Revenue cannot ignore approval granted by prescribed authority to deny deduction

Issue- Whether the Income Tax Appellate Tribunal has substantially erred on facts and in law in holding that once the prescribed authority grants approval under sub­rule (2) of rule 18D of the Income Tax Rules, 1962, the revenue cannot deny deduction under section 80IB read with rules 18D and 18DA and thereby considering such grant of approval to be the sole requirement for granting deduction under section 80IB(8A)(ii) of the Act?

Held by High Court

Statutory scheme envisages the prescribed authority as a body which can minutely examine all these highly technical and scientific requirements in case of a company. We may recall that the prescribed authority is the Department of Scientific and Industrial Research, Ministry of Science and Technology, Government of India. It has experts at its command in the field of scientific research to advise it on various extremely complex scientific issues which may arise while granting, extending or recalling the approval. In this context, the requirements contained in clauses (c) to (e) of sub­rule(1) of rule 18DA would also have to be necessarily examined by the said authority. When these clauses refer to requirement of adequate infrastructure such as laboratory facilities, well formulated research and development programme and engagement of the company exclusively in scientific research and development activities, the same would be within the realm of the said prescribed authority.

Under the circumstances, once such authority grants approval and such approval holds the field, it would not be open for the Assessing Officer or any other revenue authority to go behind such approval certificate and reexamine for himself, the fulfillment of the conditions contained in sub­rule(1) of rule 18DA. These conditions are prescribed in terms of clause no. (iv) of sub­section(8A) of section 80­IB of the Act. The Commissioner was therefore, completely in error in observing that even though the assessee company had valid approval issued by the prescribed authority, the Assessing Officer still had to examine whether such company had fulfilled the conditions referred to in clause(iv), as such other conditions as may be prescribed, reference to which we find in rule 18DA. Any other view would create conflict of decision making process. Even counsel for the Revenue could not dispute that many of these requirements prescribed under rule 18DA are to be examined by the prescribed authority. If once the prescribed authority examines such conditions and upon being satisfied that the conditions are fulfilled, grants approval, can the Assessing Officer take a different view? The answer obviously has to be in the negative. First and foremost, the prescribed authority is a specialised body having expertise in the field of scientific research and development. The requirements are extremely complex scientific requirements and have therefore, been rightly placed in the hands of an expert body to judge. Secondly, there is no reason why once an authority which is prescribed under the Rules for a specific purpose has been invested with statutory functions, the Assessing Officer should be allowed to overrule the decision of the said body. Thirdly, there are multiple indications within the Rules themselves. We may recall, under sub­rule(2) of rule 18D, extension of approval once granted is subject to satisfactory performance of the company, to be judged on periodic review. Further, sub­rule(3) of Rule 18DA gives wide powers to the prescribed authority to withdraw the approval if it is found that the same was to avoid payment of taxes by its group companies or companies related to its directors or majority of its shareholders or that any provisions of the Act or the Rules have been violated. Thus once again the task of judging whether the provisions of the Act or the Rules have been violated or not, has entrusted to the prescribed authority with matching powers for withdrawal of the approval, if the authority is satisfied about such breach.

 The word ‘may’ used while empowering the prescribed authority, according to the counsel for the Revenue, would be of some significance. He contended that even if there has been a violation of the Acts and the Rules, the prescribed authority is not duty bound to withdraw the approval since the legislature has used the word ‘may’ and not ‘shall’. According to him therefore, it would be open to the Assessing Officer to disallow the deduction on the ground of breach of the provisions of the Act and the Rules even if the prescribed authority has not withdrawn the approval on that basis. To our mind, this is not the correct position. Sub­rule(3) is an enabling power empowering the prescribed authority to withdraw the approval, if it finds violation of provisions of the Act or the Rules. However, the Act and the Rules make various provisions, breach of many of them may be purely technical. It is not necessary therefore, in every such breach, irrespective of the nature of the breach, the prescribed authority must withdraw the approval, the moment it is pointed out that there has been a violation of any other provisions of the Act or the Rules. It is possibly therefore, that the legislature has while clothing the prescribed authority with sufficient powers to withdraw the approval, used the word ‘may’ rather than ‘shall’ giving discretion in appropriate cases to the authority not to withdraw the approval. This however, would not mean that the Assessing Officer would have any role in the context of verifying requirements relatable to grant, extend or withdraw the approval. These issues solely rest within the jurisdiction of the prescribed authority.

Judged from such angle, in our opinion, once the approval is granted by the prescribed authority and such approval is valid, it would no longer be open for the Assessing Officer to verify the satisfaction of the conditions prescribed under rule 18DA in order to refuse deduction under sub­section(8A) of section 80­IB of the Act. This however, does not mean that other issues relevant to the claim of deduction by the assessee would be taken away from the jurisdiction of the Assessing Officer. We do not share the anxiety of the counsel for the Revenue that interpretation that we have adopted would divest the Assessing Officer from examining any claim of deduction under the said provisions and grant deduction mechanically without verifying the claim. For example, in this very case, the Assessing Officer had doubt about the sample storage income being part of the income from eligible business. After hearing the assessee, he disallowed the deduction holding that the same does not form part of the income of the assessee’s business of scientific research and development.

Before closing, we may refer to the decision cited by Shri Bhatt for the Revenue. In case of Southern Technologies Ltd.(supra), the issue was regarding the taxability of income ignoring the provisions contained in the Companies Act concerning non banking financial company which permitted adjustment of a provision for possible diminution of value of assets of the company allowing the company to show only the net figure in the balance­ sheet.

In the result, while answering the question in favour of the assessee, we clarify that the power of the Assessing Officer to verify the claim of deduction is not taken away. He can certainly verify the accounts and refuse deduction which does not form part of section 80­IB(8A) and the income which does not arise out of the eligible business.

He however, cannot ignore the approval granted by the prescribed authority and hold that the prescribed conditions are not fulfilled by the assessee.