Kashi Exports Pvt. Ltd. vs Deputy Commissioner of Income Tax

K.S. Jhaveri, J.—This is an appeal by the appellant-assessee, seeking to assail the order of the learned ITAT, Ahmedabad (for short, ''the Tribunal''), rendered in ITA No. 249/Ahd/2002 for the A.Y. 1997-98, whereby, the Tribunal dismissed the appeal filed by the assessee.

The brief facts of the case are that the assessee filed its return of income on 30.11.1997, declaring its total income at Rs. 9,11,630/-. Pursuant thereto, the case of the assessee came to be examined and it was issued notices under Sections 143(2) and 142(1) of the Income Tax Act, 1961 (for short, ''the Act''). Subsequently, the concerned AO made certain additions/disallowances and assessed the income of the assessee at Rs. 31,34,611/-. The assessee, hence, approached the learned CIT(A) by way of an appeal and the CIT(A) dismissed the same. Being aggrieved with the same, the assessee carried the matter before the Tribunal, wherein, the Tribunal passed the impugned order. Hence, the present appeal.

At the time of admitting the present appeal, this Court framed the following questions of law;

"1. Whether, in the facts and circumstances of the case, the ITAT was right in law in upholding the action of the assessing officer in disallowing the entire amount of labour charges, amounting to Rs. 22,22,976/-, paid to the female relatives of the directors of the appellant assessee u/s. 40A(2)(b) of the Act?

Whether, in the facts and circumstances of the case, the ITAT was right in law in not appreciating that the entire amount of labour charges paid to the female relatives of the directors of the appellant assessee could not have been disallowed as the appellant had already shown corresponding receipts as and by way of job charges for polishing the same diamonds and therefore it cannot be presumed that those diamonds got polished without incurring any labour charges at all?"

At the outset, Mr. Soparkar, learned Advocate for the appellant, invited our attention to a recent decision of this Court in Tax Appeal No. 1058 of 2006, Dated: 26.11.2014, in the case of "TAKTAWALA GLASS IND. PVT. LTD. VS. ACIT", wherein, this Court, under similar circumstances, answered the question of law raised, therein, in favour of the assessee and against the Revenue. While disposing of the Tax Appeal No. 1058 of 2006, this Court placed reliance on the decision of this Court in "CIT III VS. AHKOK J. PATEL", [2014] 43 Taxmann.com 227 (Gujarat), wherein, in Para-8 it is observed as under;

"8. That the assessee who is in the business of transportation claimed disallowance with respect to motor bus rent paid to various persons for transportation contracts. The AO was of the view that the assessee has failed to produce any comparative market price and that the nature of work carried out by the aforesaid persons is general in nature. The AO disallowed Rs. 15,49,163/- for AY 2005-06 and Rs. 14,97,668/- for AY 2006-07 out of the total payment of bus rent under section 40A(2)(b). With respect to AY 2006-07 AO also made disallowance of Rs. 93,25,426 made under section 40(a)(ia) of the Act by holding that the amendment carried out by Finance Act, 2010 can be held to be retrospective from AY 2005-06.

Now, so far as the disallowance made under section 40A(2)(b) of the Act on the ground of motor bus rent is concerned, it appears that the AO disallowed 5% of the total payments towards motor bus rent by observing that the assessee has failed to reconcile the difference in payments as per tax audit report and as submitted during the assessment proceedings and had also not produced any comparative prices. The learned CIT(A) deleted the said disallowances by observing that the AO has not made out any case for excessive or unreasonable payments to the related purpose towards the motor bus rent. The learned CIT(A) also observed that no comparative prices for similar transport services was cited by the AO and therefore, was not justified in making ad hoc disallowance of 5% under section 40A(2)(b) of the Act and therefore, the CIT(A) as such rightly deleted the disallowances made under section 40A(2)(b) of the Act. Considering the provisions of Section 40A(2)(b) of the Act and the Evidence Act, if the AO was of the opinion that the payment for which disallowance is claimed, is excessive or unreasonable. In that case, it was for the AO to assess fair market price and give comparative instances for payment for similar transport service. In absence of such comparative cases brought on record, as rightly observed by the ITAT it was not open for the AO to make disallowance under section 40A(2)(b) of the Act. While deleting disallowance made by the AO under section 40A(2)(b) of the Act, the learned ITAT has observed and held in para 7 as under:

