Deduction u/s. 10A to be allowed before set off of brought forward unabsorbed losses against current year profits

IN THE ITAT MUMBAI BENCH ‘K’

Medusind Solutions India (P.) Ltd.

Versus

Assistant Commissioner of Income-tax

IT Appeal No. 6703 (Mum.) of 2010

[Assessment year 2006-07]

DECEMBER 5, 2012

ORDER

Dinesh Kumar Agarwal, Judicial Member 

This appeal preferred by the assessee is directed against the order dtd. 18-8-2010 for the A.Y. 2006-07 passed by the A.O. u/s 143(3) r.w.s. 144C of the Income Tax Act, 1961 (the Act) after considering the directions dtd. 25-6-2010 of the Dispute Resolution Panel (DRP).

2. Brief facts of the case are that the assessee company is engaged in the business of I.T. enabled services. The return was filed declaring total income of Rs. 60,130/- after claiming exemption u/s 10A of the Act. However, the assessment after making certain dis allowances and addition was completed at an income of Rs. 2,20,958/-, vide order dtd. 18-8-2010 passed u/s 143(3) r.w.s. 144C of the Act.

3. Being aggrieved by the order passed by the A.O., the assessee is in appeal before us.

4. Ground No. 1 and 5 are general in nature and in the absence of any specific plea, the same are, therefore, rejected.

5. Ground Nos. 2 to 2.4 are against the sustenance of dis allowance u/s 14A of the Act.

6. At the time of hearing the ld. Counsel for the assessee submits that he does not want to press the above grounds which was not objected to by the ld. D.R.

7. That being so and in the absence of any supporting material placed on record by the ld. Counsel for the assessee, the grounds taken by the assessee are, therefore, rejected being not pressed.

8. Ground No. 3 and 3.1 read as under:-

“That on the facts and in the circumstances of the case and in law, the Learned Assessing Officer has erred in adding back a sum of Rs. 35,561/- being the notional interest computed for the purposes of arriving at the arm’s length pricing on account of a delay in realization of the dues from Medusing Solutions, Inc (an associated enterprise), pursuant to the order passed by the Transfer Pricing Officer, Jt. Commissioner of Income-tax, Transfer Pricing – 1(5) under the provisions of section 92CA(3) of the Act.”

9. Brief facts of the above issue are that the A.O. made reference u/s 92CA(1) of the Act to the Transfer Pricing Officer (TPO) for computation of Arms Length Price (ALP) in respect of international transactions for the purpose of arriving at the Arms Length Price on account of delay in realizing the dues from Medusind Solutions Inc. (an Associate Enterprise). The assessee was asked by the TPO as to why interest should not be considered for determining the ALP as adopted in the A.Y. 2005-06. In response, the assessee submitted that as per the understanding between the assessee and the AE, the A.E has to remit the amount to the assessee only after it recovers from its (AE’s) debtors. The assessee further submitted the details of average debtor days of the assessee and its AE. According to the assessee, the AE recovers the dues from its customers within 61 days whereas the assessee is realizing the dues from the AE within 127 days and the difference is only 66 days. It was further submitted that as a part of normal business practice, interest is neither charged nor paid as the parties intend to continue to maintain a lasting business relationship with each other. Further, the agreement between the assessee and the AE also does not specifically provide for interest to be charged on overdue payments. It was further submitted that it is a zero debt company i.e. it does not have any borrowings from external sources and it has also not paid any interest on delayed payments made by it to third parties, hence, it was claimed that there was no need for it to charge any interest to its AEs. The assessee also submitted details of convertible loan provided by the AE to Health wave Inc. (customer) as follows:

“Convertible loan to Health wave : US $ 2,50,000

And interest earned from Health wave and third party customer, during FY 2005-06 to US $ 37,203″.

