Maintenance of separate books of account for STP units is not a prerequisite to avail deduction under section 10A

IBM India P. Ltd. v. DCIT (ITAT Bangalore)- Considering the second objection of the AO, namely, that separate books of account have not been maintained for the STP Units, his observation was that the objection of the AO arose on the premise that part of the expenditure which could be related to the exempted income which is not allowable to the assessee by virtue of the provisions contained in section 14A of the Act which could be disguised and allowed to be set off against taxable income and, thus, the assessee would be benefited by paying reduced tax which could have been avoided.

On this issue, the objection of the AO as is seen from the remand report and as noted by the CIT (A) was with regard to allocation of the overhead expenses in the ratio of turnover. The reason given by the learned CIT (A) for not accepting the reasoning of the AO was as the assessee has three units at different place, the only plausible manner available for allocation of expenditure is in the ratio of turnover which is possibly the only indicator available and is a reasonable method of arriving at the expenses.

Further, we venture to quote the ruling of the Hon’ble Supreme Court in the case of Smt. Tarulata Shyam and others v. CIT reported in 108 ITR 345 (SC) wherein it has been made implicitly clear that –

“To us, there appears no justification to depart from the normal rule of construction according to which the intention of the Legislature is primarily to be gathered from the words used in the statute. It will be well to recall the words of Rowlatt J. in Cape Brandy Syndicate v. Inland Revenue Commissioners [1921] 1 KB 64 (KB) at page 71, that :

“………. in a taxing Act one has to look merely at what is clearly said. There is no room for any intendment. There is no equity about a tax: There is no presumption as to a tax. Nothing is to be read in, nothing is to be implied. One can only look fairly at the language used.”

In view of the fact that the maintenance of separate books of account for STP Units is not a condition laid down in the provisions of s. 10A of the Act and also in conformity with the rulings of the Hon’ble Supreme Court referred supra and the finding of the Hon’ble Bench in the assessee’s own case for the immediately preceding AY cited above, we are of the considered view that the Ld. CIT (A) was not justified in denying the legitimate claim of the assessee u/s 10A of the Act. It is ordered accordingly.

IN THE INCOME TAX APPELLATE TRIBUNAL

BANGALORE BENCH ‘A’, BANGALORE

I.T.A No. 1151Bang/2009

(Assessment Year : 2002-03)

IBM India P. Ltd. v. Deputy Commissioner of Income-tax

O R D E RPER GEORGE GEORGE K, JUDICIAL MEMBER :

2.1.           The remaining grounds are reformulated, for the sake of clarity, in a concise manner, as under:

(1)        Ground Nos. 2 to 7: the Ld. CIT (A) had erred in denying the claim of relief u/s 10A of the Act on account of non-maintenance of separate books of account;

(2)        Ground Nos. 10 to 11: the Ld. CIT (A) erred in holding that the assessee is ineligible to claim relief u/s 10A of the Act in respect of work sub-contracted as the assessee had provided disclaimers to such contractors etc.,

(3)        Ground Nos.12 to 14: the Ld. CIT (A) erred in holding that the assessee to reduce expenses pertaining to freight, insurance and communication charges from ‘export turnover’ in computing relief u/s 10A of the Act; &

(4)        Ground Nos.15 & 16: the CIT(A) also erred in sustaining the AO’s stand in disallowing bad debts of Rs.12.72 crores holding that they have not become irrecoverable.

3. Briefly stated, the assessee, in the business of development of computer software for export, maintenance of computer equipment, consultancy in information technology systems integration etc., for the AY under challenge, had furnished its return of income, admitting an income of Rs.2.21 crores after claiming deduction u/s 10A of the Act. However, the Ld. AO, for the reasons recorded in his impugned order, determined the assessee’s income at Rs.64.46 crores thereby making additions of Rs.12.72 crores on account of bad debts and Rs.1 01.51 crores as disallowance of claim u/s 1 0A of the Act.

