TaxTMI 
TaxTMI 
2025 (3) TMI 1153
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.... the Ld. CIT(A) partially confirming the disallowance made by the AO out of the deduction claimed in respect of the Research & Development expenditure incurred at the approved in-house R&D facility u/s 35(2AB) of the Act. 4.1 The facts as discernible from the records are that, the assessee had incurred scientific research expenditure, both revenue and capital, at its approved in-house R&D facility. According to the AO, the assessee had claimed weighted deduction of Rs. 731,68,77,636/- being 200% of the aggregate expenditure u/s 35(2AB) of the Act. The AO in the course of assessment, had required the assessee to submit the Form 3CL issued by the DSIR, to which the assessee is noted to have submitted that, the DSIR was yet to issue Form 3CL. According to the assessee however, the non-availability of Form 3CL would not prevent it from claiming weighted deduction u/s 35(2AB) of the Act. After considering the submissions of the assessee, the AO is noted to have held that, in absence of Form 3CL, the assessee cannot claim weighted deduction u/s 35(2AB) of the Act. 4.2 The AO thereafter observed that, the assessee had incurred revenue expenditure of Rs. 387,57,96,408/-, in relation ....
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....in such Form as prescribed. Rule 6(7A)(b) of the Income-tax Rules, 1962 as amended by the IT(10th Amendment) Rules, 2016 applicable with effect from 01.07.2016 provides that, the approval of expenditure under 35(2AB) of the Act shall be subject to the condition that, the prescribed authority, i.e. DSIR, shall submit its report in Form 3CL to the PCCIT or CCIT. The relevant Rule is reproduced hereunder: "(7A) Approval of expenditure incurred on in-house research and development facility by a company under sub-section (2AB) of section 35 shall be subject to the following conditions, namely :- (a) The facility should not relate purely to market research, sales promotion, quality control, testing, commercial production, style changes, routine data collection or activities of a like nature; (b) The prescribed authority shall furnish electronically its report,- (i) in relation to the approval of in-house research and development facility in Part A of Form No. 3CL; (ii) quantifying the expenditure incurred on in-house research and development facility by the company during the previous year and eligible for weighted deduction under sub-section ....
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....the Act, provides that any expenditure of a capital nature on scientific research, related to the business of the assessee shall be admissible as deduction in terms of provision of Section 35(2) of the Act. It is further noted that sub-clause (ia) of Section 35(2) of the Act provides that, where the capital expenditure has been incurred after 31.03.1967, the entire value of capital expenditure is eligible for deduction from the profits of the business. Hence, in our considered view therefore, an assessee is entitled for normal deduction i.e. 100% of the capital expenditure incurred at its R&D facility in terms of Section 35(1)(iv) read with Section 35(2)(ia) of the Act, irrespective whether such capital expenditure is eligible for weighted deduction u/s 35(2AB) of the Act or not. 4.7 Our view finds support from the decision of the Hon'ble jurisdictional Madras High Court in the case of CIT vs Rajapalayam Mills Ltd. (265 Taxman 209). In the decided case, the assessee had claimed deduction u/s 35(2AB) of the Act in respect of the expenditure, both revenue and capital, incurred at its R&D facility. Since the assessee was unable to fulfill the conditions prescribed in Section 35(2AB....
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....5(1) provides for allowance at normal rate i.e., actual expenditure whereas Sec.35(2AB) allows deduction to be claimed at weighted rate of 150% subject to fulfilment of certain conditions. Therefore, we find nothing wrong with the directions of the CIT(Appeals) to the Assessing Officer to allow normal deduction under Sec. 35(1) particularly in view of the fact that the Assessing Officer himself has allowed deduction for the Asst. Year 2005-06." 5. Though there was no issue about the claim of weighted deduction, the Revenue has still preferred the present Appeal under Section 260A of the Act which was admitted by a coordinate Bench of this Court by order dated 9.1.2009, by framing the following substantial questions of law:- "(i) Whether, on the facts and circumstances of the case, the Tribunal was right in law in entertaining a change of claim of deduction by the assessee from 35(2AB) to 35(1) of the Income Tax Act? (ii) Whether, on the facts and circumstances of the case, the Tribunal was right in granting relief under Section 35(1) when the Assessee has not produced the relevant approval from the prescribed authorities for the claim of deduction?" ....