The TPO after examining the assessee’s submission, however, was of the view that there was abnormal delay in recovering the dues from the AE and, hence, he considered the interest at the average rate of MIBOR of 5.68% and loaded on the debit balances from the AE as under:-

Total interest to be loaded on the amounts due from the AE @ MIBOR of 5.68%

5,74,28,683 x 66 x 5.68% = Rs. 16,95,186″

The TPO after deducting the interest earned by the assessee US $ 37,203 equivalent to Rs. 1,659,625/- from the interest loaded on the amounts due from AE Rs. 1,695,186/- worked out the net adjustment from AE Rs. 35,561/- and held the same as interest to be charged from the AE on account of delay in realising the dues from the AE. The A.O. after considering the assessee’s submissions and the order of the TPO passed u/s 92 CA(3) dtd. 30-10-2009 added back the above amount of Rs. 35,561/- being adjustment made to the Arms Length Price in respect of international transaction with the observation that the said adjustment has also been upheld by the DRP.

10. At the time of hearing the ld. Counsel for the assessee while reiterating the same submissions as submitted before the TPO, A.O. and DRP submits that the assessee has not paid any interest to third parties for services, if any, availed and the payment has been made late i.e. beyond the normal credit period offered, therefore, no such addition is called for. He further submits that such adjustment in respect of interest not charged by the assessee on debit balance does not amount to an international transaction u/s 92B of the Act in respect of which ALP adjustment has been made and for this proposition the reliance was also placed on the decision in Nimbus Communications Ltd. v. Asstt. CIT [2012] 38 SOT 246 (Mum.) followed in Patni Computer Systems Ltd. v. Dy. CIT [2012] 135 ITD 398 and Dy. CIT v. Indo American Jewellery Ltd. [2012] 50 SOT 528. He, therefore, submits that the addition made by the A.O. be deleted.

11. On the other hand, the ld. D.R., at the outset, submits that charging of interest on delayed payment from the Associated Enterprises is an international transaction. The Finance Act 2012 has amended section 92B of the Act by inserting Explanation (i)(c) with retrospective effect 1-4-2002 wherein it has been provided as under:-

“(c) capital financing, including any type of long-term or short-term borrowing, lending or guarantee, purchase or sale of marketable securities or any type of advance, payments or deferred payment or receivable or any other debt arising during the course of business;”

He further submits that in view of the above Explanation, it is beyond doubt that the “receivable from the AE” is an international transaction within the meaning of section 92B of the Act. The reliance was also placed on the decision in Logix Micro Systems Ltd. v. Asstt. CIT [2010] 42 SOT 525 (Bang.) to show that the outstanding receivable is very much a relevant aspect of ALP. He, therefore, submits that the addition made by the A.O./TPO on account of interest on delayed payment be confirmed.

12. In the rejoinder, the ld. Counsel for the assessee while reiterating that sale value and interest cannot be regarded as a separate transaction, relied on the second part of the decision in Nimbus Communications Ltd.’s case (supra) to show that LIBOR rate was relevant only in the case of lending or borrowing of funds and not in the case of commercial over dues. He further submits that the net variation between the Arms Length Price so determined and price at which the international transaction has actually been undertaken does not exceed 5%, therefore, in view of the second proviso to section 92C of the Act, no such addition is called for.

13. We have carefully considered the submissions of the rival parties and perused the material available on record. We find that the facts are not in dispute inasmuch as it is also not in dispute that the impugned addition was made prior to the amendment made u/s 92B of the Act by inserting Explanation by the Finance Act, 2012 w.r.e.f. 1-4-2002 and all the decisions of the Tribunal relied on by both the parties are prior to the said amendment. This being so and keeping in view that the assessee has taken certain new plea at the stage of rejoinder, we are of the view that, in the interest of justice, the matter should go back to the file of the A.O. and accordingly we set aside the order passed by the Revenue authorities on this account and restore back the matter to the file of the A.O. to decide the same afresh in the light of our observations hereinabove and according to law after providing reasonable opportunity of being heard to the assessee. The grounds taken by the assessee are, therefore, partly allowed for statistical purpose.

14. Ground No. 4.1 reads as under:-

“That on the facts and in the circumstances of the case and in law, the Learned assessing Officer erred in setting off the past-unabsorbed losses prior to calculating exemption under section 10A.”

