Case Law Details

Case Name : Hero Honda Finlease Ltd. Vs Addl. CIT (ITAT Delhi)
Appeal Number : ITA No. 4329/Del/2010
Date of Judgement/Order : 27/04/2012
Related Assessment Year : 2005-06
Courts : All ITAT (4351) ITAT Delhi (960)

The Tribunal observed that the commission paid was disallowed by invoking provisions under Section 36(1)(ii) and not by invoking Section 40A(2)(b)(ii) of the Act. This implies that the AO had not disputed the services rendered by Renu Munjal but he was of the opinion that dividend had been paid in the garb of commission because it actually reduced the corpus available for distribution as dividend.  Section 36(1 )(ii) of the Act had been incorporated to check, inter-alia, private companies from avoiding tax by distributing their profits to their members (showing them to be their employees) by way of commission and not by way of dividend. The AO was not correct in holding that the corpus for paying the dividend had reduced as it does not reflect the correct legal position with reference to section 36(1 )(ii) of the Act.

Whenever any commission is paid to an employee it is bound to reduce the corpus available for distribution as dividend. But that ipso-facto cannot be the basis for holding that commission is in lieu of dividend. The taxpayer had declared profits of INR 420 million and dividend had also been paid to all the shareholders including Renu Munjal. The taxpayer as well as Renu Munjal was bracketed in the highest income tax slab and the only effect was on account of saving dividend distribution tax to the taxpayer which was very minimum keeping in view the overall profits of the company. Therefore, this cannot be held to be device for reducing the overall tax effect in the case of taxpayer.

Since the shareholding of Renu Munjal was 1 percent only, the dividend would have been much less than the commission actually paid to Renu Munjal. Therefore, sum of Rs. 39 Lakh, in any case, would not have been paid to Renu Munjal as profits or dividend if it had not been paid as commission.  The decision in the case of Dalal Broacha Stock Broking P. Ltd was not applicable as in that case, taxpayer Company, had paid commission of Rs. 40 Lakh each to the three working directors who owned the entire capital of the company. However, in the taxpayer’s case Renu Munjal held only 1 percent of the share capital and, therefore, Rs. 39 Lakh  could not be payable as dividend. Accordingly, the Tribunal held that the commission paid to the director was allowed under Section 36(1 )(ii) of the Act.

INCOME TAX APPELLATE TRIBUNAL ,DELHI

ITA No. 4329/Del/2010 – Assessment Year: 2005-06

Hero Honda Finlease Ltd. Vs. Addl. CIT

O R D E R

PER S.V. MEHROTRA, A.M.

This appeal is filed by the assessee and directed against the order of ld. CIT(A) dated 31 .08.201 0 for the A.Y. 2005-06.

2. Brief facts of the case are that in the relevant assessment year the assessee company was engaged in the business of hire purchase, leasing and financing, mainly of motorcycles sold by M/s Hero Honda Motors Ltd. It had filed its return of income declaring total income of Rs. 42,62,50,140/-. The assessment was completed at a total income of Rs. 43,03,88,060/- after making following disallowances: –

Add: Disallowance u/s 14A – as discussed above Rs. 2,37,918 ii) Disallowance u/s 36(1)(ii) as discussed above Rs. 39,00,000

3. The assessee preferred an appeal before the ld. CIT(A) who while partly allowing the assessee’s appeal confirmed the disallowance made u/s 36(1)(ii) and restricted the disallowance u/s 14A to Rs. 50,000/-.

4. Being aggrieved with the order of ld. CIT(A), the assessee is in appeal before us and has taken following grounds of appeal: –

1. “That the Commissioner of Income tax (Appeals) erred on facts and in law in upholding disallowance of expenses to the extent of Rs. 50,000/- made by the AO under section 14A of the I. T. Act, 1961 on the ground that certain overhead expenses must have been incurred in relation to earning of exempt dividend income.

1.1 That the Commissioner of Income tax (Appeals) erred on facts and in law in not appreciating that only expenditure incurred having direct relation with earning of exempt income could have been disallowed u/s 14A of the Act.

2. The Commissioner of Income tax (Appeals) erred on facts and in law in upholding the action of the AO in disallowing commission paid to director, amounting to Rs. 39 lacs u/s 36(1)(ii) of the Act on the alleged ground that the same was paid in lieu of distribution of profits as dividend, resulting in avoidance of dividend distribution tax.”