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....Having perused these details, we find that the details evidencing incurrence of capital expenditure at the approved in-house R&D facility was duly disclosed in the notes to the audited financial statements and further the statutory auditor had verified and certified the same being relatable to scientific research in Form 3CLA. According to us therefore, these contemporaneous evidences sufficiently establish that the capital expenditure of Rs. 100,21,22,016/- was incurred in relation to scientific research and was therefore eligible for deduction u/s 35(1)(iv) of the Act. Hence, the order of the lower authorities to that extent stands reversed. 4.9 In view of our above findings therefore, we direct the AO to further allow normal deduction for the capital R&D expenditure of Rs. 100,21,22,016/- u/s 35(1)(iv) of the Act, and resultantly delete disallowance to the extent of Rs. 70,14,85,411/- (Rs.100,21,22,016/- minus Rs. 30,06,36,605/-). This ground therefore stands partly allowed. 5. Ground Nos.7 to 15 of the assessee's appeal and Ground No.3 of the Revenue appeal relates to the claim of the assessee regarding deduction u/s 80IA of the Income Tax Act, 1961 (hereinafter in short ....
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....ainst the principles of accounting standards and was being prepared in a manner to create artificial profits with the intention of claiming increased deduction under section 80-IC of the Act. According to AO, the assessee was recognizing sales at different points for the purposes of Income-tax, vis-à-vis, GST and that the assessee's action of booking the sales at the retail point was without any basis. The AO further observed that, the eligible unit was a cost center and therefore, only a minimum margin should be allowed on their total activities as the AO characterized the assessee to be a low-risk manufacturer. The AO noted that, the design sketch comes from design departments located outside the eligible units and also the R&D happens outside the eligible unit and thus the eligible unit was carrying out only a low-end activity. With these observations, the AO is noted to have concluded that the assessee was shifting profits to its 80-IC unit through artificial booking of higher sales and overheads. Overall, therefore, according to the AO, the assessee had arranged its affairs in such a manner so as to evade tax by showing higher profits in a low-end job, i.e. manufacturin....
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....he profitability of the eligible unit. It is noted that the Ld. CIT(A) did not agree with the AO's action of adopting margin of 3% over the cost base, as according to him, it did not have any cogent logic or basis. Instead, the Ld. CIT(A) observed that the combined PBT of the assessee was 8.35% and that of eligible unit was 12.09% and that if the financial results of the eligible unit were removed, then PBT of the assessee was 6.09%. The Ld. CIT(A) accordingly directed the AO modify the disallowance u/s 80-IC by adopting margin of 6.09% instead of 3%. Aggrieved by this order of the Ld. CIT(A), both the parties are in appeal before us. 5.5 Assailing the action of Ld. CIT(A), the Ld. AR for the assessee argued that, the lower authorities had erred in alleging that the stand- alone financials of the eligible units were distorted to reflect higher profits. The Ld. AR first narrated the entire business model of the company along with the manner in which its manufacturing facility at Pantnagar operates. He submitted that, the provisions of Section 80-IC were meant to allow deduction for the profits derived by a manufacturing undertaking and therefore understandably, a manufacturing pl....
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....ensurate with the profits of their non-eligible Ennore Unit but was comparatively higher than overall profit of the company. He explained the reasons for the same by bringing to our notice the different product mix viz., higher tonnage vehicles which had higher margins were being manufactured by the eligible unit. Also, the per unit employee cost at the eligible unit was lower due to the high level of automation at their state-of-the-art eligible facility. Further, the said eligible unit also enjoyed other subsidies from the Government, which was also a contributing factor to the higher profit margin of the eligible unit. He accordingly contended that, eligible profits of the Pantnagar Unit had been ascertained in accordance with due accounting principles and provisions of law and therefore urged that the disallowance made u/s 80-IC ought to be deleted. 5.8 Per contra, the Ld. CIT, DR supported the action of the AO. Reiterating the findings of the AO, he argued that the revenues shown by the eligible unit had no proper linkage with the books of accounts and therefore contended that the revenues were artificially increased to show higher profits. For this, he referred to the AO's....