15. Brief facts of the above issue are that on perusal of the computation of income, the A.O. observed that the assessee company has set off unabsorbed losses from earlier years after claiming the deduction u/s 10A of the Act amounting to Rs. 36,74,806/-. The assessee was asked to show cause as to why deduction u/s 10A of the Act should not be granted after set off of brought forward losses. The assessee furnished its reply vide letter dated 27-11-2009. The A.O. after considering the same observed that the deduction u/s 10A of the Act has to be allowed from the profits and gains as are derived by the undertaking from the export of article of things or computer software from the total income of the assessee. As section 2(45) of the Act total income means the total amount of income referred to in section 5 computed in the manner laid down in this Act. Section 5 defines the scope of the total income. Further the total income has to be computed in the manner laid down in the Income Tax Act. Hence, all the provisions of the Income-tax Act apply to compute the total income of the eligible undertaking. He further observed that section 10A does not contain a non obstante clause, hence, the provisions of all the sections of the Act apply in computing the total income of the relevant undertaking, hence, the deduction u/s 10A of the Act will be allowed to the assessee only in respect of the balance income available of the undertaking after set off of brought forward losses. The A.O. further observed that the assessee company has enough brought forward losses to set off the total income of the industrial undertaking, no deduction u/s 10A of the Act will be allowable to the assessee and, hence, he disallowed the deduction u/s 10A claimed by the assessee amounting to Rs. 36,74,806/- with the observation that the said adjustment has also been upheld by the DRP.

16. At the time of hearing the ld. Counsel for the assessee submits that this issue is directly covered in favor of the assessee by the following decisions:-

 1. CIT v. Black & Veatch Consulting (P.) Ltd. [2012] 348 ITR 72.

 2. Hindustan Unilever Ltd. v. Dy. CIT [2010] 325 ITR 102

 3. Sandoz (P.) Ltd. v. Addl. CIT and vice versa

in ITA No. 5964/Mum/2004 for A.Y. 2001-02, ITA No. 8489/Mum/2004 for A.Y. 2001-02, ITA No. 5047/Mum/2005 for A.Y. 2002-03 & C.O. No. 89/Mum/2008 for A.Y 2002-03, ITA No. 5974/Mum/2004 for A.Y. 2001-02 and ITA No. 5077/Mum/2004 for A.Y. 2002-03 order dtd. 9-11-2012.

He, therefore, submits that the deduction claimed by the assessee before set off of unabsorbed losses of earlier years be allowed.

17. On the other hand, the ld. D.R. while relying on the order of the A.O., also relied on the decision of the Tribunal in Global Vantedge (P.) Ltd. v. Dy. CIT [2010] 37 SOT 1 (Delhi) for the proposition that the deduction u/s 10A of the Act is allowable after set off of all the brought forward unabsorbed business loss and unabsorbed depreciation. He also distinguished the decisions relied on by the ld. Counsel for the assessee.

18. We have carefully considered the submissions of the rival parties and perused the material available on record. We find that the facts are not in dispute inasmuch as it is also not in dispute that the assessee has claimed deduction u/s 10A of the Act before set off of brought forward unabsorbed losses from earlier years against the current year profits of the unit eligible for deduction u/s 10A of the Act. We find merit in the plea of the ld. Counsel for the assessee that the issue stands covered in favor of the assessee by the recent decision of the Hon’ble Bombay High Court in Black & Veatch Consulting (P.) Ltd.’s case (supra) wherein it has been held as under:-

