1999 (4) TMI 1 - SC - Income Tax

Prawn exporter cannot include import entitlement sale receipts in section 80HH income computation for tax relief

Commissioner of Income-Tax Versus Sterling Foods

The SC held that an assessee-firm engaged in processing and exporting prawns and seafood could not include receipts from sale of import entitlements in ... Export Promotion Scheme - profits and gains derived from an industrial undertaking - Whether, the Tribunal was justified in law in holding that the receipt from the sale of import entitlements could not be included in the income of the assessee for the purpose of computing the relief under Section 80HH of the Income-tax Act, 1961? - HELD THAT:- To analyse the provision so far as it is relevant here, if the gross total income of an assessee includes any profits and gains derived from an industrial undertaking, the assessee is entitled to be allowed, in the computation of his total income, a deduction from the profits and gains derived from the industrial undertaking of an amount equal to 20% thereof. We do not think that the source of the import entitlements can be said to be the industrial undertaking of the assessee. The source of the import entitlements can, in the circumstances, only be said to be the Export Promotion Scheme of the Central Govt. where under the export entitlements become available. There must be for the application of the words 'derived from', a direct nexus between the profits and gains and the industrial undertaking. In the instant case the nexus is not direct but only incidental. The industrial undertaking exports processed sea food. By reason of such export, the Export Promotion Scheme applies, Thereunder, the assessee is entitled to import entitlements, which it can sell. The sale consideration therefrom cannot, in our view, be held to constitute a profit and gain derived from the assessees' industrial undertaking. In the result, the appeals are allowed. The judgment under appeal is set aside. 1. The primary legal issue considered by the Court was whether the receipt from the sale of import entitlements earned under an Export Promotion Scheme could be included as profits and gains 'derived from' the industrial undertaking of the assessee for the purposes of claiming deduction under Section 80HH of the Income-tax Act, 1961.2. The Court also examined the relevance of amendments made to Section 28 of the Income-tax Act, 1961, specifically clauses (iiia) and (iiib), which retrospectively included profits on sale of import licences and cash assistance received under Government export schemes as income from business or profession.3. Another issue was the binding effect of an earlier Division Bench decision of the Karnataka High Court which had ruled against the assessee on the same question for an earlier assessment year, and whether the later Division Bench was justified in departing from that precedent on the basis of the amendments to Section 28.4. The Court also considered the competing judicial interpretations, including a favorable ruling by the Madras High Court which held that profits from sale of import entitlements were directly referable to the export business and thus derived from the industrial undertaking.5. The Court further analyzed the meaning of the phrase 'derived from' in the context of income tax law, referencing authoritative dictionary definitions and precedent judgments to clarify the nature of the nexus required between the source of profits and the industrial undertaking.Issue-wise Detailed Analysis:Issue 1: Whether the sale proceeds from import entitlements are profits and gains 'derived from' the industrial undertaking for the purpose of Section 80HH deduction.The relevant legal framework is Section 80HH of the Income-tax Act, which grants a 20% deduction on profits and gains derived from an industrial undertaking established in backward areas. The key phrase is 'derived from,' which the Court interpreted by reference to dictionary meanings and precedent.The Court relied heavily on the earlier Karnataka High Court Division Bench decision and the Supreme Court's ruling in Cambay Electric Supply Industrial Co. Ltd. v. CIT, which distinguished between 'attributable to' and 'derived from,' holding that 'derived from' requires the industrial undertaking itself to be the direct source of profits.The Court noted that the import entitlements were granted under a Government Export Promotion Scheme and were not generated by the industrial undertaking itself. The entitlement arose due to export performance but was conferred by the Central Government's scheme, making the source of income the scheme rather than the industrial undertaking.Applying this legal principle to the facts, the Court found that the profits from sale of import entitlements were incidental to, but not directly derived from, the industrial undertaking. The industrial undertaking's business was processing and exporting seafood, while the import entitlements were a government-conferred benefit that could be sold independently.The Court rejected the argument that a commercial connection or proximity between the industrial undertaking and the profits was sufficient. It emphasized that the industrial undertaking must be the direct source of the profits for Section 80HH relief.The competing argument, supported by the Madras High Court judgment, was that the profits were 'directly referable' to the export business and thus derived from the industrial undertaking. The Court distinguished this by underscoring the necessity of a direct nexus rather than a mere causal or incidental link.Issue 2: The effect of amendments to Section 28 of the Income-tax Act on the question.The amendments to Section 28 inserted clauses (iiia) and (iiib), retrospectively from 1962 and 1967 respectively, which included profits from sale of import licences and cash assistance under government export schemes as income from business or profession.The later Division Bench of the Karnataka High Court relied on these amendments to hold that income from sale of import entitlements was assessable as business income and thus eligible for deduction under Section 80HH.The Supreme Court clarified that these amendments concern the scope of income chargeable to tax under Section 28 and do not affect the interpretation of 'profits and gains derived from' an industrial undertaking for the purpose of Section 80HH. Therefore, the amendments had no bearing on the question of eligibility for deduction under Section 80HH.The Court held that the later Division Bench erred in relying on these amendments to depart from the earlier binding precedent.Issue 3: Binding nature of the earlier High Court decision and the assessee's challenge to it.The earlier Division Bench of the Karnataka High Court had ruled against the assessee on the same question for an earlier assessment year. Ordinarily, the later Division Bench would be bound by this precedent.The later Division Bench declined to follow the earlier decision, relying on the amendments to Section 28. The Supreme Court found this approach incorrect, holding that the amendments did not affect the legal principle established in the earlier decision.The Court also noted that since it upheld the correctness of the earlier decision, it was unnecessary to consider whether the assessee could challenge a binding precedent on the ground of it being erroneous for a different assessment year.Issue 4: Interpretation of 'derived from' in tax law context.The Court referred to the judgment in National Organic Chemical Industries Ltd. v. Collector of Central Excise, which elucidated the ordinary meaning of 'derived from' as 'get to trace from a source; arise from, originate in.' The Court emphasized that the source of profits must be the industrial undertaking itself.Applying this reasoning, the Court found that the import entitlements were not directly derived from the industrial undertaking but from the Government's Export Promotion Scheme, which was an independent source.Significant Holdings:'The import entitlements that the assessee had earned were awarded by the Central Govt. under the scheme to encourage exports. The source referable to the profits and gains arising out of the sale proceeds of the import entitlement was, therefore, the scheme of the Central Govt. and not the industrial undertaking of the assessee.''There must be for the application of the words 'derived from', a direct nexus between the profits and gains and the industrial undertaking. In the instant case the nexus is not direct but only incidental.''The amendments made to Section 28 retrospectively have no relevance to the question whether the income from sale of import entitlements is profits and gains derived from the industrial undertaking for the purpose of Section 80HH.''To obtain the benefit of Section 80HH, the assessee had to establish that the profits and gains were derived from its industrial undertaking and it was not sufficient that a commercial connection was established between the profits earned and the industrial undertaking.'Consequently, the Court allowed the appeals filed by the Revenue, set aside the judgment under appeal, and answered the question in favor of the Revenue, holding that the sale proceeds from import entitlements do not qualify as profits and gains derived from the industrial undertaking and thus are not eligible for deduction under Section 80HH.