructure sectors like power plants, renewable energy projects, etc., such projects enjoy tax holiday benefits under section 80IA of the Income-tax Act. Similarly, Indirect Tax legislations do not provide for any specific guidelines on the treatment of CERs for tax purposes. CERs may be considered as goods for VAT purposes and be treated similar to electricity - which is either excluded from purview of VAT or included in the Schedule of goods exempted from VAT in order to promote CDM projects in India.
CONCLUSION
8. The pious purpose behind the carbon credit is to reward the efforts of those who are doing business in an environment-friendly way. In view of this, the steps taken under Kyoto Protocol are laudable. On one hand, such measures are helping in reducing carbon emission, thereby making the world a better and safe place to live in and on the other hand, such measures are bridging the gap between the developed and developing countries as Annex - 1 nations have to purchase CER from the non-Annex 1 nations. The need of the hour is that the international bodies, Indian Government, ICAI and other professional bodies must come out with guidelines, standards, legislations and rules and regulations on carbon credits to sustain developments and reduce the emission of the pollutants in the atmosphere.
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CORPORATE LAWS
SERVICE TAX
Conversion of Chartered Accountant (CA) Firms into Limited Liability Partnerships (LLP)
he Institute of Chartered Accountants of India (ICAI) vide its Guidelines No.1-CA (7)/03/2011, dated 4th November, 2011 (the Guidelines) has formalized the procedure for conversion of CA firms into LLPs and formation of new LLPs by the members in practice. The limited liability partnership is not a new concept; however after a long wait, ways for members in practice have now been opened to venture into a new type of entity. This would help the firms enlarging its size, business and opportunities on one hand; however reducing the liability of the members of the firm on the other hand. This article explains the procedure for transforming CA firms into LLPs.
SARIKA GOSAIN
CA
BACKGROUND
1. The Institute of Chartered Accountants of India (ICAI) vide its Guidelines No.1-CA (7)/ 03/2011, dated 4th November, 2011 (the Guidelines) has formalized the procedure for conversion of CA firms into LLPs and formation of new LLPs by the members in practice, subject to the provisions of the LLP Act, 2008 (LLP Act) and Rules and Regulations framed thereunder (Rules & Regulations). These guidelines would be effective from 4th November, 2011. Though, LLP Act came into force w.e.f. 1st April, 2009; however, the much awaited move
converting/constituting CA firms into LLPs has now been allowed. Literally, LLP is a hybrid form of a business enterprise, combing the benefits and privileges of a partnership firm and a company. LLP is a body corporate like any other company with a separate legal entity; however limiting the liability of the partners to the extent of their respective contributions and commitments, with simpler entry or exit of partners. Therefore, LLP is an entity, easier to form and close with lesser regulatory compliances.
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TRANSFORMING CA FIRMS INTO LLPsTHE PROCEDURE

2. The said guidelines hereby are laid down in respect of:
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(A) Conversion of existing CA firms into LLPs (i) Provisions to be followed - Provisions of Chapter-X of the LLP Act and Second Schedule thereto are required to be followed for converting an existing CA firm into LLP.
Conversion of existing CA firms into LLPs Constitution of separate LLPs
Chapter X of the LLP Act: Conversion to limited liability partnership - a synopsis

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Chapter X of the LLP Act sets out the procedure for conversion of different entities, including firms into LLP. The Registrar of LLP (the Registrar) on satisfactory compliance with the relevant provisions of LLP Act, Rules and Regulations, issues a certificate of registration. LLP shall, within fifteen days of the date of registration, inform the concerned Registrar of Firms, about the conversion. Upon such conversion, the LLP and the partners thereof shall be bound by the relevant provisions of the LLP Act, Rules and Regulations. From the date of registration(a) the LLP shall be formed; (b) all assets and liabilities relating to the firm shall vest in the LLP without further act or deed; (c) the firm shall be deemed to be dissolved and removed from the records of the Registrar of Firms.
SECOND SCHEDULE TO THE LLP ACT : Conversion from firm into limited liability partnership - a synopsis
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In addition to the Chapter X, the Second Schedule to the LLP Act sets out the specific procedure for conversion of firm into LLP, interpreting and explaining certain terms and eligibility. Statements to be filed to the Registrar A statement by all of its partners and fee, as prescribed. Incorporation document and other prescribed documents.
Any conviction, ruling, order or judgment of any authority in favour of or against the firm may be enforced by or against the LLP. Every agreement and contracts before the conversion shall be continued in the name of LLP. Every partner of a firm shall continue to be personally liable (jointly and severally with the LLP) for the liabilities and obligations of the firm, incurred prior to the conversion. The LLP shall for a period of 12 months commencing not later than fourteen days after registration, mention the following on every official correspondence: A statement that it is converted into LLP; and The name and registration number, if applicable, of the firm from which it was converted.
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CORPORATE SERVICE TAXLAWS

(ii) Proposed name-approval - The suffix1 of the proposed name of LLP as Chartered Accountant or Chartered Accountants shall be allowed by the Registrar subject to ICAIs approval. (iii) Resemblance of names-with non-CA entity - On resemblance of the proposed name of LLP of CA firm with any other non-CA entity, the word Chartered Accountant or Chartered Accountants may be included in the proposed name of LLP of CA firms, subject to following the procedure as mentioned above. (iv) Registration procedure-with ICAI On receiving the name registration from the Registrar, the requisite forms2, containing all the details of the proposed LLP and the copy of name registration shall be submitted3 to ICAI, for registering LLP with ICAI. (v) Names reserved - Once the names of a CA firm are registered with the ICAI, these shall remain reserved for the partners as one of the options for LLP names, subject to the provisions of LLP Act, Rules & Regulations. (vi) Seniority and other criteria - With regard to registration of LLP with ICAI, following guidelines relating to seniority and other criteria shall be followed: (a) Similar/Identical names - In respect of proposed LLP, where two similar/identical/nearly similar firm names (having same partners or not) have been registered by ICAI, only one such firms name shall be approved and remaining firms registered with ICAI (either desiring to convert into LLP or not) will require to change the firms name. (b) Suffix - Other than the suffix LLP, no other suffix shall be approved by ICAI, e.g. ABC & Co. LLP or ABC & Associates LLP. (c) No additional privileges - The newly converted CA LLPs can perform only the professional services4 allowed under the Chartered Accountants Act, 1949 and shall be subject to the same regulations, as if they were in partnership firm. No additional privileges which are not allowed to the CA firms will be provided on mere conversion into LLP. (d) Inter-se seniority-converted firms Inter-se seniority among the firms shall be given to LLPs as per existing policy of ICAI. In case of merger of two LLPs, same rules as applicable to firms merging shall apply. (e) Inter-se seniority-non-converted firms - The non-converted firms shall also remain on the same position of seniority in relation to converted CA LLPs. (vii) Conversion of proprietary firm into LLP - These guidelines shall also be equally applicable while converting proprietary firms into LLPs. The conversion of proprietary firm shall be by way of incorporation of new LLPs. (viii) Registration number - After conversion, the LLPs registration number (with minimum 6 numbers) with ICAI shall remain the same Firm Registration Number (FRN) allotted to the firm before the conversion by ICAI with the Regional Code like W for Western, E for Eastern etc. e.g. FRN W 1 2 3 4 5 6, FRN E 2 0 0 0 0 0 etc. (ix) Name regulations - The existing regulations with regard to name allot-
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ment to CA firms shall remain unchanged. (x) Merger/conversion of the firms - In case of merger of a firm and conversion with LLP and vice versa, seniority may be provided to the surviving entity as per policy prescribed by ICAI.* (xi) Existing Provisions - The provisions of CA Act, CA Regulations, 1988 and Code of Ethics, issued by ICAI shall remain applicable to all partners of the converted CA firms into LLP, jointly and severally. (xii) Clarifications required from MCA The following Guidelines are subject to the clarification from Ministry of Corporate Affairs (MCA): (a) Conversion of one firm into LLP When a CA firm has been appointed by a company as their statutory auditor under the Companies Act, 1956 and the said firm with the same partners is converted/formed into LLP, then the same FRN will continue. The Board of Directors of the company may take on record the conversion/formation of the CA firms into LLP and the new LLP shall be deemed to be an auditor of the said company for the same financial year5. (b) Conversion of more than one firm into LLP - Wherever more than one CA firms with all the partners desire to convert/form only one LLP, then for the LLP so converted/formed, the name and FRN may be selected out of only one such firms for the purpose of registration with ICAI and:
(i) The other such firms shall stand dissolved. (ii) Seniority shall be decided as per applicable rules of ICAI. (iii) The Board of Directors of all the Companies who have appointed all the erstwhile firms as auditors, may take a declaration from the said LLP with all the partners of all the erstwhile firms on record and the appointment of auditors of all the erstwhile firms made under the Companies Act, 1956, shall be deemed to be in the name of the said LLP. (B) Constitution of separate LLPs (i) Provisions to be followed - Members in practice desiring to constitute separate LLPs are required to follow the provisions of the LLP Act, Rules & Regulations. (ii) Proposed name-Approval - The suffix6 of the proposed name of LLP as Chartered Accountant or Chartered Accountants shall be allowed by the Registrar subject to ICAIs approval. (iii) Registration procedure-with ICAI On receiving the name registration from the Registrar, the requisite forms7, containing all the details of the proposed LLP and the copy of name registration shall be submitted8 to ICAI, for registering LLP with ICAI. (iv) Seniority and other criteria - With respect to registration of LLP with ICAI, following guidelines relating to seniority and other criteria shall be followed:
* The rules of determining seniority may be extracted from the following link: http://220.227.161.86/ 14525rules_of_network_merger_demerger.pdf
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CORPORATE SERVICE TAXLAWS

(a) Inter-se seniority - Inter-se seniority among the firms shall be given to LLP as per existing policy of ICAI. In case of merger of two LLPs, same rules as applicable to firms merging shall apply. (b) Suffix - Other than the suffix LLP, no other suffix shall be approved by ICAI, e.g. ABC & Co. LLP or ABC & Associates LLP. (c) No additional privileges - The newly constituted CA LLPs can only perform the professional services9 allowed under the CA Act and shall be subject to the same regulations, as if they were in partnership firm. No additional privileges which are not allowed to the CA firms will be provided on mere formation of LLP. (v) Constitution of proprietary firm as LLP - These guidelines shall be equally applicable while constituting a proprietary firm as LLP. (vi) Registration number - The LLPs registration number (with minimum 6 numbers) with ICAI shall be like the Firm Registration Number (FRN) allotted to the firms by ICAI with the Regional Code like W for Western, E for Eastern etc. e.g. FRN W 1 2 3 4 5 6, FRN E 2 0 0 0 0 0 etc. (vii) Name regulations - The existing regulations with regard to name allotment to CA firms shall remain unchanged. (viii) Existing Provisions - The provisions of CA Act, CA Regulations, 1988 and Code of Ethics issued by ICAI shall be applicable to all partners of LLP jointly and severally. (ix) Dispute Resolution - Any dispute in respect of these guidelines shall be referred to the committee of the ICAI. (x) Clarification sought - Any clarification regarding the approval and registration of proposed LLP with the ICAI, requests are to be sent at: The Secretary, The Institute of Chartered Accountants of India*
3. OTHER RELATED PROVISIONS