5. Brief facts apropos ground no. 1 and 2 are that the assessee had earned dividend income of Rs. 6,79,767/-, which had been claimed as tax free. The AO required the assessee to submit details of expenses incurred with regard to earning of the aforesaid dividend of Rs. 6,79,767/-. The assessee submitted that the investment in the shares was made out of surplus funds of the business and neither any cost was incurred in making the said investment, nor cost was incurred in earning the said dividend. The AO pointed out that this issue had been decided in A.Y. 2002-03 and 2003-04 and the findings of A.Y. 2002-03 were followed in 2004-05 also. Following the findings for aforesaid assessment years, the AO disallowed an amount of Rs. 2,37,918/- being the expenditure incurred for earning the dividend income of Rs. 6,79,767/- by apportioning the total expenditure incurred in the ratio of the dividend receipt to the total receipts of the assessee.

6. Ld. CIT(A) after considering the assessee’s submissions restricted the disallowance to Rs. 50,000/-, inter-alia, observing that it could not be denied that some expenditure had necessarily to be attributed to earning  such dividend income on account of establishment charges, administration expenses and other expenses etc. Ld. Counsel for the assessee submitted that disallowance has been confirmed to the extent of Rs. 50,000/- purely on adhoc basis without establishing any nexus between earning of dividend and incurring of expenditure under the aforementioned heads.

7. Ld. DR submitted that under such circumstances Tribunal is consistently restoring the matter to the file of AO in view of the decision of Hon’ble jurisdictional High Court in the case of Maxopp Investment Limited & others vs. CIT, 203 Taxmann 364.

8. Ld. Counsel in the rejoinder submitted that even if the matter is to be restored, the disallowance should not exceed Rs. 50,000/- as the assessee cannot be worse off. Ld. DR, however, submitted that since matter is to be restored to the AO in view of the jurisdictional High Court, no rider can be put on AO while deciding the issue having regard to the decision of jurisdictional High Court.

9. We have considered the submissions of both the parties and have perused the record of the case. Admittedly, for the year under consideration, Rule 8D was not applicable. We find that under such circumstances, Tribunal, following the decision in the case of Maxopp Investment Ltd. (supra), is consistently restoring the matter to the file of AO for quantifying the expenditure on some reasonable basis.

10. We are in agreement with ld. DR that no rider can be put on the AO while deciding the issue as he has to follow the decision of Hon’ble jurisdictional High Court. Moreover, once the order of ld. CIT(A) is set aside, his findings cannot be given any credence.

11. In view of above discussion, we restore this matter to the file of AO to quantify the expenditure incurred for earning dividend on some reasonable basis.

12. In the result, this ground is allowed for statistical purposes.

13. Brief facts apropos ground no. 3 are that assessee had claimed expenses on account of commission to director amounting to Rs. 39 lacs. Since in the opinion of AO this claim was prima-facie not allowable as per the provisions of 36(1)(ii), he required the assessee to furnish details of commission to director with the basis thereof and to also justify its allowability u/s 36(1)(ii). The assessee vide his letter dated 26.12.2007 submitted that commission amounting to Rs. 39 lacs had been paid @ 1% of net profit (wrongly mentioned as total turnover in asstt. order). It was further pointed out that the commission was paid as remuneration for the services rendered by Ms. Renu Munjal for running the business and this sum was not otherwise payable as profit or dividend. The AO did not accept the assessee’s contention for the following reasons: –

i) Commission had been paid to Ms. Renu Munjal, employee-director in the company who was also a shareholder.

ii) The profit which would have been otherwise paid to Ms. Renu Munjal as dividend had been diverted in the form of commission.

iii) By diverting sum of Rs. 39 lacs as commission to director, the assessee had only reduced the corpus available for distribution as dividend.

iv) The commission had been worked out as certain percentage of the net profit and, therefore, could not be said to be a part of salary.

