ITAT HYDERABAD BENCH ‘A’
Orient Longman (P.) Ltd.
versus
Joint Commissioner of Income-tax
IT Appeal Nos. 529 & 595 (Hyd.) of 2009
[ASSESSMENT YEAR 2005-06]
OCTOBER 19, 2012
ORDER
Saktijit Dev, Judicial Member
These cross-appeals-one by the assessee and the other by the Revenue-for the assessment year 2005-06 are directed against the order of the Commissioner of Income-tax (Appeals)-V, Hyderabad, dated February 27, 2009. Since common issues are involved, these appeals are being disposed of with this common order for the sake of convenience.
Assessee’s appeal :
I.T.A. No. 529/Hyd/2009 : assessment year 2005-06
2. Ground Nos. 1 to 3 of the assessee’s appeal relate to dis allowance of commission payment of Rs. 3,93,061 to non-whole time directors.
3. Briefly stated, the facts are that the assessee is engaged in the business of publishing and selling books. For the impugned assessment year, the assessee filed its return of income declaring income of Rs. 3,67,70,240. The return filed by the assessee was picked up for scrutiny by issuing notice under section 143(2) of the Act. In the course of scrutiny, the Assessing Officer noticed that the assessee has claimed expenditure of Rs. 3,93,061 towards commission to non-whole time directors. The Assessing Officer further noticed from the annual report that commission to directors was paid as a percentage of net profit. The Assessing Officer therefore, requested the assessee to furnish the agreement with the directors, the details of services rendered by the directors, and whether such services were covered by the terms of employment. In response to the query made by the Assessing Officer, the assessee submitted that the commission payment to non-whole time directors was approved by a resolution of the Board and as per the provisions of the Companies Act, 1956. The assessee further clarified that no agreement was entered into with the directors in respect of commission payment. The Assessing Officer, after examining the Board’s resolution, was of the view that the non-whole time directors had no contract of employment with the company. Therefore, the commission, not being contractual, its allow ability has to be considered as per the provisions of section 37 of the Income-tax Act. The Assessing Officer observing that the assessee has failed to bring any material on record to prove that the non-whole time directors have rendered any services which resulted in the improvement of business of the assessee, opined that the commission paid as a percentage of net profit is nothing but distribution of profit. The Assessing Officer holding that there being no material to show that the commission payment was wholly and exclusively for the purposes of business, disallowed the same, and added it to the income of the assessee.
4. The assessee challenged the addition by filing appeal before the Commissioner of Income-tax (Appeals). Before the Commissioner of Income-tax (Appeals), the assessee contended that the term “salary” under the Income-tax Act as well as the Companies Act includes commission. The payment of commission having been worked out as per the provisions of the Companies Act, 1956 and is authorized by the board and approved by the members cannot be disallowed. The assessee contended that the board of directors take crucial decisions collectively and are collectively responsible for the growth of the company, and therefore, it is not for the Assessing Officer to evaluate their services for the company. The assessee further contended that the commission payment is an expenditure wholly and exclusively for the purposes of the company, and therefore, it is allowable. The Commissioner of Income-tax (Appeals), came to the conclusion that the assessee has not submitted any evidence to prove that the non-whole time directors have actually rendered services, which has resulted in enhancement of profit of the company during the relevant previous year. The Commissioner of Income-tax (Appeals), following the decision of the Honorable Supreme Court in the case of Swadeshi Cotton Mills Co. Ltd. v. CIT [1967] 63 ITR 57 held that the assessee having failed to prove regarding rendering of services by the non-whole time directors in real terms, which resulted in improving the profitability of the company, payment of commission cannot be allowed as expenditure.
5. The learned authorized representative for the assessee while making his submissions virtually reiterated the stand taken before the lower authorities. The learned authorized representative for the assessee submitted that the term “salary” as provided in section 15 of the Act, also includes commission. The learned authorized representative for the assessee submitted that the board of directors take crucial decisions collectively and also responsible for the growth of the company. Therefore, the payment of commission as a percentage of profit, having been approved by the board cannot be disallowed.