3.1 LLP of CAs can have more than 20 partners Under section 3(1) of the LLP Act, LLP is a corporate body and a legal entity separate from its partners. Indian Partnership Act, 1932 shall not be applicable to LLPs and there shall be no upper limit on the number of partners in an LLP unlike an ordinary partnership firm where the maximum number of partners is 20. Presently, CA firms are restricted to a maximum of 20 partners, being covered under the Partnership Act, 1932. After allowing the CA firms to convert/ form LLPs (being a body corporate), there would be no such restriction any more. In other words, the LLP of CAs can have more than 20 partners. This way, CA firms would be in a much strengthened position to compete with global audit houses, as these will be bigger in size, having more branches in different cities, thereby capable of serving a larger chunk of clientele. 3.2 LLP v. Multi-Disciplinary Firms - Once the suitable amendments are approved in the legislations governing regulators like the ICAI, the Institute of Company Secretaries of India (ICSI) and the Institute of Cost and Works Accountants of India (ICWAI), the concept of Multi-Disciplinary Firms (MDF) or Multi-
* P.B No: 7100, ICAI Bhavan, Indraprastha Marg, New Delhi 110002 The original guidelines of ICAI can be downloaded from the following link: http://220.227.161.86/24889announ14695.pdf
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Disciplinary LLPs would become operative. Then CAs would be in a position to partner with company secretaries, cost accountants, lawyers and other professionals, as specified by ICAI to act as one-stop shop for the clients to avail various professional services under one umbrella. 3.3 LLP of CAs not to be treated as body corporate for the limited purpose of section 226(3)(a) of the Companies Act, 1956 - The MCA, after receiving representation from the ICAI, clarified that for the limited purposes of section 226(3)(a) of the Companies Act, 1956, LLP of CAs will not be treated as body corporate. This is because as per the said section, a body corporate is disqualified from appointment as auditor by a company. Since LLP is a body corporate as per section 3(1) of the LLP Act, without this exemption, LLP of CAs would have become disqualified for appointment as auditor. Source:http://mca.gov.in/Ministry/pdf/Circular_ 30A-2011_26may2011.pdf 3.4 LLP of CAs allowed to become Statutory Auditors - Currently, section 2 of the respective Acts governing the three professional Institutes (ICAI, ICSI and ICWAI) defines members who are deemed to be in practice. When these Acts
were enacted, only one form of partnership existed in India, namely, Partnerships under Indian Partnership Act, 1932. Subsequently, LLP Act was enacted, which is applicable w.e.f. 1st April, 2009. Though LLPs are bodies corporate under section 3(1) of the LLP Act; however, now MCA has clarified that LLPs would also be construed as partnerships for the purpose of these three Acts. This would mean that LLP of CAs would be considered as members in practice and hence can do the statutory audits and attestation work now. This is done by interpreting the words partnership wherever occurring in the CA Act, the Cost and Works Accountants Act, 1959 and the Company Secretaries Act, 1980. It is clarified that the word partnership shall be construed to include LLPs where all the other partners are natural persons (individuals). The word partner shall also be construed accordingly. It is also clarified that this interpretation shall apply only to these three Acts and not to any other enactment where the word partnership occurs. Source: http://mca.gov.in/Ministry/latestnews/ Circular_04Apr2011.pdf
1. As per Rule 18(2)(xvi) of LLP Rules, 2009 2. Form No. 117 and Form No. 18 3. As per regulation 190 of the Chartered Accountants Regulations, 1988 4. As per Section 2(2) of the Chartered Accountants Act, 1949 5. As per section 58(4) of the LLP Act, 2008 6. As per Rule 18(2)(xvi) of LLP Rules, 2009 7. Form No. 117 and Form No. 18 8. As per regulation 190 of the Chartered Accountants Regulations, 1988 9. As per Section 2(2) of the Chartered Accountants Act, 1949
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SERVICE TAX
SERVICE TAX
Some Controversies in Service Tax

V.S. DATEY
here is no dearth of controversies in service tax. The definitions are vague and capable of wide meaning. Adding fuel to fire, the revenue minded officers try to rope in various transactions under service tax net. Sometime, service provider is in dictating position and charges service tax, as he does not want to take risk. Sometimes, service receiver is in dictating position and he refuses to pay service tax charged by the service provider. Poor assessee is caught between the fire. Some recent controversial issues in service tax are discussed in this article.
SOFTWARE - GOODS OR SERVICE OR BOTH

1. Service tax has created many weird creatures like Ardha Nari Nateshwar (half man half woman demi-God). One such creature is IT software. The creature is such that it is both completely goods and completely service at one and the same time. Hamlet had said To be or not to be, that is the question. Indian assessees are saying Software is goods or service (or both), that is the question. It is well settled through judicial pronouncements that both tailor made software and packaged software are goods. Even paper license is
goods. All these products find place in Central Excise Tariff as well as Customs Tariff. Packaged software - Packaged software or canned software means a software developed to meet the needs of variety of users, and which is intended for sale or capable of being sold, off the shelf [Notification No. 6/2006-CE dated 1-3-2006, Notification No. 14/2011-CE dated 1-3-2011 parallel Notification No. 25/ 2011-Cus., dated 1-3-2011] Thus, it should be capable of being sold off the shelf. Sometimes, the license to use packaged software is for limited period (usually one year). The
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license is renewed on payment of renewal fee by giving password. Thus, packaged software is not sold. In such cases, issue is whether service tax applies or excise duty/sales tax applies. Definition of packaged software includes capable of being sold off the shelf. Thus, by renewal of license, a software capable of being sold off the shelf is sold. It is true that in Infotech Software Dealers Assn. v. UOI [2010] 29 STT 132 (Mad.), it was observed that when software is sold through medium of internet in form of downloadable, it does not fit in ambit of IT software of any media and then when only password is given and not CD, it does not satisfy requirement of being goods. However, it seems the aforesaid definition of packaged software was not noticed. Further, it is well settled that law is not static and technological advances can be considered in interpreting a provision. Thus, downloading of software can be considered as sale of goods as technology enables such transaction. Excise duty on packaged software - In case of packaged or canned software falling under tariff item 8523 80 20, excise duty is payable on MRP valuation basis w.e.f. 21-12-2010. The abatement available is 15% of MRP, i.e. excise duty (and corresponding CVD in case of imported packaged or canned software) is payable on value which will be 85% of MRP printed on the packaged or canned software. If appropriate excise duty (in case of software manufactured in India) or customs duty in
case of imported software) is paid on basis of MRP valuation by the manufacturer, duplicator or the person holding the copyright to such software, service tax will not be payable on such packaged or canned software Notification No. 53/2010-ST, dated 21-12-2010 confirmed in MF(DR) Circular No. 15/2011-Cus., dated 18-3-2011. Paper license of software and PUK cards Documents of title conveying the right to use Information Technology Software (popularly termed as paper license of software) falls under 4907 00 30 of Customs Tariff with duty rate of 12.5%. However, it is exempt vide Sr. No. 157 of Notification No. 21/2002-Cus., dated 1-3-2002. It is also covered under Central Excise Tariff under same heading i.e. 4907 00 30 and excise duty rate is Nil. Thus, on paper licence, basic customs duty or CVD is not applicable, if imported without accompanying software confirmed in MF(DR) Circular No. 15/2011Cus., dated 18-3-2011. PUK (Personal Unlocking Key) cards of paper board or plastic are in the form of scratch cards. These are not documents of title to software, but they contain printed matter containing numbers, which when entered, enable the importer to access right to use such software, which he has downloaded from internet. PUK card is a printed matter falling under heading 4911 as other printed matter. Thus, on PUK cards, basic customs duty or CVD is not applicable, if imported without accompanying software confirmed in MF(DR) Circular No. 15/2011-Cus., dated 18-3-2011.
Summary of taxability of Information Technology Software

I have tried to summarise the position as follows, though I agree that disputes are possible.
Category of software Packaged software with MRP Excise Duty (In case of manufacture in India) Yes Customs Duty (in case of imports) No basic customs duty but CVD is payable Service Tax Vat/CST
No
Yes
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SERVICE TAX
Category of software Packaged software where MRP not required Tailor made software Paper license of software and PUK cards Excise Duty (In case of manufacture in India) Duty on cost of media Customs Duty (in case of imports) No basic customs duty but CVD is payable Service Tax Vat/CST
Service tax on transfer of right to use software
Yes
No
No
Yes
Yes
No
No
Yes
Yes
SERVICE TAX ON BAD DEBTS

2. The change of service tax payment liability from receipt basis to accrual basis has created serious problem regarding cases where service receiver does not pay the bill amount or make deductions from the bill while making payment to service provider. Service provider can refund the payment received to service receiver, or issue credit note in following situations (a) if service is not provided partly or fully or (b) amount of invoice is renegotiated due to deficient provision of service or any terms contained in the contract. After such refund or credit note, assessee can take self credit of excess service tax paid by him when he had issued the invoice/Bill/Challan [Rule 6(3) amended w.e.f. 1-4-2011]. Such adjustment is not permissible for bad debts. Thus, in case of bad debt (which is not covered in (a) or (b) above, service tax is payable on bad debts also. The position is similar to Central Excise, State Vat and CST, where excise duty or sales tax is payable even when the customer does not pay. However, in services, proportion of bad debts is much higher than that in case of sale of goods. This is particularly so in some sectors like construction, consultancy etc. Often service provider raises bill of higher amount, keeping scope for negotiations.
Delays in getting payments from customer, particularly Government and PSU, is another serious matter, where service provider pays the tax but does not get money from customer for quite some time. Some assessees are trying to get over the problem by issuing Demand Note, Demand Advise or Proforma Invoice or some such names. However, really this is not going to solve the problem since issue of invoice within 14 days of completion of service is mandatory. If such invoice is not issued, date of completion of service becomes the point of taxation for purpose of payment of service tax. Wherever possible, assessee can take support of following departmental clarification. When the service is deemed to be completed Invoice is required to be issued within 14 days from date of completion of service. The invoice needs to indicate value of service. Thus, even if physical part of providing the service is completed, invoice cannot be issued unless auxiliary part like measurement, quality testing is completed. Thus, service can be treated as completed only when these activities are also completed. However, such activities do not include flimsy or irrelevant grounds for delay in issuance of invoice. This interpretation applies in determination of the date of completion of provision of service in case of continuous supply of service also - MF(DR) Circular No. 144/13/2011-ST, dated 18-7-2011.
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CAN DATE OF INVOICE BE POINT OF TAXATION?

3. In many cases, date of invoice is practically point of taxation. Thus, practically, date of invoice is the taxable event. Really, service provided or to be provided is the taxable event for purpose of levy of service tax. Issue or non-issue of invoice is only a procedural part. That by itself cannot be taken as a taxable event. In my view, this provision in the rule can be challenged as beyond the provisions of the Act.
Is the late fee mandatory? Though the word used is fee, it is really nothing but penalty. Fee is for service provided. In Jindal Stainless Ltd. v. State of Haryana [2006] 152 Taxman 561 (SC), it has been held that regulatory fees can be only compensatory in nature. Fees cannot be equated to taxes. There must be a broad co-relationship with the fees collected and administration of the service - Secretary, Government of Madras v. Zenith Lamp & Electrical Ltd. AIR 1973 SC 724 same view in Jindal Stainless Ltd.s case (supra) Vijayalakshmi Rice Mills v. CTO [2006] 147 STC 609 (SC). Thus, it can be argued that the fee is penalty and, hence, cannot be imposed without passing an adjudication order. It can be reduced or waived for sufficient reasons. What about returns pertaining to period upto September, 2010 filed after 8-4-2011 - It is possible that assessee had not filed returns pertaining to period upto September, 2010 and may file it after 8-4-2011. As per article 20(1) of the Constitution, no person shall be convicted of any offence except for violation of law in force at the time of commission of the act charged as an offence. Thus, penalty can be imposed only on basis of law prevailing on date of offence and not on any subsequent amendment in law. Penalty is imposable on basis of law operating on the date on which the wrongful act is committed. Any subsequent change in law cannot be applied to past offences - P.V. Mohammad Barmay Sons v. Director of Enforcement 1992 (61) ELT 337 (SC). Hence, it can be argued that offence was committed prior to 8-4-2011 and penalty applicable that time i.e. when return should have been filed, will apply [Counter argument is that non-filing of return is a continuous offence and continues till return is filed. Hence, if return is filed after 8-4-2011, late fee as applicable on that day will apply].
LATE FEE FOR RETURNS PRIOR TO 31-3-2011 : ` 2,000 OR ` 20,000

4. Rule 7C as amended w.e.f. 8-4-2011 provides for late fee upto ` 20,000 for delayed filing of return. The late fee was ` 2,000 upto 8-4-2011. One issue is what about returns for the period upto 30th September, 2010, filed after 8-4-2011? Another issue is whether the late fee is mandatory or discretionary. The late fee payable is as follows (a) Delay Upto 15 days ` 500 (b) Beyond 15 days and upto 30 days ` 1,000 (c) Delay beyond 30 days ` 1,000 plus ` 100 per day of delay beyond 30 days, from 31st day onwards - rule 7C inserted w.e.f. 12-5-2007. This ` 100 per day continues till limit of ` 20,000 is reached. This limit will be reached after total delay of 220 days. Once the payment is made for submitting delayed return, any penalty proceedings in respect of such delayed submission of return shall be deemed to be concluded. Waiver or reduction of penalty for non-filing of return, if service tax payable is Nil - Return is required to be filed even if no service tax is payable. However, if gross amount of service tax payable is Nil, Central Excise Officer can reduce or waive penalty, in a case where return was not filed, and sufficient cause is shown [proviso to rule 7C of Service Tax Rules inserted w.e.f. 1-3-2008].
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SERVICE TAX
IMPORT AND EXPORT OF SERVICE
5. Though rules relating to import and export of service are quite clear, wherever any payment is made to foreign party in foreign exchange, department treats it as Import of Service. On the other hand, if service is provided from India (or in India), department refuses to consider it as export of service, even where payment is received in foreign exchange. Following chart indicates the provisions relating to import and export of some important service.
Provisions of import and export relating to some important services