4. Aggrieved, the assessee took up the issues with the Ld. CIT (A) for solace. After due consideration of the assessee’s contentions, extensively quoting various case laws and also analyzing the issues in depth, the Ld. CIT (A) had recorded his findings which are extracted as under:

(i)    Non-maintenance of separate books of accounts:

Extensively quoting the amendment to s. 10A(1) of the Act, it was observed that –

“10.3. Thus, I conclude that even if the Act does not stipulate for separate books for each STPI Unit, the Legislative intention of amendment brought in by FA 2000 w.e.f. 1.4.2001, in s.10A(1) of the I.T. Act is that for quantification of eligible deduction such maintenance is indispensable. Secondly, by admitted non-maintenance of separate books, since the condition laid down by the Department of electronics is not adhered to the approval is seemed to be withdrawn. In other words, the same becomes non-STPI Units and, hence, not eligible for any deduction u/s 10A of I.T. Act. In fact, in order to get the eligible deduction, it has mainly to deal with three authorities viz., authorities of STPI/Department of electronics to get the approval to commence export business, the RBI to receive the sale proceeds in foreign currency to run the business and thirdly IT authorities to get the benefit of deduction or incentive for doing export benefit or improving the balance of payment of the country. Thus, it has to adhere to the conditions stipulated by all the three authorities simultaneously so as to commence, run and improve its business of export and if any of such stipulation is not confirmed or violated, the benefit is gone. In view of such totality of situation, I dismiss these grounds and hold that since the quantum is not exact and based on guess work and also a condition laid down by Department of Electronics has been violated, the appellant is not eligible for claiming deduction u/s 10A of I.T. Act.”

(ii)  Relief u/s 10A of the Act in respect of sub-contracted work: Elaborately quoting his finding in the case of Jaipuria Silk Mills (F) Limited, the Ld. CIT (A) of the view that –

“13.2. I find that ITAT has given relief to appellant because no specific contractor could be named who is involved in availing double benefit of s.10A/80HHC. In fact, the word ‘export’ means ‘direct export’ and the benefit of deduction is always given to the direct exporter. There should not be any double claim of such allowance. This is the view of the Supreme Court in the cases of (i) Sea Pearl Industries and others v. CIT (2001) 247 ITR 578 (SC) and (ii) M.M. T. C v. R. C. Mishra (1993) 201 ITR 851 (SC)

13.3. After the survey though conducted in FY 2002-03 i.e., AY 2003-04, specific findings have been given by the AO that sub-contractors are not only doing the manufacture of software packages, but, also exporting them out of India on receipt of foreign exchange, therefore appellant is not entitled for any deduction on such sub­contract work done by the sub-contractor u/s 10Aof I. T. Act. Thus facts before CIT (A) and ITAT while deciding the appeal of AY 2000-2001 has changed. On changed finding of fact by the AO, the grounds that the appellant is entitled for relief even on sub-contracted project are dismissed.”

(iii)      With regard to reduce expenses on freight, insurance charges  etc., from export turnover:

Following his earlier finding and elaborately extracting the same in the case of Jaipuria silk Mills (P) Ltd., CIT (A) had concluded thus –

“14.2. The sum and substance of the above is that ss.80HHC/80HHE wherein the term ‘total turnover’ has been explained cannot be imported to s.10A of I.T. Act because these sections operate in different fields and have different denotations and connotations and also contextually different.

14.2.1. The legislative intention of the substitution brought out in s.10A of I.T. Act by the FA 2000 w.e.f. 1.4.2001 was that even the 100% EOUs must pay some tax on the export profit earned by them. This is only possible when the numerator export turnover and denominator total turnover are not equal or same even in case of an undertaking doing only export business and no domestic sales at all. In such a situation, the numerator and denominator will not be equal if the reimbursed freight, insurance and telecommunication charges are not included in the export turnover i.e., numerator which has been specifically provided in Explanation 2(iv) of s. 10A and the same items are included in the total turnover. If such items are not included in both ‘export’ as well as ‘total turnover’ hen the legislative intention of ‘payment of some tax’ and ‘not exemption but deduction’ gets defeated. This is why no specific explanation as to what is meant by total turnover has been intentionally provided in s.10A /10B of IT Act.”