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....assis/products and integrated facility for assembling Axle, Gear-box, vehicle, cab-welding etc. Upon completion of manufacture, the assessee transfers these completed chassis/products from sales-yard to their nodal point located at warehouses termed as regional sales office ('RSO')/Warehouse; and therefrom, the heavy- vehicles/goods/products are sold and sent to the ultimate consumers. It was brought to our notice that, the sales-yard is generally within the same premises as that of the manufacturing units to accommodate storage of the manufactured chassis etc, as they cannot be kept inside the plant for operational efficiency reasons and thereafter transferred to RSO/ware-house, from where the goods are sent to the ultimate customers. However, according to AO, there was no linkage between the goods sold from the RSO with the goods manufactured by the eligible unit and therefore he alleged that, the revenues credited in the stand-alone financials were shown to be higher, to shift profits. In this regard, we find that the Ld. CIT(A) had rightly taken note of the assessee's explanation that, the products manufactured by the eligible unit was identifiable from the chassis/product numb....
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....if the transfer, in either case, had been made at the market value of such goods [or services] as on that date : Provided that where, in the opinion of the Assessing Officer, the computation of the profits and gains of the eligible business in the manner herein before specified presents exceptional difficulties, the Assessing Officer may compute such profits and gains on such reasonable basis as he may deem fit. [Explanation.-For the purposes of this sub-section, "market value", in relation to any goods or services, means- (i) the price that such goods or services would ordinarily fetch in the open market; or (ii) the arm's length price as defined in clause (ii) of section 92F, where the transfer of such goods or services is a specified domestic transaction referred to in section 92BA." 5.12 From the above it is clear that, the sale price shall be the price which such goods fetch in the open market. We note that, the sales recorded in the stand-alone accounts are based on the price at which the goods manufactured were sold to the customers viz., based on the invoices raised upon the third parties. According to us therefore, this basis of r....
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.... were referred for transfer pricing scrutiny and the TPO in the order passed u/s 92CA(3) of the Act had found these specified domestic transactions to be at arm's length and no adverse inference was drawn u/s 80-IA(8) of the Act. Having regard to these contemporaneous facts, we find merit in the plea of the Ld. AR of the assessee that, when the manner of revenue recognition for recording inter-unit transfers i.e., market value at which goods were sold to ultimate customers, has been accepted to be sound & reasonable basis by the TPO in the earlier AY 2017-18, then applying the principle of consistency, and in absence of change of any facts and in position of law in the relevant AY 2018-19, the basis of recognizing revenues in the relevant year could not have been disputed by the AO. 5.15 It is further noted that, much ado has been made by the lower authorities that, a manufacturing unit is a cost center and therefore have no role in profit generation. We find this observation to lack any cogent logic. The Ld. AR has rightly pointed out that, the benefit of deduction u/s 80-IC of the Act is available only to such a unit which is engaged in manufacture of any article or thing and ....
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....f by us is as follows:- Nature of cost Cost Center Area Unit wise Allocation principle Employee cost Corporate Cost of Production ratio R&D Cost of Production ratio Marketing Domestic / Exports / Total Turnover ratio Based on purpose of loan, the following type of allocation principles are adopted. - Unsecured Loan Ratio - Working Capital Ratio - Cost of Production Ratio - Exports Turnover Ratio Corporate General OH costs including Consultancy, Rent, Admin etc Cost of Production ratio Research, Design & Product Development cost incurred in R&D cente Cost of Production ratio Selling and Distribution costs including Advertisement, Aftermarkets / Spares cost, Service cost, Travel cost, Commission, etc Domestic / Exports / Total Turnover ratio 5.17 Having gone through the above, we therefore note that, all the common costs had indeed been allocated by the assessee to the eligible unit based on sound parameters. We agree with the Ld. AR that, all the costs attributable to the R&D efforts and sales/marketing efforts towards the sales of goods manufact....
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.... have proceeded only on surmises and conjectures. On the other hand, the assessee has placed before us the unit-wise profitability of the eligible unit as well as the non- eligible units. Having perused the same, we find that functionally, asset- wise and risk-wise, the eligible unit at Pantnagar is comparable with the non-eligible unit at Ennore and we also note that the profitability of both these units are also comparable. Moreover, in our considered opinion, when the assessee has placed the audited standalone accounts of the eligible unit at Pantnagar and still if the AO was of the view that the profits of the unit set up in backward area should be lower than other units, then the onus lay on the AO to establish the same with cogent material and corroborative evidence or at least, find specific fault or infirmity in the books produced by the assessee. We however note that the AO clearly failed to do so. Nothing tangible was brought on record to support such allegation or reasoning. As noted above, both the revenues recognized in the stand-alone accounts as well as the costs debited in the stand-alone accounts were based on fair & reasonable parameters and sound accounting princ....