Nature of Service Commission Agent (Business Auxiliary Service) Category 3(iii) When import Commission Agent outside India providing service to Principal in India When Export Commission Agent in India providing service to Principal outside India and payment received in convertible foreign exchange Bank or Financial Institution in India providing service to customer who is receiving the service outside India and payment received in convertible foreign exchange Service provider in India providing service to customer who is receiving the service outside India and payment received in convertible foreign exchange
Banking Services
3(iii)
Bank or Financial Institution outside India providing service to customer who is receiving the service in India
Management consultancy, Technical consultancy, Technical Testing and Analysis Service, IT Software, Legal consultancy (other than relating to immovable property), Manpower recruitment and supply, Sponsorship Service, Advertising, transport of goods by air or rail or road, telecommunication services Practising CA/CWA/CS
3(iii)
Service provider outside India providing service to customer who is receiving the service in India
3(iii)
Does not arise, as a foreign entity cannot get Certificate of Practice (COP) in India.
Service provider in India providing service to customer who is receiving the service outside India and payment received in convertible foreign exchange Advertisement published in India for foreign entity and payment received in convertible foreign exchange Goods exported outside India, service receiver is outside India and payment is received in foreign exchange
Advertisement other than advertisement in print media
3(iii)
Advertisement published outside India in relation to business in India
Air transport of goods
3(iii)
Goods imported by air. Service tax is payable on freight in excess of 20% FOB (since customs duty is payable on air freight upto 20% of FOB value)
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Nature of Service Business Exhibition, Commercial Training and Coaching, Maintenance and Repair, Photography, CHA service, Technical inspection and certification Construction Service, Works Contract Service, Architect services, Legal consultancy relating to immovable property, Hotels
Category 3(ii)
When import Service at least partly performed in India by service provider located outside India
When Export Service at least partly performed outside India by Indian service provider and payment received in convertible foreign exchange
3(i)
Service provider outside India providing service in respect of immovable property within India
Indian service provider providing service in respect of immovable property outside India and payment received in convertible foreign exchange
CONFUSION CREATED BY DECISION IN CASE OF MICROSOFT

6. Controversy and confusion has been created by Tribunals decision in Microsoft Corpn. (I) (P.) Ltd. v. CST [2009] 22 STT 201 (New Delhi - CESTAT). In this case, the assessee was providing marketing support service in India to its holding company in USA and subsidiary in Singapore. The service was provided to customers of the holding company in USA and subsidiary in Singapore. A prima facie view was held that this is not export of service, and assessee was asked to make pre-deposit of 70 crores out of demand of 125 crores of tax plus 125 crores as penalty writ petition against the order has been dismissed Microsoft Corpn. India (P.) Ltd. v. CST [2009] 23 STT 400 (Delhi). In this case, Microsoft Operation P Ltd., Singapore (MO, Singapore) entered into Market Development Agreement with Microsoft Corporation (India) P Ltd. (assessee - Microsoft India for short). Both are subsidiaries of Microsoft Corporation, USA. Microsoft Singapore will supply Microsoft products to customers in India. Microsoft India is required to provide product support services and consulting services for Microsoft products. Microsoft India is also required to market Microsoft products supplied by MO, Singapore. For various services provided by assessee (Microsoft India), payment will be made by
MO, Singapore on basis of expenses incurred by assessee plus 10% for product support and consulting services and plus 15% in case of marketing of Microsoft products. Payment was obviously in freely convertible foreign currency. Assessee claimed that the service is export of service and exempt. Commissioner, in effect, held that the services are used in India and, hence, are not export of service. This view was more or less upheld by Tribunal. There are some other issues in this case, which are not relevant for our discussions. Basic issue - The basic issue for consideration is whether service of Microsoft India is used outside India. Who is the user of service provided by Microsoft, India? The customers in India received products from Microsoft, Singapore and not from Microsoft, India. Thus, their privity of contract was with Microsoft, Singapore. Indian customers did not make any payment to Microsoft, India. Payment for services was made by Microsoft, Singapore to Microsoft, India in foreign exchange based on cost plus markup. Service is used outside India - User of services of assessee (Microsoft, India) can be only Microsoft, Singapore and not any customer of Microsoft, Singapore situated in India. Thus, service is used outside India as the user (Microsoft, Singapore) is situated outside India and he got benefit from the service outside India.
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SERVICE TAX
Conclusion - In my view, service is provided by Microsoft India to Microsoft, Singapore. The user and beneficiary of service provided by Microsoft India is Microsoft, Singapore who is situated outside India and does not have any office in India. Thus, the service is used outside India. It should qualify as export of service, more particularly because in reverse direction, it is treated as import of service and is treated as taxable in India. Unfortunately, sympathy factor is working against them and hence we have to see what would be ultimate outcome. Further development - The issue was taken up for final hearing by Tribunal. As per reports, there was difference of opinion and hence matter has gone to third member.
INTEREST IF TAX DUES PAID AFTER 1-4-2011

8. Interest rate has been increased to 18% from 13% w.e.f. 1-4-2011. Is the interest payable when amount due prior to 31-3-3011 is paid after 1-4-2011? Interest is payable at rates as applicable from time to time (and not at the rate applicable on first day of default) M J Exports (P.) Ltd. v. UOI 2006 (202) ELT 583 (Bom.) Commr. of Cus. (I) v. Consolidated Solvents & Chem. Corpn. 2009 (243) ELT 625 (Trib. - Mum.). Thus, in my view, suppose tax payment was due on 5-10-2010, assessee should calculate interest for the period 6-10-2010 to 31-3-2011 @ 13% and for the period 1-4-2011 to 15-52011 @ 18%.
SERVICE TAX PROVISIONS DO NOT HAVE EXTRA TERRITORIAL JURISDICTION

7. Section 64(1) of Finance Act, 1994 states that provisions of Chapter V of the Finance Act, 1994 (which contain provisions relating to service tax) extend to whole of India except J&K. Thus, the Act does not have any extraterritorial jurisdiction. However, department tries to levy service tax even where the service is provided outside India, just because service provider is an Indian entity. In fact, some exemption notifications have been issued on the assumption that such services can be taxed in India!
PROVIDING FREE FLATS TO LAND OWNER

9. Often, in case of an agreement between the land owner and developer, the landowner gives his land against some upfront payment and a share in constructed area. The issue is whether service tax is payable, and if yes, then what would be the point of taxation. In my view, the land owner is paying for flats in kind (i.e. land) and hence should be subject to service tax (though I agree there are different views on this issue). As regards point of taxation, actually it should be when land is conveyed to the builder. However, there is a view that the developer is not providing any service to land owner and no service tax is payable (I do not agree with this view).
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SERVICE TAX
The Ongoing Battle on Validity of Levy of Service Tax on Renting of Immovable Property for Commercial/Business use
his article explains the legal battle going on between the department and the affected assessees pursuant to the introduction of renting of immovable property for commercial or business use as a taxable service in the year 2007.
V. PATTABHIRAMAN
INTRODUCTION OF THE LEVY

1. Renting of immovable property for use in the course or furtherance of business or commerce was roped into the service tax net with effect from 1-6-2007. At that time, section 65(90a) of the Finance Act, 1994 (the Act) defined the term renting of immovable property as includes renting, letting, leasing, licensing or other similar arrangements of immovable property for use in the course or furtherance of business or commerce. The provision however excluded (i) renting of immovable property by a religious body or to a religious body, and (ii) renting of immovable property to an educational body, imparting skill or knowledge or lessons on any subject or field, other than a commercial training or coaching centre. An Explanation
was added to this provision to clarify that the expression for use in the course or furtherance of business or commerce includes use of immovable property as factories, office buildings, warehouses, theatres, exhibition halls and multiple-use buildings. Another Explanation was inserted with effect from 16-5-2008 to declare that renting of immovable property includes allowing or permitting the use of space in an immovable property irrespective of the transfer of possession or control of the said immovable property. These provisions remain unamended till date. Section 65(105)(zzzz) of the Act, inserted with effect from 1-6-2007, defined the taxable service as any service provided or to be provided to any person, by any other person, in relation to renting of immovable property for use in the course or furtherance of business or
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commerce. The introduction of this levy met with stiff resistance from the affected parties (especially, retailer trade) in the initial stage itself.
DEPARTMENT RETALIATES WITH A RETROSPECTIVE AMENDMENT

3. The Finance Act, 2010 totally substituted section 65(105)(zzzz) in order to make it explicit that the activity of renting is by itself a taxable service. The amended definition read as service provided or to be provided to any person, by any other person, by renting of immovable property, or any other service in relation to such renting, for use in the course of or for furtherance of business or commerce (emphasis supplied). In effect, the activity of renting was released from the clutches of the phrase in relation to, so as to make it clear that renting was a taxable service by itself. The amendment was given retrospective effect from the date of introduction of the levy, viz., 1-6-2007. Validating provisions covering the period 1-6-2007 to 8-5-2010 (the date on which the Finance Act, 2010 received the assent of the President) were also simultaneously enacted. The department justified this amendment by clarifying that the amendment was necessitated by taking into consideration the precarious situation in which the landlords had been placed in the wake of the Delhi High Court judgment, due to nonreimbursement of service tax element by the tenants, and also in order to clarify the legislative intent and also to bring in certainty in tax liability.
ASSESSEE WINS THE FIRST ROUND IN DELHI HIGH COURT

2. The validity of the levy was first challenged in the Delhi High Court in Home Solutions Retails India Ltd v. Union of India [2009] 20 STT 129. The High Court first observed that service tax being a tax on value addition provided by a service provider, if there was no value addition, then there would be no service. With the aforesaid observation in mind, the High Court analysed the provisions of section 65(105)(zzzz) of the Act, with particular emphasis on the expression in relation to used therein, and came to the conclusion that, insofar as renting of immovable property for use in the course or furtherance of business or commerce was concerned, any value addition could not be discerned. The High Court therefore held that section 65(105)(zzzz) did not in terms entail that the renting of immovable property for use in the course or furtherance of business or commerce would by itself constitute a taxable service and be exigible to tax under the Act. The assessee thus won the first round, but Revenue filed a Special Leave Petition in the Supreme Court, which was admitted by the Supreme Court. This petition is still pending disposal in the Supreme Court, but the Supreme Court did not pass any orders staying the operation of the High Court judgment. It is interesting to note that the Delhi High Court cited reference to the definition of renting of immovable property in section 65(90a) of the Act (which included renting in the definition), but did not discuss this provision, but instead decided the issue purely on the definition of taxable service in section 65(105)(zzzz) of the Act.
ASSESSEE LOSES THE SECOND ROUND IN THE DELHI HIGH COURT