(iv) Bad Debts: Placing strong reliance on the rulings of the Hon’ble Madras High Court in the case of South India Surgical Co. Ltd. v. ACIT (2006) 287 ITR 62 (Mad) and the Hon’ble Rajasthan High Court in the case of Kashmir Trading co. v. DCIT (2007) 291 ITR 228 (Raj), the Ld. CIT (A) took a stand that –

“15.5. The Act speaks of a simple write off. The jurisdictional ITAT also confirms he same. But the manner of write off has not been elaborated to justify that such write off is correctly done to qualify for allowance u/s 36(1)(vii) of I.T. Act. Earlier the assessee were debiting the bad debt a/c and crediting the provision for bad debt a/c. Therefore, an explanation was inserted in s. 36(1)(vii) by FA 2001 w.r.e.f 1.4.1989 stating that such entry would not be an allowable claim as bad debt. The proper procedure, I observe is to debit the bad debt a/c and credit the a/c of the debtor and also inform the debtor that it is no longer required to repay the debt amount. Examination of books show such has not been done. Thus, even on the basis of lack of adoption of proper procedure of write off, the claim deserved to be refused. Hence, the disallowance of the claim of bad debt is upheld….”

5. Disillusioned with the treatment handed down by the Ld. CIT (A), the assessee has come up before this Bench with the present appeal. It was the case of the assessee that –

(i) the provisions of s.10A of the Act do not require that separate books of account be maintained for each of the Software Technology Park [STP] Units as long as the tax­payer is able to arrive the profit/loss of each of the STP Units from its consolidated books of account;

– the AO had not disputed the traceability of direct expenses to STP Units and non-STP Units and the only matter disputed by the AO was on the allocation of indirect costs between units on the basis of turnover. It would be clear from Form 56F and the P & L a/c that the assessee had maintained the accounts unit-wise; that it was the admitted position of the AO that the direct expenses have been property recorded and it was similar to the earlier year’s assessment position of the assessee. The only grievance of the AO was that the indirect costs are being allocated on the basis of unit-wise turnover. However, it was clear from the unit-wise profit and loss account that the profits have been computed unit-wise and that the Hon’ble Tribunal in assessee’s own case held that allocation of the indirect costs on the basis of turnover could be the only reasonable basis for arriving at the unit-wise profits and, thus, the case of the assessee stands squarely covered by the earlier year’s decision;

– to counter the Ld. CIT (A)’s observation that before the amendment in April, 2001, the requirement was to compute the profits for the whole business and, therefore, there was no requirement to maintain separate books of account and after the amendment (for AY 2001-02 onwards) because of the use of the words ‘undertaking’ there is now a requirement to maintain separate books of account for each STP undertaking, it was contended that –

In fact, the sequence of the amendments to S.10A of the Act was the key aspect in this case. When the exemption provision was replaced by a deduction provision by Finance Act 2000 w.e.f 1.4.2001, there was an anomaly in sub-section (4) of s.10A where the reference point was the business of the assessee and not the under-taking of the assessee. However, the Circular No.794 dt.9.8.2000 explaining the amendments of F.A. 2000 itself refers to the turnover of the undertaking and not the business. This clearly indicates the intention of the Legislature was to make it undertaking specific, but it was inadvertently drafted in the FA 2000 with reference to the business of the assessee. However, this anomaly was immediately corrected by the Parliament in the FA 2001 w.e.f. 1.4.2001 itself. In other words, before the effective date of the new section 10A of the Act, this anomaly was rectified. Hence, the law came into being only with sub-section (4) of 10A of the Act referring only to ‘undertaking’ which was also the case prior to the amendment. The Ld. CIT (A) had, however, assumed that the law has only now become undertaking specific and concluded that the implicit assumption of law was that unit-wise books of accounts should be maintained.

Therefore, the pre-amended provision cited by the Revenue was never codified as law, and, thus, it was incorrect to assume that the pre-amended provisions did not require separate books of account, but, the post-amendment section does, as there was never a change in the legal position that the tax holiday was always undertaking-specific. Therefore, the ITAT having held (in the pre-amendment year AY 2000-01 in the assessee’s own case that there was no requirement to maintain separate books of account for each undertaking and the same analogy will continue to apply even for the post amendment years i.e., AY 2001-02 onwards;

That the Hon’ble Ahmedabad Tribunal in the case of ITO v. E-Infochips Ltd. [124 TTJ 176] held [in the context of the amended provisions of s.10A of the Act] that maintenance of separate books of accounts were not required to be maintained to claim relief u/s 10B of the Act

–       that the qualifying conditions are codified in sub-section 2 of s.10A of the Act. The section states that ‘all’ the following conditions are to be satisfied which indicates that the provisions are exhaustive and not inclusive or illustrative. When the Revenue had not codified that these conditions have not been complied with, no other conditions can be imposed into the law [Tarulata shyam – 108 ITR 345 (SC)];

