Advocate Akhilesh Kumar Sah
1. While allowing deduction under section 10B, the deduction is to be allowed to eligible undertaking, even the income being in negative.
2. Cutting and polishing of precious and semi precious stones constitutes manufacturing as contemplated in section 10B,
3. No fresh fact or fresh material which formed the reasons to believe for reopening of the assessment except the order passed by the AO, there being no other reason given by the AO for re-opening the assessment, notice issued under section 148 of the Act quashed.
Recently in , Swarovski India Pvt. Ltd. vs. DCIT [W.P.(C) 5807/2014, decided on 30.08.2017],the Petitioner was engaged in the business of manufacturing, production of imitation pearls as also import and sale of crystals and crystal related items in India. It had two units, one in Pune and another in Delhi. According to the Petitioner, the Pune unit was a 100% a Export Oriented Unit (“EOU”), set up for coating of raw beads and producing commercially usable goods and the Delhi unit had been set up for importing and trading/sale of crystal and crystal related products.
The Petitioner had filed its return for AY 2007-08 declaring a loss of Rs.5,36,96,344, after claiming benefit of Rs.4,67,89,966 as deduction under Section 10B of the Income Tax Act, 1961 (herein referred in short as “the Act”) in respect of the Pune unit. The Petitioner was issued notice by the Assessing Officer (‘AO’) under Section 143 (2) of the Act. The AO also made a reference of the Petitioner’s case to the Transfer Pricing Officer (‘TPO’) under Section 92 CA of the Act. Post the TPO’s report, a draft order under Section 144 C of the Act was passed by the AO. Thereafter, the final assessment order under Section 143 (3) of the Act came to be passed by the AO on 28.01.2011. The further proceedings arising from the said assessment order were currently pending before the Income Tax Appellate Tribunal (‘ITAT’). It is relevant to point out that in the draft assessment order, passed under Section 144 C of the Act, the Petitioner was given the benefit of the deduction under Section 10B of the Act.
On 25.03.2014, a notice under Section 148 of the Act came to be issued to the Assessee by the AO. The ‘reasons to believe’ as recorded by the AO, and as communicated to the Assessee upon request, were with respect to the deduction of Rs.4,67,89,966/- under Section 10B of the Act.
The Learned Judges of the Delhi High Court after analyzing the facts and circumstances of the case, rival submissions, material on record, the legal position, observed that in the present case, there is no fresh fact or fresh material which forms the reasons to believe for reopening of the assessment except the order passed by the AO for the subsequent AY 2008-09. The notice in question contains three reasons on the basis of which the AO proposes to re-assess the taxable income:
(i) Reason no. 1 – that the gross total income of the Assessee is in the negative and hence exemption under Section 10B of the Act cannot be granted separately for the Pune unit.
(ii) Reason no. 2 – that the Assessee is not bringing any sale proceeds into India but only providing manufacturing services to its AEs and receiving charges on a cost plus basis.
(ii) Reason no. 3 – that the AO in the subsequent AY 2008-09 has disallowed the exemption under Section 10B of the Act.
The learned Judges of Delhi High Court considered each of the reasons. Insofar as the first reason is concerned, it is the admitted position that during the assessment proceedings a questionnaire dated 27.10.2010 had been issued to the Assessee wherein the Assessee had provided all the details relating to income, the exempted income as also background of the business and revenue streams of the Assessee. In its computation of income filed with the AO, the Assessee had disclosed the position of losses under the Delhi unit and profits of the Pune unit. The detailed bifurcation of the returned and assessed brought forward losses, between the Pune unit and Delhi unit for the previous AY, were also disclosed. The AO had, in the order dated 28.01. 2011 under Section 143 (3) of the Act, assessed the Assessee at an income of Rs.6,85,24,800 and hence the first reason of the income being negative is plainly contrary to the record.
In any event, while allowing deduction under Section 10B, the deduction is to be qua an eligible undertaking i.e. in this case the Pune unit. This is settled by the Supreme Court in no uncertain terms in CIT vs. Yokogawa India Ltd.,  391 ITR 274 (SC) wherein the Supreme Court has held as under:
“…16. From a reading of the relevant provisions of Section 10A it is more than clear to us that the deductions contemplated therein is qua the eligible undertaking of an Assessee standing on its own and without reference to the other eligible or non-eligible units or undertakings of the Assessee. The benefit of deduction is given by the Act to the individual undertaking and resultantly flows to the Assessee….”
The Pune unit being an export unit is an eligible undertaking and is entitled to the benefit under Section 10B. All the material relating to the Pune and Delhi units and their respective businesses, having been filed with the AO, there being nothing new, this reason is not tenable.
The second reason for re-opening the assessment – that the Assessee is not bringing sale proceeds into India and only providing manufacturing services to its AEs on a cost plus basis. A perusal of the Form 3CEB specially Annexure-II (Particulars in respect of transactions in Tangible Property International Transaction (s) in respect of purchase of raw material, consumables or any other supplies for assembling/processing/manufacturing of goods/articles from associated enterprise) and Annexure-V (Particulars in respect of providing of Services International Transaction (s) in respect of services such as financial, administrative, technical commercial services, etc.) reveals that the Assessee has earned revenues from manufacturing of goods/articles. The reasons recorded seem to suggest that no sale proceeds are brought to India and that the Assessee is only providing the manufacturing services to its AEs and receiving the charges on a cost plus basis. This is not correct as per the record.