4. The same assessee who was the winner in the first round again challenged the amended provisions in the case of Home Solutions Retails (India) Ltd. v. Union of India [2011] 33 STT 95/ 13 taxmann.com 188 (Delhi). The petitioner challenged the validity of the amendment on the following grounds: (i) The levy in the present case clearly related to lands and buildings, and hence, the power to legislate vested exclusively
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in the State legislature by virtue of Entry 49 of List II of the Seventh Schedule to the Constitution of India; (ii) The impugned activity did not entail any value addition so as to be treated as a taxable service as held in their own case earlier; (iii) The retrospective effect given to the amendment and the consequent validating provisions were bad in law. This time, the case was heard by a three-Judge Bench, and the Bench analysed the issues exhaustively, and held eventually as follows: (a) Section 65(105)(zzzz) and section 66 of the Act, as amended by the Finance Act, 2010, are intra vires, the Constitution of India. (b) The decision rendered in the first Home Solutions Retail India case does not lay down the law correctly as we have held that there is value addition when the premises is let out for use in the course of or furtherance of business or commerce, and is accordingly overruled. (c) The challenge to the amendment giving it retrospective effect is unsustainable and accordingly, the same stands repelled and the retrospective amendment is declared as constitutionally valid. (para 74) The significant observations of the High Court on which the above conclusions are based, are as follows:
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purpose. The value of the building gets accentuated because of the scarcity of lands and buildings, goodwill, accessibility and similar ancillary advantages which constitute value addition.
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When premises is taken for commercial purposes, it is basically to subserve the cause of facilitating commerce or business and promoting the same. Therefore, there can be no trace of doubt that an element of value addition is involved, and once there is value addition, there is element of service. The imposition of service tax under section 65(105)(zzzz) read with section 66 is not a tax on land and buildings which is under Entry 49 of List II of Seventh Schedule to the Constitution of India, what is being taxed is the activity, and the activity denotes the letting or leasing with a purpose, and that purpose is fundamentally for commercial or business purpose and its furtherance. Once there is value addition and the element of service is involved, in conceptual essentiality, service tax gets attracted and impost gets out of the purview of Entry 49 of List II, and falls under the residual entry i.e., Entry 97 of List I. It is well settled in law that it is open to the legislature to pass a legislation retrospectively and remove the base on which a judgment is delivered. In Vijay Mills Co. Ltd. v. State of Gujarat [1993] 1 SCC 345, the Supreme Court held that it is open for the legislature to change the very basis of the provisions retrospectively and to validate the actions on the changed basis. In State of Himachal Pradesh v. Narain Singh [2009] 13 SCC 165, the Supreme Court held that it would be permissible for the legislature to remove defect in earlier legislation and the defect can be removed both retrospectively and prospectively by legislative action and the previous action can be validated.
When a particular building or premises has the effect potentiality to be let out on rent for commercial or business purposes, an element of service is involved in the immovable property and that tantamounts to value addition which would come within the component of service tax. An element of service arises because a person who intends to avail the property on rent wishes to use it for a specific
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FOUR OTHER HIGH COURTS UPHOLD CONSTITUTIONAL VALIDITY OF THE LEVY
5. The constitutional validity of the levy in the instant case was also challenged before four other High Courts recently, as detailed below: (a) Cinemax India Ltd. v. Union of India [2011] 32 STT 359/12 taxmann.com 492 (Guj.) (the Gujarat High Court case) (b) Utkal Builders Ltd. v. Union of India [2011] 32 STT 398/12 taxmann.com 390 (Orissa) (the Orissa High Court case) (c) Shub Timb Steels Ltd. v. Union of India [2010] 29 STT 479/8 taxmann.com 117 (Punj. & Har.) (the Punj. & Har. High Court case) (d) Retailers Association of India (Rai) v. Union of India [2011] 32 STT 443/437 (Bom.) (the Bombay High Court case). The issues before these High Courts are the same as those that were before the Delhi High Court in the Home Solutions Retails (India) Ltd. case (supra), explained in para (4). All the four High Courts have upheld the constitutional validity of the levy in accordance with the amended provisions, as well as the retrospectivity given to the amended provisions. Important observations from these judgments are given below, courtwise : 5.1 Gujarat High Court Case :
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or commerce. Such renting of immovable property is an activity which amounts to rendition of service in the course or furtherance of business or commerce. Though renting of any property ipso facto would not amount to service for the purpose of service charge, if renting of immovable property is made in the course of or furtherance of business or commerce, value addition is made by the service provider in favour of the service recipient. Such activity undertaken by the service provider for value addition in the course of furtherance of business or commerce, i.e., to carry on activity of business or commerce of the service recipient, amounts to rendition of service and will fall within the meaning of definition of service tax. The use of the word furtherance means that, if a service provider is renting the property in the course or furtherance of business or commerce, it will amount to an activity in favour of the service recipient for helping forward business, promotion of business, advancement of business and progress of business. It automatically generates value addition and comes within the meaning of service tax as defined in section 65(105)(zzzz). Accordingly, the provisions of section 65(105)(zzzz) as amended with retrospective effect from 1-6-2007 are upheld. The provisions will be attracted only if the immovable property is rented for the use in the course or furtherance of business or commerce. The provisions will not be attracted in cases of vacant land/buildings mentioned in Explanation 1 to that provision.
The petitioners have argued that renting of immovable property is a transaction by which right in or in relation to immovable property is transferred for a certain period and it is not an activity involving performance, skill, expertise or knowledge, and that the amount received by the lessor/ licensor is consideration for transfer of right in or in relation to immovable property. Such analogy cannot be applied in the case of renting of immovable property by a service provider to a service recipient who hires the property for use in the course or furtherance of business
5.2 The Orissa High Court Case :

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The entire focus of the Delhi High Court in the first Home Solutions Retails (India) Ltd. case (supra) seems to be on section 65(105)(zzzz), and the impact, scope and ambit of section 65(90a) which defines
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renting of immovable property has not been discussed. It is well settled principle of law that, if a judgment proceeds without taking note of or ignoring relevant provision of law, the said judgment cannot be held to have correctly decided the issue.
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of transfer of right in immovable property does not involve value addition, the provision cannot be held to be void in the absence of encroachment on List II.
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The nature of transactions made by the petitioner with its tenant clearly amounts to renting of immovable property for the purpose of business or commerce, and is therefore clearly covered by section 65(90a) itself, and service tax is clearly leviable thereon. Amendment to section 65(105)(zzzz) is clearly clarificatory in nature and Parliament certainly possesses the necessary legislative competence to declare the amendment to be retrospective in operation.
It is well settled that competent legislature can always clarify or validate a law retrospectively. It cannot be held to be harsh or arbitrary. Object of validating law is to rectify the defect in phraseology or lacuna and to effectuate and to carry out the object for which earlier law was enacted. Therefore, there was no ground to set aside giving retrospective to the amendment from 1-6-2007, on which date the levy was initially introduced.
5.4 The Bombay High Court Case :

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5.3 The Punj. & Har. High Court Case :

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It could not be said that service tax on service of renting of property is exclusively covered by Entry 49, List II, since the said Entry relates to tax on land and building, and not to any activity relating thereto. It cannot be held that renting of property does not involve any service as service can only be in relation to property and not by renting property. Renting of property for commercial purposes is certainly a service and has value for the service receiver. The aspect of service element in renting transaction is certainly an independent aspect covered under Entry 92C, read with Entry 97, of List I. In any case, subjectmatter of impugned levy being outside the scope of Entry 49 of List II, power of Union legislature is undoubted. Question whether levy will be harsh, being in addition to income-tax and property tax, is not a matter for the instant Court once there is legislative competence for the levy. Even if it is held that transaction
The essential nature and character of levy is that it constitutes the levy of tax on taxable services. The charge of tax is not on lands and buildings as a unit nor is the tax on land and buildings. To be a tax on land and buildings under Entry 49 of List II, the tax must be directly on land and buildings. That is not the true character of an impost on taxable services. The renting of immovable property, in legislative wisdom of Parliament, involved a conferment of service and it is in that legislative exercise that Parliament proceeded to levy service tax. The true nature and character of levy in the present case is a levy under the residuary power which has been conferred upon Parliament in List I. The levy of a tax on taxable service provided or to be provided to any person by any other person, by the renting of immovable property, is based on a considered determination by Parliament that such transactions do in fact involve an element of service. The fact that the service provided may not, to the petitioners, accord with what is commonly regarded as a service would not militate against the validity of the legislation, as could be noted from the Supreme Court judgment
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in the case of Tamil Nadu Kalyana Mandapam Assn. v. Union of India [2006] 4 STT 308. The validity of the legislation does not depend on determination of fact by the Court that a service is provided in the transaction which is brought to tax. (In the aforesaid judgment of the Supreme Court, the Supreme Court had inter alia observed that a levy of service tax on a particular kind of service could not be struck down on the ground that it does not conform to a common understanding of the word service so long as it does not transgress any specific restriction contained in the Constitution.)
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More significantly, even if the Court were to proceed on the basis suggested by the petitioners that no element of service is involved, that would not make the legislation beyond the legislative competence of Parliament. So long as the legislation does not trench upon a field which has been reserved to the State Legislatures, the only conclusion that can be drawn is that the law must be treated as valid and within the purview of the field set apart for Parliament. The amendment was brought in order to cure the deficiency which was found upon interpretation by the Delhi High Court. The object of giving retrospective effect to the amendment is to expressly bring the legislative provision in conformity with the original parliamentary intent. The .Supreme Court held in Bakhtawar Trust v. M.D. Narayan [2003] 5 SCC 298 that it is open to the legislature to alter the law retrospectively provided the alteration is made in such a manner that it would be no more possible for the Court to arrive at the same verdict. The purpose and object of validating legislation is to ensure a fundamental change of circumstances upon which the earlier judgment was founded. This may be done by enacting retrospectively a valid and legal taxing provision and then by fiction making the tax already collected stand under the enacted law. The amendment in the present case passes muster on that test.
A legislative hypothesis contained in parliamentary legislation cannot be questioned on the ground that the assumption of fact is in error, Parliament is entitled to make assessments of fact on the basis of which it legislates. Indeed, such assessments of fact are intrinsic to the very nature of the legislative exercise and the Court which exercises the power of judicial review particularly in fiscal matters would not be justified in re-examining the wisdom or the correctness of such an exercise by Parliament. The legislature in fiscal matters is entitled to a high degree of latitude in designing legislation and in formulating methodologies for the recoveries of fiscal extraction. Such an exercise cannot ordinarily be questioned as being beyond the powers of the enacting legislature. The legislative basis that has been adopted by Parliament in subjecting taxable services involved in the renting of immovable property to the charge of service tax cannot be questioned. The assumption by a legislative body that an element of service is involved in renting of immovable property is certainly not an assumption which can be regarded as being so manifestly absurd or perverse as to lead to an inference that Parliament has treated as a service an item which in no rational sense could be regarded as involving service.
ISSUE GOES TO THE SUPREME COURT

6. The fact that five different High Courts have, in different but concurring voices, upheld the constitutional validity of the levy, as well as its retrospective application, should, in the normal course, have led to the wishful belief that the litigative battle has come to an end. However, the reality is that the belief has been belied. The Retailers Association of India have filed a Special Leave Petition in the Supreme
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Court against the Bombay High Court judgment, and the Supreme Court has taken the petition on board on 18-9-2011 and had also recorded that the appeals will be heard on the SLP Paper Books and that additional documents, if any, may be filed by the parties. The Supreme Court have also granted a stay on the taking up of any coercive steps against the petitioners for recovery of arrears of service tax due on
or before 30-9-2011. The Supreme Court have also clarified that there is no stay on imposition of service tax under sub-clause (zzzz) of clause (105) of section 65 read with section 66 of the Finance Act, 1994 (as amended), insofar as the future liability towards service tax with effect from 1-10-2011 is concerned. The scene now shifts to the Apex Court for the final battle.
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SERVICE TAX
T.N. PANDEY
Ex.-Chairman, CBDT
Hindu marriage is a religious ceremony besides being a social function
he Delhi High Court in a recent decision in the case of All India Tent Dealers Welfare Organization v. Union of India [2011] 33 STT 211/14 taxmann.com 16 has held that erection of pandals/shamianas for the Hindu marriages is covered by the term social function as given in the Explanation to section 65(77a) of the Finance Act, 1994 and, hence, persons providing such services would be liable to pay service tax at the prescribed rate. In this article the author has examined the relevant provisions in the service tax legislation and the recent decision of the High Court and has opined that a Hindu marriage, despite being deemed as a social function, does not lose its characteristics as a religious ceremony covered by the circular dated 17-9-2004 issued by the CBEC which is binding on the field officers and, hence, service providers & such services should not be made liable to pay service tax.
INTRODUCTION
1. The above mentioned subject is being examined in later discussions with reference to the provisions of the Finance Act, 1994 concerning taxation of services in the light of Delhi High Courts ruling in the case of All India Tent Dealers Welfare Organization v. Union of India [2011] 33 STT 211/14 taxmann.com 16.
BACKGROUND OF THE ISSUE

2. The occasion to consider the problem arose in the context of an interpretation of section 65(77a) concerning liability to pay service tax by pandal and shamiana contractors (service providers) where the issue was whether such services in the context of marriages were liable to payment of service tax on the ground that marriage is a social function.
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LEGAL PROVISIONS
3. For considering the said issue, it is necessary to give an account of the legal provisions that are relevant in the context of query being examined. (a) Historical background Initially, the pandal or shamiana contractors services were brought within the ambit of service tax net by the Finance Act, 1997, w.e.f. 1-8-1997. However, the Government vide Notification No. 49/98, dated 2-61998 exempted the taxable service provided to a client, by a pandal and shamiana contractor from whole of the service tax. The provisions relating to levy of service tax on a pandal and shamiana contractor were also omitted from the Finance Act, 1994. Thus, the levy of service tax on pandal or shamiana services remained effective only for the period between 18-1997 to 1-6-1998. However, the levy of service tax on a pandal and shamiana contractor has been revived by the Finance (No. 2) Act, 2004, with effect from 1-9-2004. Thus, period during which the service tax on pandal and shamiana contractor is leviable is as under:
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shamiana in any manner and also includes the services, if any rendered as a caterer. (b1) According to the Explanation to section 65(105), the taxable service shall also include any such service provided or to be provided by any unincorporated association or body or persons to its members for a consideration. The key ingredients of the definition of a pandal or shamiana are as follows: (i) There must be service in relation to a pandal or shamiana; (ii) Such service may be provided in any manner; (iii) Such service must be provided by a pandal or shamiana contractor; (iv) Pandal and shamiana contractors service also includes the services, if any, rendered as a caterer; (v) Such service is provided to any person.
From 1-8-1997 to 1-6-1998; and From 10-9-2004 and onwards.
(b) Taxable services - Service tax is chargeable on taxable services specified under clause (105) of section 65 of the Act. In respect of pandal and shamiana contractors service, sub-clause (zzw) of clause (105) of section 65 of the Act, defines a taxable service as under: taxable service means any service provided or to be provided [to any person] by a pandal or shamiana contractor in relation to a pandal or
OTHER DEFINITIONS
4. Clause (77a) of section 65 of the Act, defines pandal or shamiana as under:
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pandal or shamiana means a place specially prepared or arranged for organizing an official, social or business function. [Explanation - For the purpose of this clause, social function includes marriage.] The following are the key ingredients of the definition:
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It must be a place. Which is specially prepared or arranged for organizing specific function. Such function must be an official, social (including marriage w.e.f. 1-6-2007) or business function.
fixture, lights and lighting fittings, floor coverings and other articles for use, at a place which is not a pandal or shamiana as defined in sub-section (77a) will not bring the supplier within the definition of a pandal or shamiana contractor and in the result such service will not be classifiable under clause (zzw) as a taxable service - Vide Kartar Singh Kochar, In re [2005] 2 STT 277 (AAR - New Delhi). (iii) There is exemption of 30% to pandal or shamiana contractors also providing catering subject to certain conditions.
DELHI HIGH COURTS DECISION

