DTAA and domestic tax law: temporary bridge costs allowed, but section 44C and disallowance rules still applied

The Tribunal remanded the valuation of work in progress for equipment supply and inland transportation because the figures and contractual nexus needed fresh verification. Expenditure on temporary bridges and bypass roads was allowed as revenue expenditure since the works were temporary, used only for contract execution, and gave no enduring capital advantage. On treaty interpretation, head office expenses remained subject to section 44C because the Japan DTAA did not expressly exclude domestic law, and the specified disallowance provisions under the Income-tax Act also continued to apply absent a contrary treaty provision.

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Issues: (i) Whether the valuation of work in progress relating to equipment supply should be restored for fresh consideration. (ii) Whether the valuation of work in progress relating to inland transportation should be restored for fresh consideration. (iii) Whether expenditure on temporary bridges and bypass roads was allowable as revenue expenditure. (iv) Whether head office expenses were deductible under the double taxation avoidance agreement with Japan without applying section 44C. (v) Whether the double taxation avoidance agreement excluded disallowances under the specified provisions of the Income-tax Act, 1961.

Issue (i): Whether the valuation of work in progress relating to equipment supply should be restored for fresh consideration.

Analysis: The assessee had not recognised work in progress for equipment supply, but had disputed only the valuation adopted by the Assessing Officer. The appellate authority had accepted a reduced valuation on the basis of charts and figures that were not properly tested by the Assessing Officer. The Tribunal held that the correctness of the material relied upon by the appellate authority required verification, including the contract terms and the direct payments made by the project owner to sub-contractors.

Conclusion: The issue was set aside and remanded to the appellate authority for fresh adjudication after giving both sides an opportunity.

Issue (ii): Whether the valuation of work in progress relating to inland transportation should be restored for fresh consideration.

Analysis: The addition on account of inland transportation involved the same broad question of unrecorded work in progress, but the appellate authority had relied on later-year figures without examining whether the later receipts were properly linked to the transportation cost of the year under appeal. The Tribunal found that the nature of the transport charges, the billing system, and the contractual nexus of receipts and expenditure needed fuller examination before the valuation could be accepted.

Conclusion: The issue was set aside and remanded to the appellate authority for fresh adjudication after proper opportunity to both sides.

Issue (iii): Whether expenditure on temporary bridges and bypass roads was allowable as revenue expenditure.

Analysis: The bridges and bypass roads were constructed only to transport machinery and material to the work site, were of temporary nature, and were required to be demolished after use. The assessee acquired no enduring asset or advantage of a capital nature. The expenditure was incurred out of business necessity for execution of the contract and was supported by the factual findings recorded by the appellate authority.

Conclusion: The expenditure was held allowable as revenue expenditure and the Revenue's challenge failed.

Issue (iv): Whether head office expenses were deductible under the double taxation avoidance agreement with Japan without applying section 44C.

Analysis: The relevant treaty provision allowed deduction of expenses reasonably allocable to the permanent establishment, but did not expressly exclude the operation of the domestic law. Reading the treaty with the provision preserving domestic law except where the agreement provided otherwise, the Tribunal held that section 44C continued to govern the allowability of head office expenditure, subject only to any specific treaty override. The appellate authority's direction to bypass section 44C was therefore unsustainable.

Conclusion: The Revenue succeeded on this issue and the appellate authority's relief was reversed.

Issue (v): Whether the double taxation avoidance agreement excluded disallowances under the specified provisions of the Income-tax Act, 1961.

Analysis: The treaty clause on deductibility of expenses did not expressly abrogate the domestic limitations contained in the Income-tax Act, 1961. The Tribunal held that, in the absence of a contrary treaty provision, the domestic law continued to apply, and the retrospective amendment to section 90 did not render the specified disallowance provisions inapplicable.

Conclusion: The appellate authority was wrong in holding that the specified disallowances could not be made; the Revenue's ground was allowed.

Final Conclusion: The additions relating to work in progress were sent back for fresh consideration, the claim for temporary bridge expenditure was sustained, the treaty-based allowance of head office expenses was upheld, and the view that the treaty barred the specified domestic disallowances was rejected.

Ratio Decidendi: A double taxation avoidance agreement applies in place of domestic law only to the extent that it contains a contrary and more beneficial provision; absent such express inconsistency, the domestic provisions governing deduction and disallowance remain operative.

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