In view of above factual findings, the AO held that the commission of Rs. 39 lacs was not allowable as per the provisions of sec. 36(1 )(ii). 14. Before ld. CIT(A) the assessee, inter-alia, advanced following submissions: –

i) the amount of commission was paid in accordance with the terms of employment of Ms. Renu Munjal as a whole time director, which was duly approved by the Board of Directors and subsequently ratified by the shareholders.

ii) the amount of commission was computed on the basis of 1% of net profit to be arrived at in accordance with the provisions of sec. 198 read with section 349 of the Company’s Act, 1956.

iii) Ms. Renu Munjal held .1% of shares in assessee company.

iv) the commission was paid in lieu of services rendered and not in lieu of distribution of dividend to shareholders.

v) during the relevant previous year, the assessee company proposed final dividend @ Rs. 15 per share which was distributed amongst all the shareholders, including Ms. Renu Munjal/ whole time director. Thus, the dividend was additionally distributed in proportion to shareholding of Ms. Renu Munjal in the company, in line with distribution made to other shareholders.

vi) there was no whisper or any evidence being brought on record by the AO in the assessment order which could suggest that profits were distributable to whole time director/Mrs. Renu Munjal as a shareholder of .1% shares in the assessee company in lieu of which commission had been paid.

vii) simply because the whole time director/Ms. Renu Munjal was also the shareholder of the assessee company, the same did not ipso facto lead to the conclusion that payment made was in lieu of right vested in Ms. Renu Munjal as a shareholder.

viii) it is not the case of the AO that aggregate remuneration (including commission) paid to the whole time director was excessive having regard to the nature of services rendered. The assessee placed reliance on the decision of Hon’ble Supreme Court in the case of Shahzada Nand & Sons vs. CIT 108 ITR 358, wherein it was, inter-alia, held that for allowability of commission it is  not necessary u/s 36(1)(ii) that some extra services should have been rendered.

ix) the commission was paid in earlier years also in accordance with the terms of employment, with reference to percentage of profit and was allowed. Therefore, in view of the decision of Hon’ble Supreme Court in the case of Radha Swami Satsang vs. CIT 193 ITR 321 the assessee’s claim should have been allowed.

Ld. CIT(A) dismissed the assessee’s ground of appeal observing in para 3.3 as under: –

“Keeping in view the facts and circumstances of the case, it is held that the AO was right in disallowing the commission payment u/s 36(1)(ii) which as per the AO ensures that company did not resort to avoiding payment of tax by distributing the profit to their specific members/directors/shareholders as bonus or commission instead of dividend. The AO is not wrong in observing that by diverting the sum of Rs. 39 lacs as commission to director the assessee has resorted to reducing the corpus available for distribution as dividend. Accordingly, keeping in view the entire facts and circumstances of the case, the action of the AO is upheld.”

15. Ld. Counsel for the assessee reiterated the submissions advanced before the ld. CIT(A) and referred to pages 69 to 72 of the paper book, wherein the resolution containing appointment of Ms. Renu Munjal is contained. He pointed out that Ms. Renu Munjal was re-appointed in the meeting held on 5th August, 2000 w.e.f. 1st September, 2000 for a period of 5 years and her terms of appointment included payment of commission which read as under: –

“Commission: The appointee shall be allowed remuneration by way of commission in addition to Basic Salary, Perquisites and Allowances, Benefits or amenity subject to the condition that the amount of commission shall not exceed 1% of the net profits of the company in a particular financial year as computed in the manner referred to in Section 198 of the Companies Act, 1956.”

16. He pointed out that the terms of appointment as set out in the meeting held on 5th August, 2000 were partially modified in the 12th Annual General Meeting of the members held on 1 4th July, 2003 as under:

“RESOLVED THAT in partial modification of the earlier resolution passed with respect to the re-appointment of Renu Munjal (Ms.), Whole-time Director of the Company in the 10th Annual General Meeting of the Company held on August 18, 2001, the consent of the company be and is hereby accorded under sections 309, 310 read with Schedule XIII and other applicable provisions, if any, of the Companies Act, 1956 to increase here Basic Salary as set out in the Explanatory Statement annexed hereto for the remaining period of her tenure.”