6. In All India Tent Dealers Welfare Organization (supra), a writ petition was filed before the Delhi High Court wherein the petitioner contended that erection of a pandal/shamiana for marriage is in furtherance of religious ceremonies, rites and rituals, especially for Hindu marriages which are to be performed for the religious function. Thus, the Hindu marriage should not be considered as a social function for the purpose of service tax. Therefore, the revenue was to be restrained from levying and/or collecting any service tax on erection of pandal or shamiana for a Hindu marriage. The High Court has decided that if the entire provision is properly understood, it is clearly discernible that the Hindu marriage is not treated or regarded a social function per se. If the dictionary clause is appositely appreciated, there can be no trace of doubt that only when a pandal or shamiana is used for marriage, it earns the status of social function because the service component is involved. It is worth noting, that the statute itself postulates that marriage is to be regarded as a social function and full effect has to be given to the same. That apart, the prerequisite is the use of pandal or shamiana and, therefore, the contention raised that Hindu marriage is not a contract but a scared institution and, hence, no service tax is imposable treating it as a social function has to be repelled.
4.1 By virtue of amendment made by the Finance Act, 2007, services provided in relation to pandal or shamiana used for organizing marriage would also be chargeable to service tax w.e.f. 1-6-2007. 4.2 Clause (77b) of section 65 of the Act, defines pandal or shamiana contractor as under: pandal or shamiana contractor means a person engaged in providing any service, either directly or indirectly, in connection with the preparation, arrangement, erection or decoration of a pandal or shamiana and includes the supply of furniture, fixtures, lights and lighting fittings, floor coverage and other articles for use therein. (This definition is not relevant in the present context)
5. EXEMPTION FROM TAX

(i) Service provided for pure religious ceremonies or congregation - Pandal or shamiana service provided for pure religious ceremonies or congregation, for example, for worship of Gods/Goddesses, are not liable to service tax - Vide Circular No. 80/ 10/2004-CX(ST), dated 17-9-2004. (ii) Mere supply of furniture, fixtures, lights and lighting fittings, floor coverings and other articles - Mere supply of furniture,
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6.1 The writ petition was, thus, dismissed on the ground that there was no merit in the petition.
make her a partner of his family tree. Murihead Historical Introduction to the Private Law of Rome pp. 23, 24.
ANALYSIS OF THE DECISION

7. The provisions of the Act and the decision of the High Court raise an important issue whether a Hindu marriage can be deemed as a social function as mentioned in the Act and as decided by the High Court on the basis of the Explanation to section 65(77a) of the Act (supra) even if it is a religious ceremony, which is eligible for exemption as per the Circular dated 17-9-2004 (supra 5(i))? 7.1 Marriage is a civil and religious contract Speaking generally the conception is that marriage is a union of a man and a woman as husband and wife. According to section 112 of the Indian Evidence Act, 1872, and section 2(a) of the Indian Majority Act, 1875, marriage is a ceremony by which two persons are made husband and wife through a series of ceremonies under the Hindu Law/Hindu Marriage Act. Even according to Western thinking as mentioned by Tomlin (quoted in Advanced Law Lexicon (3rd edition) by P. Ramanatha Aiyer at page 2915) marriage is a civil and religious contract whereby a man is joined and united to a woman for the purposes of a civilized society. 7.2 Marriage is a religious duty - A duty a man owes to his ancestors and to himself In India, from the Vedic age, the ceremony of marriage has been considered as a pious activity religiously performed as per the laid down rules/standards by sages. With the early Romans, as with the Hindus and the Greeks, marriage was a religious duty- a duty a man owed alike to his ancestors and himself. Believing that the happiness of the dead in another world depended on their proper burial and on the periodical renewal by their descendants of prayers and feasts and offerings for the repose of their souls, it was incumbent upon him above all things to perpetuate his race and his family cult. In taking to himself a wife, he was about to separate her, from her fathers house and
HINDU MARRIAGES ARE RELIGIOUSLY PERFORMED

8. Marriage is one of the necessary SAMSKARAS or religious rites for all the Hindus, whatever the caste, who do not desire to adopt the life of a perpetual Brahmachari or of a Sanyasi. Of course, there has never been any doubt as to its being a necessary SAMSKARA for a Hindu woman of any caste. 8.1 Marriage is a religious function - Thus, Hindu marriages are sacraments and, hence, these are, prima facie, covered by the exemption provided by the Circular [vide para 5(i) supra]. Circular speaks of pure religious ceremonies. This implies that there should be no camouflaging of any kind of sacramental religious marriages not mere disguise of religious activity but the activity, in fact, and in form should be of a religious nature according to the Hindu rites. Religion implies faith and devotion - things to which a person is devoted/committed. Religious means pious/devout, conscientious, etc. The Hindu system of marriage described earlier in essence implies such characteristics of religion and, hence, can certainly be considered as religious function - not social function and covered by the aforesaid circular. 8.2 In Hindu marriages there is no violation of the principle of equality - In giving a particular treatment (exemption) for service providers for pandals and shamianas for the Hindu marriages, there would be no violation of the principle of equality enshrined in the Constitution of India. This aspect has been considered in many decisions of the Courts. For example, in Chennamma v. Dyana Setty AIR 1953 Mys. 136, it has been decided that section 23 of the Mysore Hindu Law Womens Rights Act X of 1933 does not violate Article 15 of the Constitution on the ground that it applies only to persons who follow the Mitakshara School of the Hindu
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law and not other Hindu or to Muslims, Christians or Parsees. 8.3 Separate treatment for the Hindus in the Act - Separate treatment for the Hindus under tax laws has been accepted under the Incometax Act, 1961 where Hindu undivided family (HUF) has been recognized as a separate taxable entity with some provisions of the Act applying only to HUFs.
FUTURE SCENARIO
11. It may be that such a situation may not arise after the passing of the new Goods and Services Tax law. The draft of the negative list circulated by the Government (proposed to be implemented from 1-4-2012, which date may not be adhered to as per the present indications) shows that there will only be a single entry under the religious category religious services provided by any person - making a shift from religious institutions to religious purpose.
APPLICABILITY OF DEEMING ASPECT

9. The Explanation to section 67(77a) (supra) provides that a marriage is to be deemed as a social function. Deeming implies treating a thing something which it is not there or negatively by deeming something not to be something which it is not. But by such deeming, the essential characteristics of the deemed thing cannot be said to have been lost or destroyed for marriage ceremony, even if it is deemed to be a social function for the purposes of section 65(77a) of the Act and will not cease to be a religious function and, hence, it would be entitled to exemption provided by the circular referred to earlier.
CONCLUDING REMARK
12. Despite the Explanation to section 65(77a) of the Finance Act, 1994 providing that for levy of service tax for Pandal or Shamiana services, marriage would be deemed to be a social function, the providers of such services should not be liable to service tax for making these available for the Hindu marriages; the same being religious ceremonies will be covered by Circular No. 80/10/2004-CX/ST, dated 17-9-2004 which is binding on the field officers. Thus, the High Courts order needs reconsideration/review.
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Service Tax Penalty & Reasonable Cause

enalties have always been any assessees nightmare. Penal sections exist in every law to ensure proper compliance of the law by the subjects. The service tax law is also no different. Thus, while the Act provides for penal provisions, there are inbuilt reliefs for a genuine taxpayer where non-compliance is based on a bona fide belief or understanding. All sections imposing penalty on the assessee provides for the event of failure on part of assessee and penalties thereof. However, section 80 is the saviour to a genuine assessee as it provides deletion of penalty in case of a reasonable cause. The author in this article has discussed various case-laws on the concept of reasonable cause as envisaged in section 80.
GAURAV GUPTA
CA
INTRODUCTION
1. Penalties have always been any assessees nightmare. Even a genuine taxpayer feels aggrieved not of the tax being demanded from him, but penalty being imposed on him. Penalties are demanded by revenue even on a matter which is disputed all across and on issues which are not clear to a taxpayer. The law imposes penalties to ensure that all taxpayers pay their taxes and demand compliance from its subject. However, an automatic imposition of penalty is neither desirable nor equitable.
Accordingly, while the Finance Act, 1994 (Act) provides for penalties, it also provides for deletion thereof on production of a reasonable cause by the assessee for non-compliance of the corresponding provision. We shall first take a glimpse of penalties levied under the Act.
PENALTIES UNDER THE ACT

2. The Act along with Service Tax Rules, 1994 (Rules) provides for the imposition of penalties in the cases of defaults by assessees which are provided as follows:
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Section Section 70(1) read with Rule 7(C) of Rules Default Delay in filing of return from the date prescribed for submission of such return Penalty If delay is less than or upto 15 days from the prescribed date, ` 500; beyond 15 days but not later than 30 days, ` 1000; and beyond 30 days, ` 1000 plus ` 100 for every day from the 31st day till the date of furnishing the said return However maximum penalty under this section cannot exceed ` 20,000 ` 100 for every day during which such failure continues, or, at the rate of 1% of such tax, per month, whichever is higher. However, penalty under this section shall not exceed 50% of the service tax payable. ` 10,000 or ` 200 for every day during which such failure continues, whichever is higher
Section 76
Failure to pay Service Tax
Section 77(1)
Failure on the part of assessee to: pay service tax, or take registration or take registration in accordance with the provisions of section 69 furnish information called by an officer produce documents called for by a Central Excise Officer appear before the Central Excise Officer Failure on the part of assessee to: keep, maintain or retain books of account and other documents as required pay tax electronically, through internet banking issue proper invoice
Upto ` 10,000
Section 78
Under payment of service tax or obtaining improper refund by an assessee by reason of: fraud; collusion; wilful mis-statement; suppression of facts; contravention of any of the provisions of the Act with the intent to evade payment of service tax
Equal to the amount of service tax found in default However, where true and complete details of the transactions are available, penalty shall be reduced to 50% of the amount of service tax found in default Where service tax in default and the interest thereon is paid within 30 days from the date of communication of order determining such service tax, penalty shall be reduced to 50% of the amount of service tax found in default In case of an assessee whose value of taxable services does not exceed ` 60 lakh during any of the years covered by the notice or preceding financial year, period of 30 days shall be extended upto 90 days.
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ARE PENALTIES IMPOSABLE BY DEFAULT?

3. As per the above table, there are penalties for the various mistakes made by the assessee prescribed under law. The important question is as to whether imposition of penalties should be automatic on defiance of a provision? The answered may be found in the landmark decision of Hindustan Steel Ltd. v. State of Orissa 1978 (2) ELT J 159 (SC), wherein the Supreme Court held as under: The discretion to impose penalty must be exercised judicially. Penalty will ordinarily be imposed in case the party acts deliberately in defiance of law......, but not in cases where there is technical or venial breach of the provisions of the Act or where the breach flows from bona fide belief that the offender is not liable under the Act. An order imposing penalty for failure to carry out a statutory obligation is the result of quasi judicial proceeding. Penalty will not be ordinarily imposed unless the party either acted deliberately in defiance of law or was guilty of conduct contumacious or dishonest or acted in conscious disregard of its obligations. Penalty will not be imposed merely because it is lawful to do so. Even if a minimum penalty is prescribed, the authority will be justified in refusing to impose penalty, when there is a technical or venial breach of the Act or where the breach follows from a bona fide belief that the offender is not liable to act in the manner prescribed by the statute. These observations of the Supreme Court have been reaffirmed and reiterated by the Supreme Court in the case of Akbar Badruddin Jiwani v. Collector of Customs 1990 (47) ELT 161. Further, there are inbuilt conditions in every penal section which are required to be satisfied before penalty is imposed. Of all conditions, courts have held that for imposition of a penalty, mens rea is a must.
Mens reaRequired for imposition of penalty?