It appears that the AO has completely missed the fact that this issue had been examined in detail in the Transfer Pricing Report prepared by the TPO, which was considered for the purpose of computing the Assessee’s income, when the order under Section 143 (3) of the Act was passed. After examining the various documents on record, the TPO had recommended an enhancement of the income by an amount of Rs.9,57,56,877 while computing the total income. This recommendation of the TPO had been accepted by the AO in the order passed under Section 143 (3) of the Act. Moreover, the audited financial statement of the Assessee clearly reflects the purchases made by the Assessee for its Pune unit as is also reflected in the Form 3CEB. In respect of the transactions entered into by the Assessee with its AEs and the relationship between the Assessee and its AEs, it was discussed in detail that the Assessee has purchased the goods including chemicals, packing material, twinklet material, touchstone material etc. and has sold the same after duly manufacturing the final products. The impugned notice has misconstrued the term manufacturing, inasmuch as, for any process to constitute manufacturing, it is not essential that the entity ought to be involved in manufacturing of the finished article alone.
It is settled law that any process which renders the commodity or article fit for use constitutes manufacture. The Delhi High Court in CIT vs. Lovlesh Jain [ITA No.1223/2011], after discussing the entire law on the subject held:
“…10. The word “manufacture” can be given, both a wider as well as a narrower connotation. In wider sense, it simply means to make, fabricate or bring into existence an article or product either by physical labour or by mechanical power. Given a narrower connotation it means transforming of the raw material into a commercial product/commodity or finished product which has a new, separate entity but this does not necessarily mean that the material by which the commodity is manufactured must lose its identity. The latter connotation has been accepted and applied with some moderation/clarification in several decisions, keeping in view the context in which the word
“manufacture” has been used.
If an operation or process that renders a commodity or article fit for use, which it is otherwise not fit, the change/process falls within the meaning of the word “manufacture”….”
It is not in dispute that Explanation 4 to Section 10B of the Act specifically describes `the cutting and polishing of precious and semi precious stones’ as manufacture. The Assessee claims to be carrying out the said processes. The Assessee performs cutting and polishing beads and crystals at different stage of manufacturing processes and earns convertible foreign exchange on the sale of the same to the AEs. This process, clearly, constitutes manufacturing as contemplated under Section 10Bof the Act.
The Assessee’s Pune unit is a 100 % EOU carrying on manufacturing activities. The AO, during the assessment proceedings, had accepted this position and had assessed the income of the Assessee at Rs.6,85,24,800 after allowing the benefit under Section 10B of the Act. There was no reason for the AO to seek re-assessment on this ground.
Coming to the third reason for reopening the assessment, the AO had relied on the assessment order passed in the AY 2008-09 and AY 2009-10 as one of the grounds for issuing notice for re-assessment under Section 148 of the Act. The main plank of the arguments of AR is that the fundamental basis of the reasons to believe itself does not subsist, inasmuch as, in the AY 2008-09 the AO had disallowed the deduction under Section 10B for the Pune unit but in appeal, the CIT(A) granted the benefit of deduction under Section 10B of the Act.
This order of the CIT (A) has been challenged by the Revenue before the ITAT but the exemption granted under Section 10B of the Act is not under challenge therein.
The Delhi High Court, therefore, agrees with the submission of AR that the basis for the reasons to believe do not survive any more, as held by this Court in A. T. Kearney India Ltd. vs. ITO [371 ITR 179 (Del)], Silver Oak Laboratories Pvt. Ltd. & Anr. vs. DCIT [W.P.(C) No.17719-20/2006 ] and in Ultra Marine Air Aids (P) Ltd. vs. IAC [322 ITR 273 (Del)], the reopening does not survive. The observation by Delhi High Court in Ultra Marine (supra) is apt and reads as under:
“…As the notification- has been quashed and, the same has not been assailed by the Revenue Department, the reasons for reopening the assessment under section 147/148 of the Income Tax Act, 1961, do not survive. The very basis and foundation for issue of reassessment notice have ceased to exist. Consequently, the writ petition is allowed…”
In Silver Oak (supra), Delhi High Court has held as under:-
“…We have heard the counsel for the parties. It is apparent that the reasons recorded do not contain any specific allegation with regard to the year in question, i.e., the assessment year 1999-2000. The sole and entire basis of re-opening the assessment is the additions made in respect of the assessment years 1998-99 and 2001-02.
There is no other reason given by the AO for re-opening the assessment. Since the tribunal has already deleted the additions in respect of the assessment years 1998-99 and 2001-02, the very basis for continuing any further with the re assessment proceedings does not survive any more. We have also indicated above that there is no specific allegation with regard to the assessment year 1999-2000 regarding suppression of sale figures….”
The Learned judges of the Delhi HC held that all the three reasons for re-opening the assessment under Sections 147/148 of the Act do not stand. Also the Learned judges held that the Pune unit of the Assessee being an eligible undertaking by itself, as held by the Supreme Court in Yokogawa (supra), is entitled to the benefit of Section 10B of the Act. It is also held that the activities conducted by the Pune unit constitute `manufacture’ and in the subsequent year, on a similar set of facts, the issue of benefit under Section 10B having attained finality, the impugned order deserves to be quashed. Accordingly, notice dated 25.03.2014 issued under Section 148 of the Act is quashed and the order dated 11.06.2014 passed by the Respondent, disposing of the objections of the Assessee for AY 2007-08, is set aside.