17. He, therefore, submitted that the complete package of remuneration payable to Ms. Renu Munjal included commission also. Ld. Counsel further referred to page 6 of the paper book which is part of 14th annual report and pointed out that explanatory statement pursuant to sec. 173(2) of the Company’s Act, 1956 read as under: –

“Item No. 7

The tenure of Mrs. Renu Munjal, Whole-time Director of the Company is coming to an end on August 31, 2005. She was re-appointed as Whole-time Director in the 10th Annual General Meeting held on August 18, 2001. Her Basic Salary was revised to Rs. 1,35,000 with an increase of 10% in each of the financial year during the remaining period of her tenure in the 12th Annual General Meeting held on July 14, 2003. Thereafter, the Remuneration Committee in their meeting held on April 18, 2005 after having due consideration of the Remuneration Policy of the Company and of her increased job responsibilities in the present business scenario of the company have recommended her appointment as the Managing Director of the Company. Thereafter the Board of Directors have approved her appointment for a period of 5 (five) years from September 1, 2005 subject to your approval on the following remuneration (including minimum remuneration) and other terms and conditions as stated below:

I. Basic Salary : Rs. 2,00,000/- (Rupees two lacs only) per month, subject to an increase of 10% per annum effective April 1, 2006 and thereafter on the first day of each financial year.

II. Commission : The appointee shall be allowed remuneration by way of Commission in addition to Basic Salary, Perquisites and any other Allowances, benefits or amenities subject to the condition that the amount of Commission shall not exceed 1 % of the net profit of the Company in a particular financial year  as computed in the manner referred to in sec. 198 of the Companies Act, 1956;

Provided that the aggregate amount of remuneration payable to the Appointee in a particular financial year shall be subject to the overall ceiling limit laid down in section 198 and 309 of the Companies Act, 1956.”

18. Ld. Counsel further referred to page 5 of the paper book and pointed out that company had declared dividend of Rs. 15 per Equity Shares on 90,50,000 Equity Shares of Rs. 10 each for the F.Y. 2004-05. Ld. Counsel further referred to page 38 of the paper book, wherein the computation of net profit in accordance with sec. 198 read with section 349 of the Company’s Act is contained which is reproduced hereunder: –

14) Computation of net profit in accordance with sec. 198 read with sec. 349 of the Companies Act, 1956

Particulars

(Rupees in lacs)

  2004-05 2003-04
Profit before tax as per profit & loss a/c 4,071.02 3,427.44
Add: Managerial remuneration 93.25 69.81

Less: Profit on sale of fixed assets
as per profit & loss a/c

15.53 57.76
Less: Loss on sale of assets as per

Section 350 of the Companies

Act, 1956

3,930.23 3,229.26
Net profit as per section 349 of the

Companies Act, 1956.

39.30 32.29
Commission @ 1% of the above    
Profit for the Whole-time Director for the year restricted to 39.00 32.00

19. With reference to above computation, ld. Counsel submitted that since the commission was paid in accordance with the terms of employment and hence was part of salary. Therefore, the impugned amount was not distributable as dividend. He pointed out that Companies Act does not provide modes for determination of commission and, therefore, there was no prohibition on determining the commission on the basis of net profit of the company. Ld. Counsel referred to the following decisions in support of his contention that under such circumstances it cannot be held that commission was paid in lieu of dividend: –

i. ACIT vs. Bony Polymers P. Ltd. 36 SOT 456

ii. DCIT vs. Hindu Industries Ltd. 2010-TIOL-632

iii. DCIT vs. M/s Celsius Refrigeration P. Ltd. :ITA No. 4746/Del/2010

iv. DCIT vs. CIT Shipbrokers India P. Ltd. : Lexdoc Id 416029

v. DCIT vs. C.M.R. Design Automation P. Ltd. : 418792

vi. Career Launcher India Ltd. vs. ACIT: ITA No. 4924/Del/2009 vii. Maxopp Investment Ltd. vs. CIT:203 Taxman 364

20. Ld. Counsel further submitted that since Ms. Renu Munjal was holding only 1% share, therefore, in any case, Rs. 39 lacs could not have been paid as dividend which clearly shows that the commission had been paid for services rendered by her and not in lieu of dividend. Ld. Counsel further pointed out that decision of Tribunal has been upheld by Hon’ble Delhi High Court in the case of Bony Polymers (P) Ltd. vide ITA No. 1298/2011 dt. 19/10/2011.