It has been observed by various courts that no penalty would be imposable when there is no mala fide intent to evade payment of tax. The understanding is based on various judgments. Penalty cannot be imposed as a matter of course and in a routine manner without establishing with cogent and reliable evidence that proves beyond reasonable doubt the existence of culpable mental state. The above statement draws support from number of decisions, some of which are as under:
u
Anantharam Veerasinghaiah & Co. v. CIT [1980] 123 ITR 457 (SC); CIT v. Khoday Eswara & Sons [1972] 83 ITR 369 (SC); CIT v. Anwar Ali [1970] 76 ITR 696 (SC); Cement Marketing Co. of India v. Assistant Commissioner of Sales Tax 1980 (6) ELT 295 (SC) EID Pary (I) Ltd. v. Asstt. Commissioner of Commercial Taxes AIR 2000 (SC) 551 Tribunals decision in the case of Smitha Shetty v. CCE [2007] 9 STT 55 (Bang. CESTAT) was approved by the Apex Court in the case of CCE v. Sunitha Shetty [2006] 4 STT 360/2004 (174) ELT 313 wherein it was held that in absence of any mens rea penalty should not be levied.
u u
However, today, this space would be incomplete without mention of another landmark judgment delivered by the Supreme Court in the case of Union of India v. Dharmendra Textile Processors [2008] 174 Taxman 57/2008 (231) ELT 3 (SC). The judgment has become a absolute reliance for revenue authorities as it had made certain striking observations in relation to penalties, viz:
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No discretion available on quantum of penalty under section 11AC of Central Excise Act, 1944
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SERVICE TAX
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Mens rea not an essential ingredient there under for attracting civil liability as is the case of prosecution under section 276C. The adjudicating authority does not have even a discretion to levy duty less than what is legally and statutorily leviable.
Thus, from a plain reading of the decision one may infer that the decision has obviated the imposition of penalty in all cases without any requirement of mens rea. However, the same would be too harsh interpretation for a genuine taxpayer. Supreme Court has distinguished Dharamendra Textile Processors (supra) in other decisions. In the matter of Union of India v. Rajasthan Spinning Mills 2009 (238) ELT 3 (SC), the Apex Court held that the decision in Dharmendra Textile must be understood to mean that though the application of section 11AC would depend upon the existence or otherwise of the conditions expressly stated in the section, once the section is applicable in a case the concerned authority would have no discretion in quantifying the amount and penalty must be imposed equal to the duty determined under sub-section (2) of section 11A. In other words, the penalty section cannot be read in a manner to mean that in all cases where addition is confirmed, penalty shall also mechanically be levied. The most appropriate interpretation of decision in Dharmendra Textile Processors (supra) can be found in the decision of Kanbay Software India (P.) Ltd. v. Dy. CIT [2009] 31 SOT 153 (Pune) (ITAT Pune), wherein Tribunal has held as under: There can be three distinct mutually exclusive situations in case of an addition to income: (a) Where the addition is on account of contumacious conduct of the assessee and mens rea is established; (b) Where it can neither be established that the addition is on account of contumacious conduct of the assessee nor is it established that the assessees conduct and explanation is bona fide; (c) Where it is established that the assessees conduct
and explanation is bona fide. In situation (a), penalty was always leviable. In situation (c), penalty was never leviable. In situation (b), penalty would not have been leviable since the onus of establishing mens rea could not have been discharged by the AO. However, pursuant to Dharmendra Textile penalty in such a case will be leviable since it is not necessary for the AO to establish mens rea. That is the area in which legal position has changed. Thus, it was observed by the Tribunal that penal provisions in civil suits are not automatic. Intent to evade tax is an important determinant of mens rea. Accordingly, in cases where there is no loss to the exchequer, penalty was deleted by courts holding absence of mens rea. In this regard, reliance is placed on the decision rendered in the case of Ispat Industries Limited v. CCE 2007 (119) ECC 435 (CESTAT - Mum.), wherein the Tribunal allowed the appeal barring it by limitation on the following observation: the entire exercise is revenue neutral as if duty had been paid, it would have been available as credit to the other unit and therefore, there could not have been any intention to evade payment of duty. Furthermore, it is now a well-settled legal position that if a party has bona fide belief in a legal position, penal provisions will not apply. Reliance is placed on the judgment of the Apex court in the matter of Padmini Products v. CCE 1989 (43) ELT 195. The Apex Court held as under: If there was scope for such a belief or opinion, then failure either to take out a licence or to pay duty on that belief, when there was no contrary evidence that the producer or the manufacturer knew that these were excisable or required to be licensed, would not attract the penal provisions of section 11A of the Act.. further there were no materials from which it could be inferred or established that
716
the duty of excise had not been levied or paid or short-levied or short-paid or erroneously refunded by reason of fraud, collusion or any wilful misstatement or suppression of facts, or contravention of any of the provisions of the Act or of the rules made thereunder. Thus, while mens rea is an inbuilt condition in every penal provision, still a finer reading may defy the benefit to assessee on technical grounds as is seen in the case of Dharamendra Textiles. Accordingly, the Act has provided an explicit section which provides relief to a genuine taxpayer in certain conditions. We shall now discuss provision of section 80.
4.1 Section 80 is an overriding section - From the reading of the section, it is appropriately clear that the section has overriding effect over:
u u u
Section 76, Section 77, and first proviso to section 78.
SECTION 80 - THE PARAMOUNT

4. Further to the above safeguard, to save a genuine taxpayer from the wrath of the penalties, section 80 has been provided in the Act, which reads as follows: SECTION 80. Penalty not to be imposed in certain cases - Notwithstanding anything contained in the provisions of section 76, section 77 or first proviso to sub-section (1) of section 78, no penalty shall be imposable on the assessee for any failure referred to in the said provisions if the assessee proves that there was reasonable cause for the said failure. Thus, the section reads as under:
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Thus, there are still provisions which are outside the ambit of section 80 for providing relief to the assessee. Accordingly, sections not mentioned in section 80 may not find relief from the imposition of penalty. The understanding finds support from the decision in the case of R.B. Bahutule v. CCE [2007] 8 STT 286 (Mum. CESTAT)/2004 (166) ELT 233 (Trib. - Mum.), wherein, it was held that the adjudicating authorities do not have a discretion for not imposing penalty for not applying for registration for service tax purposes. Section 80 does not allow any such discretion to the adjudicating authorities. They have discretion not to impose any penalty for delay in paying service tax and delay in furnishing returns but they have no such discretion for not imposing or reducing penalty for failure to apply for registration. Further, it is pertinent to highlight here that with invocation of extended period levy of penalty is not automatic. The understanding draws support from the decision of High Court in the case of CST v. Atria Convergence Tech. (P.) Ltd. [2010] 27 STT 343 (Kar.). Here, treatment of section 78 by section 80 requires special mention. Earlier section 78 was completely within the purview of section 80, however, with a specific amendment vide Finance Bill, 2011, the applicability of section 80 was restricted to the first proviso to section 78. Now, as per the amended section, power to waive penalty is available only in cases where the information is captured properly in the specified records. This requires a reconsideration from the law makers as failure because of a reasonable cause requires relief,
Notwithstanding anything contained in the provisions of section 76, section 77 or first proviso to sub-section (1) of section 78, No penalty shall be imposable on the assessee for any failure referred to in the said provisions if the assessee proves that there was reasonable cause for the said failure.
The requisites of the section are discussed in detail as under:
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SERVICE TAX
whether or not the information was available. Thats what we know as the law of natural justice. In Ashwani & Associates v. CCE [1994 - 2006] STT 54 (New Delhi - CESTAT) (Trib.), it was observed that it is mandatory on the part of revenue to follow the principles of natural justice i.e. audi alteram partem rule meaning that other party should be heard, before imposing any penalty and provide an opportunity to assessee to prove that there was a reasonable cause. Thus, it shall require the jury to consider as to whether the evolved law be allowed to be restricted by the technical. 4.2 Penalty cannot be reduced - Another important inference from the reading of section 80 is that the section provides for deletion of penalty but not reduction of penalty lower than the minimum provided under the sections. The understanding stands confirmed in Dharmendra Textile Processors (supra). In case of CCE v. S.J. Mehta & Company (24) STR 383 (Trib. - Ahd.), an important observation of Honble High Court has been relied upon, which is reproduced from the ruling hereunder: This Court in the Tax Appeal No. 1367 of 2009 has taken the view that on a conjoint reading of sections 76 and 80 of the Act, it is not possible to envisage a discretion as being vested in the authority to levy a penalty below the minimum prescribed limit. If the authority imposing the penalty is not entitled to levy below the minimum prescribed, the appellate authority and the Tribunal cannot read the provision so as being vested with such powers, namely, to reduce the penalty below the minimum prescribed. This Court has, therefore, answered the question accordingly in the negative and the said tax appeal was disposed of. The understanding has also been confirmed in the decision of CCE&C v. V.M. Constructions [Tax Appeal No. 828 of 2010, dated 25-112010], wherein it was observed that on a conjoint reading of section 76 and section 80, it is not possible to envisage a discretion as being vested in the authority to levy penalty below the prescribed limit. The above decision draws reliance from the decision of High Court in the matter of CCE&C v. Port Officer [Tax Appeal No. 1367 of 2009, dated 8-7-2010]. Similar observations have been made in the following cases:
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CCE v. Riya Travels & Tours (I) (P.) Ltd. [2009] 22 STT 386 (Mum. - CESTAT)(TM). CST v. Lark Chemicals [Central Excise Appeal No. 241 of 2006, dated 30-8-2007]
Thus, while section 80 can save an assessee from imposition of penalty but cannot be relied upon for relief from penalty below the minimum penalty prescribed under the Act. 4.3 Application of section 80 on different sections cannot be different - Another important observation on section 80 by Tribunal requires mention here. In the case of Anil Kumar Yadav v. CCE [Final Order Nos. 67-68 of 2011, dated 20-1-2011], the following observation was made by (CESTAT - Mad.) Tribunal: The said section 80 does not authorize the adjudicating authority to waive the penalties under some of the listed sections and to impose penalty under some of them. The only condition provided under section 80 is that if the assessee proves that there was a reasonable cause for failure on his part for attracting penalties under the sections listed thereunder, no penalty shall be imposable. Thus, if a reasonable cause has been upheld for evoking section 80, no penalty can be imposed under all sections covered by section 80. 4.4 Existence of a reasonable cause is a must What is a reasonable cause? The phrase reasonable cause is wide enough to cover all
718
possible reasons which an assessee may have to face which would have abstained him from complying with the provisions. The reasons are beyond all ink to compile, so we discuss here few instances as upheld by courts as being reasonable and deleting penalties: (i) Absence of intention to evade taxes Absence of mens rea is but obvious the most important pleading in establishing the reasonable cause as in absence of intent to evade taxes, there remains no merit for the taxpayer for non-compliance of a statute. In the case of CST v. Vinayaka Travels [C.E.A. No. 59 of 2010, Misc. Civil Appeal No. 21505 of 2010, dated 27-1-2010], High Court observed as under: Therefore, in the facts of the case, it cannot be said that they intended to evade duty and there was any mala fide motive or intention in not paying the tax within the time prescribed. Therefore, the authorities in exercise of their discretion under section 80 of the Act, which is conferred on them, held that the cause shown is a reasonable cause and waived the penalty, which is purely a question of fact. Revenue neutrality has also been accepted as a reasonable cause and in absence of intent to evade taxes, relief has been granted under section 80. Reliance in this regard may be placed upon CCE v. Chillies Export House Ltd. [Final Order No. 318 of 2011, dated 15-2-2011] However in the facts and circumstances of the present case, the submission of ld. advocate that it was a fit case for invoking the provisions of section 80 deserves to be taken note of. It is not in dispute that if the respondent had paid the service tax during the disputed period, they would have been eligible for the refund. This is a case of revenue-
neutrality, involving no intention to evade tax. (ii) Bona fide belief - An assessee not paying taxes on his bona fide belief that such tax is not applicable on him is a good cause for non-imposition of penalty as has been held in various decisions. In the case of Shobha Digital Lab. 2011 (24) STR 430 (Trib. - Delhi), the Tribunal deleted the penalty on the ground that in case of presence of a bona fide doubt on the part of the assessee, penalty was deleted under section 80. The court observed: There being different views of High Courts expressing conflicting opinion on the point of dispute are sufficient for any person to entertain a bona fide belief. In the circumstances, mis-statement or suppression of facts, if any, cannot be said to be wilful. Support may further be drawn from Jaiprakash Industries Ltd. v. CCE 2002 (146) ELT 481 (SC) and Padmini Products (supra). Similar decision has been taken in the case of ETA Engineering Ltd. v. CCE [2007] 8 STT 61 (New Delhi CESTAT)/ [2006 (3) STR 429 (Trib. - LB)] and K. Prabhakar Reddy v. CCE [2011 (24) STR 330 (Trib. - Bang.)] (iii) Service tax paid before show-cause notice and liability not disputed - Payment of taxes before issuance of show-cause notice is also an important determinant of assessees intention. The same has also served as one of the reasonable causes for invocation of section 80. In the case of CST v. Vijaya Bank [Final Order Nos. 8182 of 2011, dated 24-1-2011], the Tribunal held that if that be so, their coming forward and depositing the entire amount of service tax along with interest would get covered by the provisions of section 73(3), which mandates the Revenue Officers, not to issue any show-cause notice. We find that the provisions of section 80 can be
719
SERVICE TAX
invoked in this case, there being reasonable cause for non-imposition of penalty on the assessee. Thus, the intention of a bona fide taxpayer has been taken cognizance of by the Court for deleting the penalty. It can be inferred that this plea can save a bona fide taxpayer from penalty as being made aware about applicable tax. However, a dishonest taxpayer who intentionally evaded tax may not find favour from judiciary even on payment of tax before issuance of showcause notice. The above were some of the decided reasonable causes as held by different courts. The list is not exhaustive and a genuine taxpayer needs no precedents.
CONCLUSION
5. Penal sections exist in every law to ensure proper compliance of the law by the subjects. The service tax law is also no different. Thus, while the Act provides for penal provisions, there are inbuilt reliefs for a genuine taxpayer where non-compliance is based on a bona fide belief or understanding. Section 80 has been time and again used by judicial and quasi judicial bodies to provide relief to the assessees. Thus, the section is an indispensable part of the Act and protects a genuine taxpayer, as penal provisions punish an intentional defaulter.
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INVESTMENT PLANNING
Recent changes in PPF & Small Saving Schemes w.e.f. 1-12-2011