It is plain on principle that, so far as disallowance under Section 40A(2) for payment being excessive or unreasonable can only be made when the payment is made to the specified persons under clause 40A(2)(b) and the Assessing Officer is of the opinion that such expenditure is excessive or unreasonable having regard to the fair market price of the goods, services or facilities for which the payment is made. The opinion of the Assessing Officer for the expenditure being excessive or unreasonable is to be formed vis-a-vis fair market price of such goods services or facilities. It is thus sine qua non for making a disallowance under section 40(A)(2) that the Assessing Officer has to ascertain the fair market price of such goods, services or facilities, and then make a disallowance for the amount which is in excess of fair market value of such goods, services or facilities. Unless there is a categorical finding about the fair market value and the assessee has an opportunity to be heard on Assessing Officers finding about such fair market value, there cannot be an occasion to make a disallowance under section 40A(2). The very scheme of Section 40A(2) does not envisage an ad hoc disallowance as has been made in the present case. For this short reason alone, the impugned deletion of disallowance must stand confirmed. There is, however, one more reason for doing so. As evident from a plain reading of the assessment order, the Assessing Officer, had called upon the assessee to demonstrate that the payment made by the assessee to the specified persons is not unreasonable or excessive, and it is thus failure of the assessee which has resulted in disallowance under section 40A(2). However, proving a negative, as the assessee has been called upon to do in this case, is an impossible onus to perform. In any event, this onus is on the Assessing Officer and the AO has failed to discharge the said onus. For this reason also, the disallowance is unsustainable in law. As regards the discrepancy in the figures of the tax audit report and the assessee, neither such a situation can be a reason enough to make a disallowance under section 40A(2) nor the onus of explaining such a variation is on the assessee. A tax auditor is an independent professional and any errors in his report cannot be put to assesses disadvantage. In view of these discussions, as also bearing in mind entirety of the case, we approve the conclusions arrived at by the CIT(A) and decline to interfere in the matter.

We are in complete agreement with the view taken by the ITAT and the observations made by the learned ITAT while deleting disallowances made by the AO under section 40A(2)(b) of the Act on motor bus rent. No error has been committed by the learned ITAT which calls for interference of this Court. No question of law much less any substantial question of law arises."

Further, this Court also took into consideration, another decision of this Court in CIT-IV VS. SARJAN REALITIES LTD. [2014] 50 Taxmann.com 52 (Gujarat), wherein, in Para-4 it is observed as under;

Heard Shri Varun Patel, learned advocate for the revenue. Now so far as question No. 2(a) with respect to disallowance of Rs. 1,22,13,280/- made by the AO u/s. 40A(2)(b) of the Act being excessive interest paid to associates is concerned, it is required to be noted that it is the contention on behalf of the revenue that as such the company paid the interest at different rates from different persons/companies and therefore, the same was rightly disallowed under Section 40A(2)(b) of the Act. However, it is required to be noted that except aforesaid there was no basis for the AO to come to the conclusion that amount of interest paid at the rate of 12% would relate to the concerned parties was otherwise excessive and/or unreasonable. It is not the case on behalf of the revenue that considering the market rate the aforesaid interest charged at the rate of 12% can be said to be excessive and/or unreasonable. Under the circumstances, solely because the assessee for whatever reasons/consideration charged the interest at different rates by that itself cannot be a ground to come to the conclusion that charging of interest at higher rate than charged from other party was excessive and/or unreasonable. Under the circumstances, both the learned CIT(A) as well as learned ITAT have rightly deleted the disallowance of Rs. Rs. 1,22,13,280/- made by the AO u/s. 40A(2)(b) of the Act. We are in complete agreement with the view taken by the learned Tribunal. Under the circumstances, question No. 2(a) is answered against the revenue."

Thus, from the above it is clear that disallowance under Section 40A(2) for payment being excessive or unreasonable can only be made when the payment is made to the specified persons under clause 40A(2)(b) and when Assessing Officer is of the opinion that such expenditure is excessive or unreasonable having regard to the fair market price of the goods, services or facilities for which the payment is made. In the instant case, admittedly, the concerned AO has not decided on what will be the fair market price of the goods, services or facilities for coming to the conclusion that the payment made by the assessee, herein, was excessive. Even, the learned CIT(A) has also observed that the Assessing Officer''s mistake has been that the AO has not only hazarded a guess on how the adjustment has been made, but, the AO has actually proceeded to work out suppressed income on the basis of his guess assuming it to be the real reason. In other words, the AO proceeded only on the basis of assumptions, without there being any material in support, thereof, and rejected the explanations given by the assessee, which, in turn wrongly confirmed by the CIT(A) and the Tribunal.

Mr. Mehta, learned Advocate for the Respondent-Revenue, does not dispute the aforesaid position of law.

So far as firs question is concerned, the factual scenario also permits us to held that provisions of Section 40A(2)(b) will permit the assessee allowance of labour charges paid to the female relatives of the Director of the assessee - Company and that on facts and seeing that the law declared is in favour of the assessee, the disallowance could not have been made in the facts of the case. We held that the interpretation of Section 40A(2)(b) would not permit disallowance when there was no finding the effect that the labour charges paid were in excess of the fair market charges and that the authorities below disallowed the labour charges without ascertaining the fair market value of the same.

So far as second question is concerned, since, it appears that the Tribunal did not appreciate corresponding receipts were already shown, and therefore, same is also answered in favour of the assessee.

In view of the above discussion and in view of the decisions of this Court, as referred to herein above, we are of the opinion that the present appeal deserves to be allowed.

In the result, this appeal is ALLOWED. We held that Tribunal was not justified in upholding the action of the assessing officer in disallowing the entire amount of labour charges, amounting to Rs. 22,22,976/-, paid to the female relatives of the directors of the appellant assessee u/s. 40A(2)(b) of the Act and that the entire amount of labour charges paid to the female relatives of the directors of the appellant assessee could not have been disallowed as the appellant had already shown corresponding receipts as and by way of job charges for polishing the same diamonds and therefore it cannot be presumed that those diamonds got polished without incurring any labour charges at all. The questions raised in this appeal are answered in FAVOUR of the appellant-assessee and AGAINST the respondent-Revenue, accordingly.