–       that the compliance of provisions of the STP scheme by the STP Units is to be overseen by the STP authorities and it was not for the Revenue authorities to deny the claim of tax holiday on account of the alleged violation of the provisions of the STP Scheme with respect to non-maintenance of books of account, non-maintenance of project-wise accounts etc.,

–       relies on the case laws

(a)      Gestetner Duplicators Pvt. Ltd. v. CIT (117 ITR 1 (SC);

(b)   ITO v. e-Infochips Ltd. 124 TTJ 176) – ITAT, Ahmedabad

(ii) With regard to sub-contracted work:–

–          the Hon’ble earlier Bench in the assessee’s own case for the AY 2000-01 – in ITA No.3464/Bang/2004 dated 31-10-2007 had granted relief u/s 10A of the Act in respect of the work sub-contracted by the assessee;

(iii) In respect of exclusion of foreign currency expenses from export turnover:

–       that the exclusion of foreign currency expenses from both the export turnover as well as total turnover was to be decided in favour of the assessee. Relies on the finding of the Hon ’ble Special Bench of Chennai in the case of ITO v. Sak Soft Limited reported in 313 ITR [AT] 353;

(iv) With regard to deduction on bad debts:

–          that the assessee was not required to establish that the debts written off were
bad in order to claim deduction under the provisions of s.36(1)(vii) of the Act.

Relies on the ruling of the Hon ’ble Supreme Court in the case of TRF Ltd. v. CIT – 323 ITR 397(SC).

5.1. To drive home his points, the Ld. A R came up with a voluminous paper book consisting of 1 – 180 pages which consist of inter-alia copies of (i) return of income with annexure, (ii) correspondence with authorities etc.,

5.2. On his part, the Ld. D R was very specific in his urges that the Ld. CIT (A), after analyzing the issues raised by the assessee comprehensively and also extensively quoting various case laws, had arrived at a conclusion in a judicious manner which, according to him, requires no intervention of this Bench at this juncture. In furtherance, the Ld. D R had furnished a paper book which, primarily, consists of copies of (i) survey report dt.25.2.2008; (ii) Form No.1 0CCAF with annexure, sworn statement of CFO of the assessee etc.,

6. We have decisively considered the rival submissions, diligently perused the relevant case records and also the documentary evidences advanced by either party in support of their respective claims.

6.1. We shall proceed to analyze the rival claims in a chronological manner as under:

I. It is an undisputed fact that the Ld. AO had not disputed the traceability of direct expenses to STP and non-STP Units and the only issue on which the Ld. AO objected to, as highlighted by the assessee in its submission, was the allocation of indirect costs between units on the basis of turnover. On his part, the Ld. CIT (A) took a stand that consequent to substantial change in the provisions of s.10A (1) of the Act w.e.f. 1.4.2001, the assessee was required to maintain separate books of account which it had failed to do so and, thus, the assessee was not entitled to claim deduction u/s 10A of the Act. As rightly pointed out by the assessee, maintenance of separate books of account was not a pre-condition finding a place in the provisions of s.1 0A of the Act.

The Commissioner of Income-tax(A)’s statement that there was substantive change in law w.e.f.1 .4.2001 is correct. However, his further observation that law has moved to ‘undertaking’ specific deduction, which indicates that the books of accounts should be maintained unit wise, is without any legal basis. Section 10A tax holiday provisions were always ‘undertaking’ specific (even pre-amended provisions up to 2001). Sub-section (1) of Section 10A (prior to the amendment by Finance Act, 2000 was an exemption provision which also clearly refers to the profits of the undertaking. Hence, the Commissioner of Income-tax(A) has misunderstood that the provisions were not ‘undertaking’ specific. The pre-amended provisions cited by the Revenue was never codified as the law, (as it was overwritten by the subsequent amendment) (See A. N. Iyer’s ‘IT Laws, 2001’). Therefore, the Revenue is incorrect to cite that pre-amended provisions did not require separate books of account as there was no reference to ‘undertaking’, but the post-amended section does.