T
his article examines the recent changes notified by Central Government in small savings schemes with effect from 1-12-2011
BACKDROP
1. The Central Government has notified various changes including increase in interest rates
Instrument Current Rate (%)
w.e.f. 1-12-2011 which are discussed in the following paras. The summary of changes in interest rates across all schemes is as under:
Increased Rate w.e.f. 1-2-2011 (%) 4.0
Remarks
Savings Deposit
3.5
Increased rates applicable to existing accounts also do Increased rates applicable only to new accounts opened on or after 1-12-2011 do do do
PPF 1 year Time Deposit
8.00(tax-free) 6.25
8.6 (tax-free) 7.7
2 year Time Deposit 3 year Time Deposit 5 year Time Deposit
6.50 7.25 7.50
7.8 8.0 8.3
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INVESTMENT SERVICE TAX PLANNING

Instrument w.e.f. 1-2-2011 (%) 5 year Recurring Deposit 5 year MIS 5% bonus on maturity 5 year NSC Current Rate (%) Increased Rate Remarks
7.50
8.0
do
8.00 (6 year MIS) No bonus on maturity 8.00 (6 year NSC)
8.2
do
8.4
do
DISCONTINUANCE OF KISAN VIKAS PATRA (KVP)

2. The Central Government has vide Notification F.No. 1/10/2011-NS-II], dated 25-11-2011 notified that the sale of Kisan Vikas Patras shall be discontinued with effect from the close of business on Wednesday, the 30th November, 2011.
NEW 10-YEAR NSC (IX-ISSUE) LAUNCHED W.E.F. 1-12-2011

3. The Central Government has vide the National Savings Certificates (IX-issue) Rules, 2011 notified
vide Notification F.No. 1-13/2011-NS-II launched new 10-year NSCs w.e.f. 1-12-2011 carrying interest rate of 8.7% p.a. compounded halfyearly. Non-Resident Indians not eligible to invest in this. This can be purchased in denominations of ` 100/` 500/` 1,000/` 5,000/ ` 10,000. The interest is not tax-free. Only thing is that TDS is not liable to be deducted from interest payment. Rule 24 clearly provides that interest on these new 10-year NSCs shall be liable to tax under the Income-tax Act, 1961 on the basis of annual accrual specified in Rule 15 as under:
The year for which interest accrues First Year Second Year Third Year Fourth Year Fifth Year Sixth Year Seventh Year Eight Year Ninth Year Tenth Year
Amount of interest accruing on certificate of ` 100 denomination 8.89 9.68 10.54 11.48 12.50 13.61 14.82 16.13 17.576 19.13
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The amount of interest accruing on a certificate of any other denomination shall be proportionate to the amount specified above in the Table.
Points of comparison Tenure Rate of interest
It would be interesting to compare this 10year NSC with NSC (VIII-issue). The salient features of comparison are as under:
NSC (VIII issue)-5 year NSC 5 years 8.4% p.a. (on NSCs issued on or after 1-12-2011) Yes-as this has been notified under section 80C
10-year NSC (NSC IX issue) 10 years 8.7% p.a.
Whether investment in the instrument qualifies for Deduction under section 80C of the Income-Tax Act, 1961?
No. This certificate has not yet been notified under section 80C. Investment in this certificate will qualify for deduction only if and when notified under that section No.
Whether accrued interest will be considered reinvestment qualifying for section 80C deduction? Taxability of interest
Yes. Since rules provide that accrued interest shall be deemed to be reinvestment
Fully taxable
Fully taxable. However, interest qualifies for deduction under section 80C 10.34% (after considering deduction in respect of interest and principal under section 80C). 13.125% (after considering deduction in respect of interest and principal under section 80C) 17.14% (after considering deduction in respect of interest and principal under section 80C)
Effective rate of return for taxpayer in 10% tax bracket
7.83%
6.96%
6.09%
PUBLIC PROVIDENT FUNDAMENDMENTS TO THE PPF SCHEME

4. The interest rate on PPF has been increased from 8% p.a. to is 8.6% p.a. vide Notification F.No.1/9/2011-NS. (II), dated 25-11-2011 This higher interest rate of 8.6% p.a. applies to existing balances as well as new contributions. The annual ceiling on investment under Public Provident Fund (PPF) Scheme the subscriptions made to the fund on or after the 1-12-2011. and the balances at the credit of the subscriber as on 1-12-2011. The ceiling on annual
contributions has been increased from ` 70,000 to ` 1,00,000 vide the Public Provident Fund (Amendment) Scheme, 2011. The increase in limits takes effect from 1-12-2011. Investment in PPF qualifies for deduction under section 80C. Interest on PPF is tax-free under section 10(15) of the Act. It would be misleading to compare the proposed 8.6% p.a. with interest offered by some PSBs on their fixed deposits which is as much as 9.5% p.a. The returns offered by banks on term deposits are fully taxable while the 8.6% p.a. is tax-free.
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The effective tax-adjusted returns on PPF after considering tax benefits for taxpayers in various tax brackets is as under:
Tax Bracket 10% 20% 30% Non-taxpayer Effective return on PPF (present) 9.88% p.a. 12.5% p.a. 16.33% p.a. 8% p.a. Effective return on PPF (w.e.f. 1-12-2011) 10.62% p.a. 13.43% p.a. 17.55% p.a. 8.6% p.a.
However, with the above good news also comes some not so good news. Interest on loans obtained from PPF has been increased to 2% p.a. from existing 1% p.a w.e.f. 1-12-2011. Further, the Central Government has vide Notification F.No. 1/12/2011-NS-II], dated 25-11-2011 discontinued commission to agents under Standardized Agency System (SAS) on PPF collections w.e.f. 1-122011. This would mean that subscribers will not be able to avail the convenience of operating PPF account through agents.
Presently, a bonus of 5% is paid on maturity which will not be payable on new accounts opened on or after 1-12-2011
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The maturity period for Monthly Income Scheme (MIS) will be reduced from 6 years to 5 years.
MONTHLY INCOME SCHEME (MIS)

5. The Central Government has vide Notification F.No. 1/11/2011-NS-II notified the following changes to the Post Office Monthly Income Account Scheme (popularly known as MIS) w.e.f. 1-12-2011
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Rate of interest increased from 8% p.a. to 8.2% p.a. in respect of deposits made on or after 1-12-2011. In other words, there is no rate increase for existing accounts. No bonus shall be paid on deposits made in accounts opened on or after 1-12-2011.
Thus, the increase of 0.2% p.a. for 5 years works out to 1% p.a. over 5 years. This is more than offset by loss of 5% bonus. There are no tax concessions on MIS either by way of section 80C benefits or by way of tax-free interest under section 10(15) of the Income-Tax Act. With banks offering much higher rates of interest than this on their FDs (some nationalized banks offer as high as 9.5% for 10-year deposits) coupled with loans against FDs and easy premature encashment, it is doubtful whether this new MIS scheme will fire the imagination of masses.
INCREASE IN INTEREST RATES ON POST OFFICE TIME DEPOSITS

6. The rates of interest of Post Office Time Deposits have been increased as under vide Notification dated 25-11-2011
Revised increased rate w.e.f. 1-12-2011 (%) 7.7 7.8 8.0 8.3
Deposit 1 year Time Deposit 2 year Time Deposit 3 year Time Deposit 5 year Time Deposit
Current Rate (%) 6.25 6.50 7.25 7.50
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Liquidity of Post Office Time Deposit (POTD) 1, 2, 3 & 5 years - will be improved by allowing premature withdrawal at a rate of interest 1% less than the time deposits of comparable maturity. For premature withdrawals between 6-12 months of investment, Post Office Savings Account (POSA) rate of interest will be paid.
These deposits particularly the one with 5 years tenure are comparable to NSCs and taxsaver deposits with banks of 5-year durations. These deposits, NSCs and the tax-saver term deposits with banks enjoy section 80C deduction subject to limit of ` 1,00,000. The differences between Post-office Time Deposits (after proposed changes), NSCs and tax-saver term deposits with banks is as under:
Tax-saver Term Deposits with banks 5year tenure only, neither shorter nor longer No such facility. Cannot even be pledged for loans or given as security 5-year NSCs (NSC-VIII issue)
Post Office Time Deposits
Term of the deposit
Different tenures-1 year/ 2 years/3 years/5 years
5year fixed term
Premature encashment/liquidity
premature withdrawal at a rate of interest 1% less than the time deposits of comparable maturity will be allowed. For premature withdrawals between 6-12 months of investment, Post Office Savings Account (POSA) rate of interest will be paid. Fully taxable No.
Premature withdrawal permissible after 3 years in certain exceptional circumstances.
Taxability of interest Whether interest accrued annually deemed to be reinvested and eligible for section 80C deduction? Sovereign Guarantee for repayment
Fully taxable No.
Fully taxable Yes.
Yes.
No.
Yes.
5 YEAR RECURRING DEPOSIT

7. Vide Notification F.No. 1/7/2011 dated 25-11-2011, the rate of interest on 5year recurring deposit has been increased from 7.5% to 8% p.a. at a recurring deposit of ` 10 per month which gave ` 728.90 on maturity will now yield ` 738.62 on maturity. This amendment applies to new RDs opened on or after 1-122011.
These schemes enjoy no tax benefits. Interest is fully taxable. Amount invested does not qualify for section 80C deduction. The increased rate of 8% does not compare favourably at present to high rates of 9.5% p.a. offered by some public sector banks. The rates offered by PSBs are fixed and not liable to change in line with changes in g-sec rates. So, if there is a perception that g-sec rates are not going to
725

increase drastically over a five year period, it may make sense to open RDs with PSBs instead. In fact, the RD and MIS of Post Office formed together a powerful accumulation combo-pack where a person opens RDs, then deposits the maturity amount into MIS and then again reinvests the monthly payouts into RD which on maturity would again be invested into a MIS. But the removal of the 5% maturity bonus on MIS and the comparatively lower rates of interest offered by RD and MIS as compared to banks would mean that investors would now chose Bank RDs and Fixed Deposits for accumulation. Further, banks offer facility for opening RDs and FDs through net banking which is not the case with Post Office. The RBI has deregulated interest rates on savings bank accounts in banks. The interest on savings bank account in banks is not tax-free but fully taxable. When comparing rates of POSB and bank accounts, one should compare the rates offered by banks with the effective rate of pretax return on POSB and not with 4.0% which is tax-free rate. Further, the banks offer internet banking and ATM withdrawals convenience which Post Office never offers.
CONCLUSION
9. Only Public Provident Fund has become more attractive avenue for investment than before. In all other cases, it would seem bank deposits have become more desirable avenues for investments.
POST OFFICE SAVINGS ACCOUNT

8. The rate of return is proposed to be increased from 3.5% to 4.0% p.a.. The revised rate of interest of 4.0% p.a. is tax-free under section 10(15) of the Income-tax Act, 1961 and thus translates into pre-tax rate of returns as under for various tax-brackets.
Tax bracket 10% 20% 30% Non-taxpayer Pre-tax rate of return 4.44% 5.0% 5.71% 4.0%
726
STOCK MARKET
How shareholders are cheated by some promoters
STREET SMART INDIAN PROMOTERS

1. It is a known fact in our country that some of the Indian promoters are street smart in manipulating their accounts. Since the Satyam saga the above notion has gained such importance as never before. Manipulation of accounts and fudging up of books are common malpractices resorted to by the greedy entrepreneurs for personal vested interests. In a raging bull market revenue and profits are overstated to get a higher multiple of their stock price whereas in a dull market siphoning of funds through unethical means makes the day for them. It would be prudent to note that large cap companies are smart enough to camouflage the figures. For a commoner its a Herculean task to find flaws in them. As far the mid and smallcap universe are concerned a close eye on them can reveal a lot of fuss. Without much ado here are a few notable examples of how manipulations have done it in the past or how they are still going on.
WAYS OF MANIPULATIONS
2. Raising Fake Bills : Consider that you are the CEO of a listed company-you approach one of the coolest and helpful buddies of yours who happens to own an establishment. You ask him for the bill and you pay against the same by means of a cheque. Instead of getting the goods in lieu of the cheque you request for the money back and you pay a meagre commission to your buddy; the bill gets generated but the material never comes to the godown of the company and you pocket large bucks. This is a common practice indulged in by a number of listed corporates. Obviously, this reckless behaviour would result in losses for such companies. Stock price, thus, crashes and results falter but the entrepreneur makes a killing out of it.
ARUN K. MUKHERJEE
Investment consultant
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STOCK MARKET SERVICE TAX