21. Ld. DR submitted that the basic question is whether the commission was paid for services rendered or not. She referred to page 9 & 10 of paper book to demonstrate that Ms. Renu Munjal had not sufficient qualifications which could justify her alleged services to the company. She pointed out that Mr. Brij Mohan Lal, the Chairman of the Company, was honorary Member of the Indian Institution of Industrial Engineering. Similarly, Sh. Om Prakash Munjal was Co-Chairman & CEO of Hero Cycles Ltd. Mr. Pawan Munjal was also a Graduate in Mechanical Engineering. Considering the qualifications of all these directors, Ms. Renu Munjal had no such qualifications. She referred to page 18 of the paper book, wherein the policy regarding payment of remuneration to directors is contained and pointed out that as per this policy, remuneration was fixed considering the various factors such as qualification, experience, etc. in the corporate world and the current financial position of  the company. She, therefore, submitted that the remuneration fixed by the company was not commensurate with the services which Ms. Renu Munjal was to render to the company. She pointed out that no evidence regarding mode of fixation of commission had been filed by the assessee so as to justify such high commission paid to her. She referred to the decision of Spl. Bench in the case of M/s Dalal Broacha Stock Broking P. Ltd. vs. Addl. CIT and referred to para 7.12 to 7.14 of the said decision which is reproduced hereunder: –

7.12 “The A.Y. 2004-05 was the first year when the asessee started paying commission of Rs. 40.00 lacs to each working director in addition to salary. In the immediately preceding year, the directors had been paid only salary which was Rs. 6.00 lacs per annum in case of Chairman and Rs. 12.00 lacs per annum in case of the other two directors. The Tribunal in the said order has not given any finding whether substantial payment of Rs. 40.00 lacs was for any extra services rendered. The Tribunal basically allowed the claim on the ground that in the immediate preceding year, salary expenditure had been allowed and payment of commission was supported by the Board Resolution and that there was no tax advantage to the assessee. The Tribunal confirmed the finding of the CIT(A) which had been reproduced in para 7 of the order of the Tribunal as per which the CIT(A) deleted the addition made by the AO on the ground that the directors were competent to undertake the activities of the company which had yielded huge profits. The education of the directors was of not great significance. CIT(A) thus deleted the addition on account of estimated disallowance. Thus, even CIT(A) whose finding has been confirmed by the Tribunal has not given any finding that huge payment of commission was linked to any extra services. The board resolution cannot be considered as an evidence of extra service particularly when the board is constituted by the director employees to whom payments have been made. There is also no finding by the Tribunal to the effect that payment of commission was commensurate to the market value of the services. Thus, the decision of the Tribunal in A. Y. 2004-05 (supra), cannot be considered as precedent for the plea that huge commission had been paid for extra services or that payment was commensurate to market value of services. As pointed out earlier, no evidence of any extra  services to justify huge commission payments has been produced before the lower authorities or even before us.

7.13 We have to evaluate the case on basis of material available on record. On careful perusal of financial performance statistics tabulated earlier, we note that both the turnover and the profit was exceptionally high in A. Y. 2000-01 compared to the earlier year and subsequent three year period. But this was because of the reason that there was stock market boom which had peaked in A. Y. 2000-01 and the bubble had burst only towards the fag end of that year, which was the reason for exceptional performance in that year. The assessee is a share broker who gets commission on sale/purchase of shares by investors/traders. The income of the assessee is assured irrespective of the fact whether the investor/trader losses or gains in the transaction. The commission, will, however, depend upon the market conditions. In case of boom when the market is flooded with investors/traders, income will rise as volume increases but in case of slump when investors/traders desert the market, there will be fall in volume and income. After the A. Y. 2000-01 to 2003-04 the turnover fell to 50% or even less and the profit declined more steeply.