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....he decisions of the coordinate Benches of this Tribunal in AT Kearney India (P.) Ltd. v. Addl. CIT (153 ITD 693) and Zavata India (P.) Ltd. v. ITO (141 ITD 456). 5.21 Coming to the argument of the Ld. CIT, DR that, the AO was legally empowered to estimate the profits, we find the same to be fundamentally flawed. The Ld. AR brought to our attention that, the AO could have legally interfered with the stand-alone profits of the eligible unit only if he could first point out, (a) as to whether he was of the view that the transactions conducted by the eligible unit were not at fair market value in terms of section 80IA(8) of the Act, or that (b) there was any arrangement with AEs in terms of Section 80IA(10) of the Act which led to higher profits. As already noted by us above, the revenues recognized in the stand-alone accounts was in accordance with Section 80-IA(8) of the Act and therefore the first option (a) was not applicable in the present case. Further, it is not the AO's case that there was any such arrangement as set out in Section 80-IA(10), basis which it could be alleged that the profits had been shifted out of non-eligible unit to the eligible unit. According to us, the ....
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.... eligible business as recorded in its accounts "does not correspond to the market values of such goods." The Proviso to Section 80- IA (8) further states: "that where, in the opinion of the Assessing Officer, the computation of the profits and gains of the eligible business in the manner hereinbefore specified presents exceptional difficulties, the Assessing Officer may compute such profits and gains on such reasonable basis as he may deem fit." (emphasis supplied) 11. The expression "such reasonable basis" pre-supposes that the AO has to explain with sufficient clarity why the AO is rejecting the profit figures as put forth by the Assessee which emerges from the audited accounts of the Assessee. In the present case, for instance, the AO had to explain why he was rejecting for AY 2006-07 the GP ratio of 38.05% and substituting it with a rate of 23%. What the AO appears to have done in the present case is to reject an explanation given by an Assessee as to the difference in the selling price of the products manufactured by it at its Baddi unit compared to that at Delhi unit. The AO proceeded on the basis that the sales were to related parties thus giving an unfair ....
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.... as under:- "6.6 ....The AO's main thrust after the elaborate discussion was that only the manufacturing profit of the Baddi Unit is the profit which alone is eligible for deduction u/s.80IC. The assessee-company was generating substantial profit on account of its brand value and marketing network on those products when acquired/purchased on P2P basis. The ultimate sale price, on that point of time, as per AO, for those products consisted the (i) profit from manufacturing of the product which was taken by P2P supplier, (ii) profit derived from brand value of the product and (iii) profit derived from marketing network of those products. The AO has then invited attention on the provisions of section 80IC and opined that the profits and gains of an eligible business is the only source of income of the assessee. He has referred section 80IC(7) r.w.s.80IA(5), so that the profits of the eligible undertaking is to be computed as if such eligible business is the only source of income. His conclusion was that the sale price of the products manufactured at the Baddi Unit should be the cost of the production plus a reasonable amount of profit which should have been charged, howev....
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....s given certain guidelines, enumerated in short. In the accounting the "profit" is the difference between the purchase price and the cost of bringing the product to market. A "gross profit" is equal to sales revenue minus cost of goods sold or the expenses that can be traced directly to the production of the goods. Rather, the "operating profit" is also defined as equal to sales revenue minus cost of goods plus all expenses, except interest and taxes. Most of the manufacturing companies have 'Total Cost' based pricing method. Total Cost has, broadly speaking, two components; i.e. raw-material plus value addition (it includes all overheads). Therefore, profit margin is price minus total cost. In manufacturing Unit, thus cost of conversion is production overheads, such as, direct labour cost and inextricably linked expenditure of production. In general, every manufacturing concern has fixed manufacturing capacity. So the objective of such concern ought to be to maximize the profit. Now the problem, as posed, is that let us assume that the said manufacturing unit is producing two products; viz. "A" & "B". For production of "A" product, let us say, there is less working hours, ....