SIPHONING OF FUNDS
3. Some quarters back a pharma company called farzi biggyan (name changed) sold its assets to a biotech company for a cash consideration of 60 odd crores. If the circumstances were not conducive to do business why on earth would a company not sell itself totally instead of only its assets? Not a single penny was paid as a dividend. Debts were not written off or reduced. Company never expanded or went in for a new venture and no bids were invited. It got sold to the one which approached just casually without any credentials. Nobody knows where the money went. As a result of this initiative the company became like a shell company and shareholders got big time cheated. The company is trading at below par in the bourses with negligible volumes. from the truth. A lot of listed companies operate in collusion with several private concerns in the name of their cohorts or in the name of their relatives, trusted employees name, etc., There are proprietary and partnership firms owned by the promoter in some other benami names. The listed company sells inventory to private firms that are owned by the promoters at decimal profit margins. Those private firms, in turn, make a killing by selling the same to the distributor or to the wholesaler at a fat 12-15% margin. This is how the promoters get richer through dubious means whereas the innocent retail investors hoping to make some money get stuck up, as the company never delivers much to them.
CREATING FAKE JVs

6. A lot of bogus companies go in for a JV and within a period of 5-6 years and pull off from them citing differences between the JV partners. The investment gets written off after a while. The money invested in the JV is never recovered. Creating a JV is a smart manner to siphon off big sums of money. If asked about the investment in it, the smart promoter would vow of having filed a lawsuit which incidentally would never materialize. The promoter, with his canny ways would take back the money in cash. So, bat khatam paisa hazam. This is one of the most popular tricks played by the promoters. Well known establishments are adept at resorting to such means but since this can never be proved, the practice is getting epidemic in nature with other ethical promoters getting sucked in it.
MAKING GRANDIOSE ANNOUNCEMENTS

4. Imagine some listed company with not even 8 crores average quarterly turnover claiming a robust book position of over 1000 crores. It makes grandiose announcements and brags about the company in the print media etc., etc., to bag fake orders or sign fake MoUs with desolate/out of reach countries. In such cases the Indian listed entity requests the foreign party to sign the fake deal for the sake of getting its bank loan sanctioned. It pays the order supplier a fat sum and convinces him to send a fax/signed MoU documents. Since the foreign company has nothing to loose and is not accountable to the Indian laws it readily obliges and the fake deal is made. The investors get fooled by being lured to buy the shares, promoter takes the advantage of the rise in stock price by exiting and makes a killing again.
TAKING GULLIBLE INVESTORS FOR A RIDE

7. Often the promoters work hand in glove with the operators. The usual route is to show cooked up profits, loaned shares to operators and unloading of the promoters holding. Promoters usually collude with market operators who flaunt about their right connections with foreign and Indian institutional investors as
ACTING IN COLLUSION AND IN BENAMI NAMES

5. Theres a myth among most of the retail investors that mills and textile companies hardly make much money. Nothing could be farther
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clients. The promoter also helps the operators by coming out with fake announcements like having bagged a huge order or a JV or an acquisition which can bring a turn around in the fortunes of the company. The hype takes the stocks higher and eventually both the parties rake the mullah by dumping the simple gullible investors. As the bubble bursts, investors are left with worthless stocks and the entire money is gone. In the stock markets it is an open secret that a lot of renowned/reputed analysts
are puppets of the promoters. They do analysis on the instructions of the promoters. There are several other ways through which the money gets siphoned of by the promoter causing disappoint to the investors who were expecting to make some profit in stock markets. Unfortunately theres nothing much one can do about it. These unscrupulous promoters have deep pockets and right connections which helps them in the time of need. A couple of small cap stock ideas to enrich your lives folks :
MID CAP MASTERPIECE - A STOCK TIP - 1

dollar multinational pump making company. They have agreed to manufacture pumps for BSE Code : 532054 SUPER CRITICAL THERMAL POWER PLANTs Cmp : 202 in INDIA which currently no one makes. India doesnt have the right technology to make Marketcap : 170crs those pumps. CLyde has also committed to Risk category : Low outsource its major orders to the Indian facility. Returns expected : 40% CAGR for next 5 years. They have also agreed to have technology transfer to manufacture pumps for Nuclear Power plants Story : WPIL Limited is engaged in the design, in INDIA. WPIL recently acquired UK-based development, manufacture, marketing, Mathers Foundry which is in the business of installation and servicing of pumps. The making steel castings used in equipments for companys products include vertical turbine the oil and gas sectors, nuclear, paper, chemical pumps, vertical mixed flow and axial flow and power generation companies. Mathers is pumps, submersible pumps, horizontal the sole manufacturer of castings in the ZERON centrifugal pumps and iron castings. Its products range of Super Duplex alloys. ZERON is a are used in water supply, barge pump stations, super duplex stainless steel that resists all irrigation, thermal power plants, fire fighting, forms of corrosive actions in seawater service. sea water treatment, mining and in offshore WPILs thrust in the area of waste water areas, nuclear power plants and river water treatment,mining and power plant related pumping applications. So it is a pump making pumping systems has got a major boost from company which was earlier known as this acquisition. Both the developments should Worthington Pumps India Ltd. A few years catapult the company in the top major league. back the company which was with the BN The companys fundamentals have already Khaithan group was taken over by Mr. Prakash improved and bear testimony to the fact the Agarwal of Hindusthan Udyog Limited. The business is on right track. A glance through open offer was at Rs. 60.They hold nearly 75% the insider trading statistics given by the BSE stake in it. The main reason why people like shows that management is aggressively buying this company is because they have a JV with the shares from the open market. Check out CLYDE WATER PUMPS UK, a multi-billion the link given below of BSE to have a feel of Scripscan : WPIL Ltd.
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the confidence the management is having right now (http://www.bseindia.com/Insidetrade_ ScripWise.asp?scripcd=505872).The promoters know most of the vital facts about their company. The increase in promoters holdings is a clear signal of the present value of the company. Thus promoters hiking stake in WPIL indicates the confidence and sends a positive signal to the stakeholders. What is commendable about the company is that, though theres been absolutely no equity dilution for the past 11 years, yet WPIL achieved 5 year top-line CARG of 27.6% and bottom-line CARG of 60.4%.Total revenues have grown from ` 65 crores in FY 07 to ` 220 crores in FY 2011. Net profit margin has grown from ` 1.48 crores to ` 15.73 crores. NPM which was as low as 2.30% way back in FY07 short up to 7.17% in FY11.This year the company is expecting a 60% growth in their revenues to around 350 crores and NP of around 25 crores giving it an EPS of around 31.For a growing company with an amazing business model in place even if one assigns a 10 PE the target price comes to ` 310. The company should keep on delivering at minimum of 40% CAGR growth per year for the next 5 years. A gem of a buy at present levels. Just go for it!
MID CAP MASTERPIECE - A STOCK TIP - 2

Scripscan BSE Code Cmp Marketcap Risk category : KDDL Ltd. : 532054 : 133.50 : 95 crs : Low Cartier, Tag Heuer, Gucci, MontBlanc and so on. Having the experience of more than 20 years in the international watch business, KDDL Ltd. has promoted ETHOS Swiss Watch Studios as Indias first premium watch store carrying a wide range of superb timepieces from the best known manufacturers of the world. KDDL has carved a niche for itself with a unique business model in place. In view of the growing spending propensity of the expanding HNI population, ETHOS is accelerating its store rollout plan to cater to the fast growing demand. Already having 25 stores across the country, the company has additionally signed-up for 20 new stores in the current financial year. The management aims at adding 10-15 stores every year over the next few years and by 2015 ETHOSs store portfolio should touch over 100 stores-far exceeding those of its competitors. One of the major costs involved in building a strong brand is the marketing expense. The company is leveraging the power of social networking platforms like Facebook that are fast emerging as innovative marketing mediums for building-up a strong customer base. The social group, under the name of Ethos Swiss Watch Studios, is home to more
Returns expected : 50% CAGR for next 5 years. Story : KDDL Ltd. was established in the year 1983 with installation of a watch dial factory in technical collaboration with Leschot SA of Switzerland. It has been recognized as the premium manufacturer of high quality watch dials having state-of-the-art factories in different industrial cities of India such as Parwanoo (Himachal Pradesh), Derabassi (Punjab) and Bangalore (Karnataka). KDDL has an annual production capacity of 12 million dials across 4 production facilities. With a market share of around 70 %, it is the largest supplier to the Indian watch manufacturers like Titan, Timex and HMT and Swiss watch group like Swatch. KDDL runs the retail chain, ETHOS, established in 2003 which has grown to be Indias largest retailer of Swiss watches offering a large variety of exclusive brands, such as Omega, Rado,
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than 4,000 watch lovers where the company is continuing to build strong bond with its community. The company fervently believes that the members will increase to 20,000 by end of the next financial year. It further plans to enhance its presence by creating communities across other social media platforms. The increasing cost of production in China due to higher wages coupled with a stronger currency augurs well for the manufacturing division. Even marginal shifts in outsourcing of watch components by the Swiss watch manufacturers from China to India would present a huge opportunity to KDDL. On the retailing side, there is no reason to believe why the Indian market cannot replicate the phenomenal growth witnessed in Chinese luxury watch retailing
segment in the last decade (CAGR of 35%). With the rapid growth in the Indian population and increased spending on luxury products like watches, its retail subsidiary is all set to capture a lions share in the luxury watch retailing market. The fact that its retail subsidiary was able to grow at 40% even during the recessionary period of 2008-10 shows its true potential and prospects. Given the unique opportunity available to it backed up by a qualified and experienced management, the company has the right potential to become a 1,000 crore, market cap company in the next 5-6 years (it present market cap being 95 crores). In short, its a low-risk high-return kind of investment with a high margin of safety.
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RNI NO. : DELENG/2006/18023 D. NO. DL (C) - 05/1149/10-12 LICENSED TO POST WITHOUT PRE-PAYMENT NO. U(C)-02/2010-12

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December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol.

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 2

VOLUME 22 ISSUE 7 DECEMBER 1-15, 2011

U.K. BHARGAVA RAKESH BHARGAVA

Direct Tax Laws

DR. VINOD K. SINGHANIA

630 An insight into expenditure 638 641

Accounts & Audit

664 Issues in CARO reporting in 672 AS-11 and AS-16 Dusting

Audit report of companies//

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 3

accounting and taxation methods//DR. SUSHMA

713 Service Tax Penalty & Reasonable Cause//

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 4

DIRECT TAX LAWS

2. RELEVANT JUDICIAL PRECEDENTS

Advocate & Tax Management Consultant

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 5

DIRECT TAX LAWS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 6

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 7

DIRECT TAX LAWS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 8

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 9

DIRECT TAX LAWS

A Critical Analysis of the provisions of section 40(a)(ia)

Advocate & Tax Consultant

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 10

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 11

DIRECT TAX LAWS

DISALLOWANCE OF FREIGHT CHARGES FOR NON-DEDUCTION OF TDS

CONSTITUTIONALITY OF SECTION 40(a)(ia)

DISALLOWANCE UNDER SECTION 40(a)(ia)

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 12

7. SOME RECENT JUDGMENTS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 13

DIRECT TAX LAWS

8. PAYABLE OR AMOUNTS/SUMS PAYABLE, CONNOTATION OF

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 14

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 15

DIRECT TAX LAWS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 16

DIRECT TAX LAWS

Concept of Facilitating NGOs

2. A CHARITABLE ORGANISATION WORKING THROUGH OTHERS ONLY

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 17

DIRECT TAX LAWS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 18

4. NGOs PROVIDING NON-FINANCIAL SUPPORT ONLY

5. CHARGING OF REMUNERATION OR ADMINISTRATIVE COST IN CASE OF A CHARITABLE PROJECT

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 19

DIRECT TAX LAWS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 20

DIRECT TAX LAWS

Uncharitable Face of Charity

Advocate, Chairman CBDT (Retd.)

PROFESSIONAL ASSOCIATIONS NO LONGER CONSIDERED AS CHARITABLE INSTITUTIONS BY THE REVENUE

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 21

DIRECT TAX LAWS

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 22

December 1 to 15, 2011 Taxmanns Corporate Professionals Today Vol. 22 n 23

DIRECT TAX LAWS