7.14 Therefore, the only reasonable conclusion which can be drawn is that the payment of Rs. 1.05 crores shown as commission in A. Y. 2000-01 when there was exceptional profit was nothing but dividend because had it been a genuine commission, the assessee would have continued the payment of commission and even may have increased in the subsequent three year period to improve performance but no commission was paid in these years even though turnover and profit were both declining. Obviously, sharp fall in profits had forced the company management not to pay dividend in the garb of commission in the next years. The stock market started recovery from A. Y. 2004-05 and had steadily gained till A. Y. 2008-09 which is reflected in steady increase in both turnover and profit. The assessee again started showing payment of commission from A. Y. 2004-05. The profit before tax but after deduction on account of commission was Rs. 4.55 crores in A. Y. 2004-05 which steady rise in performance was due to improved market conditions and not because of any extra service rendered by the directors as no evidence has been produced for rendering of extra services. The equity capital of the company which is entirely owned by the three directors was Rs. 6.50 crores. Investors in equity shares expect a reasonable return on the share investment and in our view  any reasonable management would have declared at least about 20% dividend in the above years to the share holders when there were substantial profits. No doubt it is true that dividend is not mandatory and is discretionary to be decided by the management after considering the profitability and other factors. The management may not declare dividend even when there are substantial profits because of business exigency such as requirement of fund for any expansion or company is a share broker and only executes orders on behalf of investors on commission basis. No funds are therefore required for any expansion etc. nor any such case has been made. The directors in the annual report have not given any reason for not declaring dividend. The reason given before us is that the assessee did not declare dividend to improve net worth to attract FIIs who do transactions only through high net worth brokers. This argument is not convincing at all because whether the assessee pays commission or dividend the net worth is reduced by the same amount. It is also to be noted that commission has been paid only to the director employees and commission has been paid as 10% of profits subject to a limit of Rs. 40.00 lacs which also shows that the assessee company distributed part of the profits to the director employees who were the only shareholders. Therefore, on the facts and circumstances that dividend in case of the assessee company was payable and that the same has been paid in the garb of commission.”

22. She further pointed out that the decision in the case of Bony Polymers P. Ltd., Celsius Refrigeration P. Ltd., Mandavi Motors P. Ltd. & Carrier Launcher P. Ltd. have duly been considered by the Spl. Bench. She submitted that in the light of the decision of Spl. Bench, the matter may be restored to the AO for deciding the issue denovo. In this regard she relied on 131 ITR 451, wherein it has been, inter-alia, held that:

“When the Tribunal holds that such an assessment is liable to be set aside, the duty of the Tribunal does not end with making a declaration that the assessment is illegal. The proper order to be passed in such a case would be to set aside the assessment and to direct the ITO to make a fresh assessment in accordance with the procedure prescribed by law. It would not be correct merely to uphold the assessment and direct the ITO to make appropriate modifications.

It is well known that an appellate authority has the jurisdictiol as well as the duty to correct all errors in the proceedings under appeal and to issue, if necessary, appropriate directions to the authority against whose decision the appeal is preferred to dispose of the whole or any part of the matter afresh, unless forbidden from doing so by statute.”

23. Ld. DR further referred to page 19 of the paper book, wherein the Directors’ Attendance record is contained and point out that Ms. Renu Munjal was the only director to whom commission had been paid. She further referred to page 20 wherein the shareholders/investors grievance committee has been constituted in which it has been stated that the shareholder base of the company is very small. She further referred to page 22 wherein category of shareholders as on 31st March, 2005 is given as per which promoters holding was 64.74% and non-promoters holding (dealers associate employees etc. was 35.26%) she submitted that percentage of holding is not relevant for sec. 36(1)(ii).

24. Ld. Counsel in the rejoinder submitted that neither the AO nor ld. CIT(A) has disputed the reasonableness of commission by invoking section 40A(2)(b)(ii).

25. We have considered the rival submissions and have perused the record of the case. Admittedly the commission paid to Ms. Renu Munjal has been disallowed by invoking provisions u/s 36(1)(ii) and not by invoking section 40A(2)(b)(ii) of the Act. This implies that AO has not disputed the services rendered by Ms. Renu Munjal but he was of the opinion that dividend had been paid in the garb of commission because it actually reduced the corpus available for distribution as dividend. Therefore, the moot point for consideration, in the present appeal, is whether commission was paid as a ruse or device to hoodwink the revenue. Section 36(1)(ii) reads as under: –

36(1) “The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28 (ii) any sum paid to an employee as bonus or commission for services rendered, where such sum would not have been payable to him as profits or dividend if it had not been paid as bonus or commission”

26. The basic conditions for allowability of deduction u/s 36(1 )(ii) are as under:

i) the expenditure is on account of bonus or commission paid to an employee

ii) the amount is paid for services rendered

iii) the commission is not in lieu of payment of dividend.