In this connection, it is most appropriate to recall the finding of the earlier Bench in an identical issue in the assessee’s own case for the immediately preceding assessment year [in ITA No.3464/Bang/2004 dated 31 .10.2007], wherein the Hon’ble Bench, after analyzing various rulings of the Hon’ble highest judiciary of the land, primarily, in the cases of (i) CWT v. Kripashankar Dayashanker Worah (1971) 81 ITR 763, (ii) in Philip John Plasket Thomas v. CIT (1963) 49 ITR 97 (SC) and (iii) Smt.Tarulata Shyam v. CIT (1977) 108 ITR 345 (SC and also extensively quoting the provisions of s.10A of the Act, had observed thus –

“ 17.The learned Commissioner of Income-tax (A)………………………………………………. He noted in his order that the assessee could fall within the ambit of section 10A of the Act, all that it takes to satisfy the conditions laid down therein. Further, the assessee has satisfied and fulfilled the conditions based on which it was permitted to establish STP units at Bangalore, Pune and Delhi. He further observed that even the assessing officer could not find anything which would go to show that the assessee has failed to fulfill the conditions laid down u/s 10A(1)(2)(i), (ii) and (iii) of the Act. He observed that insofar as the sales turnover from the STP Units are concerned, the assessing officer in his remand report has accepted that identification was possible and it has been correctly shown by the assessee in the submission that was made before CIT (A) which was forwarded to the AO for his remand report.

Considering the second objection of the AO, namely, that separate books of account have not been maintained for the STP Units, his observation was that the objection of the AO arose on the premise that part of the expenditure which could be related to the exempted income which is not allowable to the assessee by virtue of the provisions contained in section 14A of the Act which could be disguised and allowed to be set off against taxable income and, thus, the assessee would be benefited by paying reduced tax which could have been avoided. On this issue, the objection of the AO as is seen from the remand report and as noted by the CIT (A) was with regard to allocation of the overhead expenses in the ratio of turnover. The reason given by the learned CIT (A) for not accepting the reasoning of the AO was as the assessee has three units at different place, the only plausible manner available for allocation of expenditure is in the ratio of turnover which is possibly the only indicator available and is a reasonable method of arriving at the expenses.”

Further, we venture to quote the ruling of the Hon’ble Supreme Court in the case of Smt. Tarulata Shyam and others v. CIT reported in 108 ITR 345 (SC) wherein it has been made implicitly clear that –

“To us, there appears no justification to depart from the normal rule of construction according to which the intention of the Legislature is primarily to be gathered from the words used in the statute. It will be well to recall the words of Rowlatt J. in Cape Brandy Syndicate v. Inland Revenue Commissioners [1921] 1 KB 64 (KB) at page 71, that :

“………. in a taxing Act one has to look merely at what is clearly said. There is no room
for any intendment. There is no equity about a tax: There is no presumption as to a tax. Nothing is to be read in, nothing is to be implied. One can only look fairly at the language used.”

II. In view of the fact that the maintenance of separate books of account for STP Units is not a condition laid down in the provisions of s. 10A of the Act and also in conformity with the rulings of the Hon’ble Supreme Court referred supra and the finding of the Hon’ble Bench in the assessee’s own case for the immediately preceding AY cited above, we are of the considered view that the Ld. CIT (A) was not justified in denying the legitimate claim of the assessee u/s 10A of the Act. It is ordered accordingly.

II. It was the view of the Ld. CIT (A) that the assessee was not eligible to claim relief u/s 10A of the Act in respect of the work sub­contracted as the assessee had provided disclaimers to the sub­contractors on the basis of which the sub-contractors were claiming relief under the said section.

The earlier Bench had an occasion to deal with a similar issue to that of the issue on hand for adjudication. Briefly analyzing the issue, the Hon’ble Bench recorded its views thus –

“22…………………………… .We also find ourselves in agreement with the conclusion of the Commissioner of Income (A) that exemption u/s 10A to the assessee has to be granted or denied by considering the facts of the assessee. The fact remains that the assessee had exported from STP Units and the engagement of the sub-contractors by the assessee to whom assessee paid from its bank account maintained abroad which only provided services to the assessee and have not exported anything by themselves and it would not be considered as exports, unless provision of those services from one STP unit to another unit that exports is considered as exports within the meaning of the Act. Since it is accepted that it is the assessee who had exported computer software for which it was paid, the entitlement of exemption u/s 10A is satisfied. As observed earlier, if the sub-conractors also become eligible if they are located in STP, it is something that the Act provides and, therefore, the AO who is merely an implementer of the Act, has to necessarily only follow it and allow the exemption if the circumstances so warrant.”