“Section 10A is a provision which is in the nature of a deduction and not an exemption. This was emphasized in a judgment of a Division Bench of this Court while construing the provisions of Section 10B in Hindustan Unilever Ltd. v . Dy. CIT [2010] 325 ITR 102. The submission of the Revenue placed its reliance on the literal reading of Section 10A under which a deduction of such profits and gains as are derived by an undertaking from the export of articles or things or computer software for a period of ten consecutive Assessment Years is to be allowed from the total income of the assessee. The deduction under Section 10A, in our view, has to be given effect to at the stage of computing the profits and gains of business. This is anterior to the application of the provisions of Section 72 which deals with the carry forward and set off of business losses. A distinction has been made by the Legislature while incorporating the provisions of Chapter VI-A. Section 80A(1) stipulates that in computing the total income of an assessee, there shall be allowed from his gross total income, in accordance with and subject to the provisions of the Chapter, the deductions specified in Sections 80C to 80U. Section 80B(5) defines for the purposes of Chapter VI-A “gross total income” to mean the total income computed in accordance with the provisions of the Act, before making any deduction under the Chapter. What the Revenue in essence seeks to attain is to telescope the provisions of Chapter VI-A in the context of the deduction which is allowable under Section 10A, which would not be permissible unless a specific statutory provision to that effect were to be made. In the absence thereof, such an approach cannot be accepted. In the circumstances, the decision of the Tribunal would have to be affirmed since it is plain and evident that the deduction under Section 10A has to be given at the stage when the profits and gains of business are computed in the first instance. So construed, the appeal by the Revenue would not give rise to any substantial question of law and shall accordingly stand dismissed”.

Respectfully following the decision of the Hon’ble jurisdictional High Court which is binding on us and keeping in view the rule of consistency, the A.O. is directed to allow the deduction u/s 10A of the Act before set off of brought forward unabsorbed losses of earlier years. The ground taken by the assessee is, therefore, allowed.

19. Ground No. 4.2 reads as under:-

“That on the facts and in the circumstances of the case and in law, the Learned Assessing Officer erred in not bifurcating the total interest income of Rs. 220,959 between the interest directly attributable to business activities (Rs. 160,833) and other interest (Rs. 60,126) and consequently erred in holding that the interest income of Rs. 160,833 (which directly sprang from the business operations of the appellant) did not qualify for exemption under section 10A.”

20. Brief facts of the above issue are that the A.O. observed that the assessee has received interest income of Rs. 2,20,958/- out of which only Rs. 60,126/- has been offered as income from other sources. However, the A.O. relying on the decision of the Hon’ble Supreme Court in Cambay Electric Supply Industrial Co. Ltd. v. CIT [1978] 113 ITR 84 treated the interest income of Rs. 1,60,832/- under the head ‘income from other sources’, not eligible for deduction u/s 10A of the Act.

21. At the time of hearing the ld. counsel for the assessee submits that the details of interest income of Rs. 2,20,959/- is as under:-

He further submits that the assessee has treated the interest aggregating to Rs. 1,60,833/- earned on margin monies lying with Bank in the form of fixed deposits, NSC deposits (which were required to be pledged with the sales tax authorities) and the interest on loans advanced to its employees as business income. He further submits that the remaining interest aggregating to Rs. 60,126/- represented interest income earned on surplus funds and had been offered to tax under the head “Income from Other Sources” and the said interest income has not been considered by the assessee for the purposes of computing its claim u/s 10A of the Act. He further submits that the term “income derived from the business of the industrial undertaking of an assessee” was much wider than the term “income derived from the industrial undertaking” and the former brings within its fold income from all business transactions and activities closely connected to the industrial undertaking and for this proposition, the reliance was also placed in the following decisions:-

1. ITO v. Jewelex International (P.) Ltd. in ITA No. 3302/Mum/2009 for A.Y. 2006-07 dtd. 15-9-2010,

2. ITO v. Greytrix (India) (P.) Ltd. in ITA No. 5787/Mum/2009 for A.Y. 2006-07 dtd. 7-10-2011 and,

3. Tropicate Textiles (P.) Ltd. v. DCIT and vice versa in ITA No. 1827 and 2544/Mum/2006 for A.Y. 2002-03 order dtd. 30-9-2011.

22. On the other hand, the ld. D.R. while agreeing that the interest on fixed deposits pledged with the bank on account of margin money is eligible for deduction u/s 10A of the Act submits that in view of the finding recorded by the A.O. the assessee is not entitled to deduction u/s 10A of the Act in respect of interest on NSC and interest on loan given to its employees. He, therefore, submits that to this extent the order passed by the A.O. be upheld.