6. The learned Departmental representative submitted that the assessee since has failed to provide any evidence to prove the fact that the payment of commission was wholly and exclusively for the purpose of business, the dis allowance of expenditure was justified. He therefore, urged for sustaining the addition.
7. We heard rival submissions and perused the materials on record. It is seen from the material on record that there is no contract of employment between the assessee- company and non-whole time directors. They were also not paid any fixed remuneration. The Board’s resolution dated May 15, 2002, which has been extracted in the impugned order of the Commissioner of Income-tax (Appeals) provides for payment of remuneration/ commission not exceeding one per cent. of the net profit of the company. The resolution does not however, fix any particular service, for the performance of which commission is paid to non-whole time director. The assessee has not produced any evidence before the lower authorities, to show that the commission was paid for rendering any service, which resulted in enhancing the profitability of the company. The learned authorized representative for the assessee apart from submitting that commission was paid as per the collective decision of the board, and in terms with the provisions of the Companies Act, 1956, has not produced any evidence to prove that the non-whole time directors have rendered any service, for which commission was paid. Payment of commission cannot be allowed as an expenditure simply because, it is approved by the board and it is in accordance with the provisions of the Companies Act, 1956. An expenditure which falls within the ambit of section 37 of the Act can be allowed, if it is incurred wholly and exclusively for the purpose of business. In the present case, the assessee has failed to prove that the expenditure incurred was wholly and exclusively for the purpose of business. In the aforesaid view of the matter, we are not inclined to interfere with the view taken by the lower authorities, which is accordingly sustained, and the grounds of the assessee on this issue are rejected.
8. Grounds Nos. 4 to 7 of the assessee in its appeal are in respect of addition of an amount of Rs. 45 lakhs on account of under valuation of closing stock.
9. Briefly the facts are that the assessee for the assessment year under dispute valued the closing stock at Rs. 4,23,61,003. In the notes to the accounts, the assessee mentioned that the closing stock of books is generally shown at realizable value because of various factors. It is further mentioned that the management has formulated and standardized the method for identifying slow and non-moving stock of books for the purposes of valuation of closing stock. The Assessing Officer asked the assessee to furnish the working of the closing stock by giving the following details-
(a) Actual cost of books included in the closing stock.
(b) Amount shown in the profit and loss account
(c) In case actually there is a change in syllabus with respect to such books which have been included in the closing stock, work out the actual cost and realizable value separately.
The assessee replied explaining the position as to the valuation of the closing stock in the following manner-
“The closing stock is valued as explained earlier in the previous years and expected future sales. Out competitors tried to add new chapters to get their books prescribed stating that their books is better than others. To withstand such competition, there is need to add new chapter for us as well. Once a new chapter is added the old books becomes redundant. While assessing future sales, we look into the factors which influence the future sales such as :
1. Change in syllabi
2. Competitors titles
3. Piracy
4. No/slow moving titles
5. Change in education policy
6. Political uncertainty, etc.
Taking all these factors into account, the valuation of stock is done. This is the method generally followed in the publishing industry world over and in the same method followed by us.
The actual stock as on March 31, 2005 for all our 3121 titles is 69,06,786 copies. The titles considered for valuation based on the factors stated above are 2445 and the copies considered for valuation are 63,28,674.
There was no sale in 2004-05 for 675 titles printed about 2 years back and therefore we have not considered stock representing to these titles for valuation.”
10. The Assessing Officer was not convinced with the explanation of the assessee. As the assessee did not furnish the details with the titles, which were considered by the assessee as redundant and as to how they were valued. The Assessing Officer was of the view that the valuation done by the assessee is purely provisional and based on contingent event like anticipating competition from competitors, change in syllabi, political uncertainty, etc. the realisable value has been arrived at by the assessee, by heavily banking on the uncertain contingent event in general term. The Assessing Officer came to a conclusion that the closing stock has been valued at a lesser value proceeded, to make a fresh valuation of the closing stock by adopting his own method, as below-