In conformity with the reasoning of the Hon’ble earlier Bench cited supra, we are of the considered view that the assessee is entitled to relief u/s 10A of the Act in respect of the work sub­contracted by IBM India. It is ordered accordingly.

III. The assessee’s claim for exclusion of foreign currency expenses from both the export turnover as well as total turnover was negated by the Ld. CIT (A) who by extensively quoting his reasoning in the case of M/s.Jaipuria Silk Mills (F) Ltd.

However, the earlier Hon’ble Bench in the case of iGate Global solutions Limited v. ACIT reported in 112 TTJ 1002 had observed that –

“9. Reliance was also placed on the number of judgments of the High Courts, vide which, it has been held that excise duty and sales-tax should not be included in the total turnover, as the same are not includible in the export turnover. The learned apex Court in the case of CIT vs. Lakshmi Machine Works (2007) 210 CTR (SC) 1 : (2007) 290 ITR 667 (SC) and in the case of CIT vs. Catapharma (India) (P) Ltd. (2007) 211 CTR (SC) 83 : (2007)292 ITR 641 (SC) has held that excise duty and sales-tax are not includible in the total turnover. It was, therefore, held in the cases of Tata Elxsi and Infosys Technologies that expenditure incurred in foreign currency by the assessee should be excluded from the total turnover, as the same is not to be considered in export turnover. Following the same reasoning, it is held that up-linking charges which are reduced for ascertaining the export turnover are also not to be considered for the purposes of total turnover, as total turnover is sum total of export turnover and internal turnover.

In the recent past, the Hon’ble Special Bench of the Chennai Tribunal in the case of ITO v. Sak Soft Limited reported in (2009) 313 ITR (AT) 353 (Chennai) [SB], had in its wisdom observed thus –

“53……… .we hold that for the purpose of applying the formula under sub-section (4) of
section 10B, the freight, telecom charges or insurance attributable to the delivery of articles or things or computer software outside India or the expenses, if any, incurred in foreign exchange in providing the technical services outside India are to be excluded both from the export turnover and from the total turnover, which are the numerator and the denominator respectively in the formula             ”

We are in total agreement with the observations of the earlier Bench as well as the Hon’ble special Bench of Chennai Tribunal on the issue. It is ordered accordingly.

IV. Bad debts:

At the out-set, we would like to point out that once the assessee had written off debts as irrecoverable in his/its accounts, the assessee need not be required to prove that they have become bad etc., Our view is in consonance with the various judicial pronouncements on the issue, chiefly –

(i) In the case of Lawlys Enterprises P. Ltd. v. CIT reported in (2009) 314 ITR 297 (Patna) the Hon’ble Patna High Court was pleased to observe that –

“The laws as amended with effect from April 1, 1989, permitted deduction of the amount of any bad debt or part thereof, which was written off as irrecoverable in the accounts of the assessee for the previous year. The assessee having written off the amount as irrecoverable in its accounts for the previous year was entitled to deduction of the amount of the bad debt. ….”

(ii) The Hon’ble High Court of Himachal Pradesh in the case of Suresh Gaggal v. ITO reported in (2009) 222 CTR (HP) 96 had held that –

“Once the assessee writes off the debt as irrecoverable, his claim for deduction cannot be rejected on the ground that the debt has not been established to have become irrecoverable. The aforesaid position is also supported by the amendment made to s.36(2) w.e.f. 1^st April, 1989 and any doubt, if remaining, has been clarified by Circular No.551 dated: 23^rd January, 1990.

(iii)  The Hon’ble Bombay High court, in the case of CIT v. Star Chemicals (Bombay) P. Ltd. reported in (2009) 313 ITR 126 (Bom), in its wisdom had held that ‘under section 36(1)(vii) of the Income-tax Act, 1961 and Circular No.551 dated January, 23, 1990 if the assessee had written off the debt as a bad debt that would satisfy the purpose of the section.”

(iv) The Hon’ble highest judiciary of the land in its recent verdict in the case of T.R.F. Ltd. v. CIT reported in (2010) 323 ITR 397 (SC), observed that –