27. As noted earlier, the AO has merely disallowed the commission invoking the 3rd ingredient noted above i.e. the commission has been paid in lieu of dividend. In order to arrive at a proper conclusion, it is necessary to find out the object with which section 36(1)(ii) has been incorporated in the Act. This provision has been incorporated to check, inter-alia, Private Companies from avoiding tax by distributing their profits to their members (showing them to be their employees) by way of commission and not by way of dividend. For successfully claiming an allowance under this clause, the sum paid to the employee as commission should not have been payable to him as profits or dividend, in case it had not been paid as bonus or commission. Section 36(1)(ii) mandates that if commission was not paid the impugned amount would have been payable as dividend. This section creates overriding condition for refusing the allowance. In the present case it is evident that commission has been paid as part of remuneration package to Ms. Renu Munjal and thus, it created an overriding title in favour of Ms. Renu Munjal by creating a charge against the profits of the company. However, its allowability was subject to sec. 36(1)(ii). The AO’s conclusion that the corpus for paying the dividend had reduced does not reflect the correct legal position with reference to section 36(1)(ii). Whenever any commission is paid to an employee it is bound to reduce the corpus  available for distribution as dividend. But that ipso-facto cannot be the basis for holding that commission is in lieu of dividend. All the facts and circumstances of the case have to be taken into consideration for arriving at right conclusion. In the present case the declared profits of the company were Rs. 42 crores and dividend had also been paid to all the shareholders including Ms. Renu Munjal. It cannot be disputed that the company as well as Ms. Renu Munjal were bracketed in the highest income tax slab and the only effect was on account of saving dividend distribution tax to the company which was very minimum keeping in view the overall profits of the company. This cannot be held to be device for reducing the overall tax effect in the case of company.

28. It is not disputed that had the commission not being paid to Mrs. Renu Munjal, she would not have received dividend to the extent of Rs. 39 lacs because her holding was only .1%. The dividend would have been much less than the commission actually paid to Mrs. Renu Munjal. Thus, sum of Rs. 39 lacs, in any case, would not have been paid to Mrs. Renu Munjal as profits or dividend if it had not been paid as commission. We find that the Hon’ble Delhi High Court in the case of CIT vs. M/s Bony Polymers Pvt. Ltd. (ITA No. 1298/2011) vide its judgment dated 19.10.2011 applying the ratio laid down in ITA No. 1283/2011 CIT vs. Creative Travel Pvt. Ltd. dismissed the revenue’s appeal. Hon’ble Delhi High Court in the case of Bony Polymers Ltd. as noted the observations of Hon’ble Mumbai High Court in the case of Loyal Motor Service Company Limited vs. CIT, 14 ITR 647 which are reproduced hereunder: –

“3. Now the facts as shown by the reference are that this company was formed by fourteen persons, thirteen of whom were originally owner drivers of motor vehicles, the fourteenth member contributing in money. The thirteen not only contributed their motor vehicles but also their services and accordingly became employees of this company. Besides the thirteen there are twenty-eight other employees making a total of forty-one. In the year  in question the company granted a bonus at the rate of two month’s salary to its forty-one employees and the total sum required to pay this bonus was Rs. 6,084/- of which Rs. 1,954/- went to the twenty-eight other employees and Rs. 4,130/- to the thirteen shareholder employees was by reference to their salaries and not to their stakes in the company. A tabulated result is set out in the application for this reference and is printed on page 12 of the record. It is there shown that of the thirteen shareholders employees six employees got less bonus than they would have got as dividends if the sum of Rs. 4,130 had been distributed by way of additional dividends. Five of them got more bonus than such dividends and in the case of two of them the figure works out the same. That is an accident in the sense that the bonus payments being referential to their wages and the dividends being referential to their shares have no relation to each other. Now the answer to the question referred to us depends on the construction that is to be placed upon para (x) of sub-sectin (2) of sec. 10. It should be noted that the body of this sub-section provides an allowance and the qualifying part of it is by way of exception to that allowance. What is to be allowed is “any sum” paid to an employee as bonus or commission for services rendered and the exception is, where “such sum” would not have been paid to him as profits or dividends if it had not been paid as bonus or commission. In the exception the words “such sum can, in my opinion, only refer to the last and the only antecedent, which is “any sum” paid as commission or bonus. Therefore, unless the commission or bonus would be paid to the assessee as profits or dividends the exception to the allowance does not operate. Mr. Setalvad on behalf of the CIT has pointed out with considerable force that strictly construed there can hardly ever be a case which comes within the ambit of the exception. Sir Jamshedji Kanga on behalf of the assessee company suggests two such cases, viz, in the case of what is generally called a one-man-company which is not unlawful under the Indian Companies Act, and also in a case in which a company, in declaring a dividend, or a partnership, in declaring division of their profits, say that instead of distributing their profits by way of dividends, or shares of profits, they will distribute the amount to themselves, as  salaried employees in their own company or partnership, as bonus. We are construing a taxation statute and the subject is entitled to have such a statute strictly construed in his favour. In my opinion in placing a strict construction on this sub-section, the sum excepted under the expression “such sum” must be the same sum as is described by the expression “any sum paid as bonus or commission”, and that an equivalent sum even in the two cases where by accident the bonus and the prospective dividend are the same, is not included in that construction. If that is the construction which is to be placed upon this sub-section, then the answer to the question is, that the whole of the sum of Rs. 4,130 paid as bonus to the shareholder employees is allowable as deduction under the provisions of s. 10(2)(x). I answer the question referred to us in the affirmative. The CIT must pay the costs of this reference.”