23. We have carefully considered the submissions of the rival parties and perused the material available on record. We find that the facts are not in dispute inasmuch as it is also not in dispute that the assessee has received interest of Rs. 25,002/- on fixed deposits pledged with the bank on account of margin money.

24. In Jewelex International (P.) Ltd.’s case (supra) it has been held vide para 5 & 6 as under:-

“5. We have carefully considered the facts and the rival contentions. There is no dispute that the interest was received from margin monies kept as deposits with the banks for the purpose of borrowing monies for the business. The assessee’s business is in the export of jewellery and in the first page of the assessment order it has been stated by the Assessing Officer that the assessee is a 100% export oriented undertaking within the meaning of section 10B. If that is the factual position, the interest has to be considered as having been derived from the export of the articles. Even if it is argued that the immediate source of the interest is the deposits with the banks and not the export of articles, in view of sub-section (4) of section 10B the assessee is entitled to succeed. The Assessing Officer has not assessed the interest under the head “Income from other sources”. He has treated the interest as part of the profits of the assessee’s business. Sub-section (4) of section 10B statutorily prescribes a formula as to what should be considered as profits derived from export of articles. The profits of the business of the undertaking are to be ascertained first and the next step is to bifurcate the same in the same proportion as the export turnover in respect of the articles bears to the total turnover of the business carried on by the undertaking. If the interest income forms part of the profits of the business of the undertaking, then in the light of the statutory formula the resultant figure after applying the formula has to be statutorily considered as profits derived from export of articles. In the present case the interest having been assessed as part of the profits of the business of the undertaking, the formula has to be applied and sub-section (4) leaves no choice. In this view of the matter we are in agreement with the submission of the learned counsel for the assessee.

6. The learned counsel for the assessee is right in his submission that in the case of section 80HHC, which was considered by the Supreme Court in K Ravindranathan Nair (supra), there is a specific Explanation (baa) which excludes 90% of the interest, even if it is assessed as business income, from the profits of the business. However, sub-section (4) of section 10B contains no such exclusion nor is there any other provision in the section similar to Explanation (baa) of section 80HHC. In Liberty India (supra), the Supreme Court was concerned with sections 80-I, 80-IA and 80-IB. In these sections also there is no statutory formula to prescribe as to what are the profits eligible for the deduction. There is no statutory prescription of such profits as in sub-section (4) of section 10B. Sub-section (5) of section 80-IA, which also has to be read as part of section 80-IB provides that the profits of an eligible business shall be computed as if such eligible business is the only source of income of the assessee. This is not similar to the statutory formula prescribed in sub-section (4) of section 10B. It cannot also be stated that the assessee was adopting a device to inflate the profits of the export oriented undertaking by including the interest income therein because even the Assessing Officer did not dispute that the interest income forms part of the business profits. Once such a conclusion is reached, subsection (4) of section 10B takes over. For these reasons we uphold the decision of the CIT(A) and dismiss the first ground taken by the Revenue.”

The above order has been followed by the Tribunal in Greytrix (India) (P.) Ltd.’s case (supra) and in Tropicate Textiles (P.) Ltd.’s (supra).

25. In the absence of any distinguishing feature brought on record by the ld. D.R., we respectfully following the consistent view of the Tribunal, hold that the assessee is entitled to deduction u/s 10A of the Act of the interest income of Rs. 25,002/- on the FD pledged with the bank on account of margin money. As regards the interest on NSC Rs. 248/- and interest on loan to employees Rs. 135,583/-, we are of the view that there is no nexus between the interest income and the income derived by the undertaking of the assessee in terms of the provisions of section 10A of the Act, therefore, the A.O. was justified in treating the same as income from other sources not eligible for deduction u/s 10A of the Act. The ground taken by the assessee is, therefore, partly allowed.

26. In the result, assessee’s appeal stands partly allowed for statistical purpose.