(emphasis supplied)

10. In the same decision, Kania. J. had observed:

“7. In my opinion, that construction of the clause is not correct. The word “such” must refer to what had been previously mentioned in the same clause in connection with the word “sum”. To find that out we must look to the first part of the clause. That refers to “any” sum. Reading the clause in that way the plain meaning appears to be that when a particular amount was paid by way of bonus to any employee, if the same amount would have been paid to him as a shareholder as dividend or profit, the company cannot be allowed a deduction on the ground of payment of bonus. To put it in other words the clause is intended to prevent an escape from taxation by describing a payment as bonus, when in fact ordinarily it should have reached the shareholder as profit or dividend. The argument would be equally applicable in the case of a partnership as in the case of a limited company. This construction leads to no hardship. It does not allow a wrong payment of bonus to escape taxation. In the first instance the bonus in the hands of the employee is liable to be taxed, unless exempted by a special notification. Moreover, the proviso contains conditions under which if a wrong claim is made, the same can be investigated and disallowed. An illustration will perhaps make the position clear. Five persons in a firm realizing that the profits of the year were Rs. 50,000  and they had an equal share in the profits of the business decide that instead of receiving Rs. 10,000 each as the share of profits each of them will be paid Rs. 10,000 as bonus or commission. In such a case the firm, when sought to be assessed, may contend that Rs. 10,000 were paid as bonus. The contention will be clearly rejected. But the safeguards do not end there. The firm will have to provide to the satisfaction of the taxing authority that the five partners were employees, in the first instance. Secondly, that the bonus was a reasonable amount having regard to the pay of the employee and the conditions of his service. Thirdly, that the profits of the business for the year in question made it reasonable to pay the amount granted as allowance, and lastly, the general practice in similar businesses or trade justified the payment of the amount as bonus. It seems to me that the plain reading of the clause means that the profits of a business will not be allowed to be dwindled by merely describing the payment as bonus, if the payment is in lieu of dividend or profit. I do not see any reason why any strained construction should be put on the plain meaning of the words of the clause. I, therefore, agree with the ld. Chief Justice with regard to the answer to be given to the question referred to us.”

(emphasis supplied)

29. Ld. DR has relied on the decision in the case of Dalal Broacha Stock Broking P. Ltd. In this case the assessee company had paid commission of Rs. 40 lacs each to the three working directors who owned the entire capital of the company. The Tribunal has recorded a finding as under: –

“It is also to be noted that commission has been paid only to the director employees and commission has been paid as 10% of profits subject to a limit of Rs. 40.00 lacs which also shows that the assessee company distributed part of the profits to the director employees who were the only shareholders. Therefore, on the facts and circumstances that dividend in case of the assessee company was payable and that the same has been paid in the garb of commission.”

However, in the present case, Ms. Renu Munjal held only .1% of the share capital and, therefore, in any view of the matter, Rs. 39 lacs could not be payable as dividend to Ms. Renu Munjal.

30. Therefore, this decision cannot be applied to the facts of the present case and, therefore, we do not consider it necessary to restore the matter to the file of AO to decide the issue denovo in the light of Special Bench Decision, as pleaded by ld. DR.

31. In view of above discussion, we are of the opinion that the assesee deserves to succeed.

32. In the result, the assessee’s appeal is partly allowed for statistical purposes.

Order pronounced in the open court on 27.04.2012

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