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....at, AO has noticed that a margin of profit shown by the assessee as a whole was only to the extent of 10%. The AO has therefore recomputed the profit of the said Unit by applying sub-section (10) of section 80IA and restricted the profit of the said Unit to 10% only. While dealing this issue, the Respected Coordinate Bench has concluded that it was not justified to disturb the working of profit merely because the profit rate of eligible unit was substantially higher than overall rate of profit of other Units of the assessee, more so when separate books were maintained by the assessee in respect of the said eligible Unit. In the present case as well the AO has proceeded to disturb the profit of the Baddi Unit and held that only 6% profit is eligible for deduction u/s.80IC.While doing so, identically, the AO has not pinpointed any defect in the working of the "profit" of the Baddi Unit. In such a situation, we can say that the legal proposition as laid down by Delhi Bench can also be applied in the present appeal as well. 10.4 The AO has also concluded that only the incremental profit, representing the difference between the profits earned earlier when the products were proc....
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....sales to Indian customers are secured through the services of an agent in India then that profit is attributable to the agent's services. Meaning thereby because of the close connection of the agent's marketing activity the proportionate profit was attributed to the said activity. Contrary to this, there was no finding that upto the extent of 80%, the profit was attributed to the assessee- company. The segregation between 80% and 6% was not on account of any evidence through which it could independently be established that the major portion of the profit could be attributed to the assessee- company and rest of the profit could only be attributed to the Baddi Unit." 5.26 In the decided case (supra) also, the Tribunal also noted that the AO had not disputed the allocation of common expenses amongst the units including the eligible unit and the fact that the costs incurred on R&D, marketing, brand promotion etc. had already been allocated on sound allocation parameters while computing the profits of the eligible unit as well. Accordingly, when the cost base of the eligible unit was held to be correctly worked out, the Tribunal held it to be improper to segregate and allocat....
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....ht of the above decision (supra), the lower authorities' action of further ascribing profits of the eligible unit towards R&D, sales, marketing efforts is held to be wholly improper. 5.28 According to us, the entire action of the lower authorities of segmentation of eligible profit of the manufacturing unit was meaningless having no sanction in law. As rightly pointed out by the Ld. AR, there is no line of demarcation to determine the sale price of a product, apart from its market price, as prescribed in Section 80-IA(8) of the Act. According to us, the sale price cannot further be segregated by imputing price attributable to marketing and R&D efforts for the simple reason that there is no such provision contained in law. We agree with the Ld. AR that, the method of computation to be adopted by the assessee, in line with Section 80-IA(8) of the Act and the relevant jurisprudence on this subject is that, on one side of the P&L A/c the sale price i.e. market value of products is to be credited and on the other side, the production cost plus overheads including common & indirect costs allocable to turnover is to be debited to compute the profit. We find that, this is what has been ....
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....was the sales of the qualified products. In the said P&L A/c there was no component of any other sources of income except the sale price and otherwise also the assessee has confined the claim only in respect of the eligible profit which was derived from the sales of the pharmaceutical products. This section do not suggest that the eligible profit should be computed first by transferring the product at an imaginary sale price to the head office and then the head office should sale the product in the open market. There is no such concept of segregation of profit. Rather, we have seen that the profit of an undertaking is always computed as a whole by taking into account the sale price of the product in the market. 10.7 The Ld. AO has suggested that the assessee should have passed entries in its books of account by recording internal transfer of the product from Baddhi Unit to the head office marketing unit and that too at arm's length price. From the side of the appellant an argument was raised that what should be the arm's length price in a situation when a product is ultimately to be sold in the open market. Whether the AO is suggesting that an imaginary line be dra....
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....the head office or the marketing unit and thereupon the sales were executed by the head office to the open market. Once it was not so, then the fixation of market value of such good is out of the ambits of this section. If there is no intercorporate transfer, then the AO has no right to determine the fair market value of such goods or to compute the arm's length price of such goods. The AO has suggested two things; first that there must be inter-corporate transfer, and second that the transfer should be as per the market price determined by the AO. Both these suggestions are not practicable. If these two suggestions are to be implemented, then a Pandora box shall be opened in respect of the determination of arm's length price vis a vis a fair market and then to arrive at reasonable profit. Rather a very complex situation shall emerge. Specially when the Statute do not subscribe such deemed inter-corporate transfer but subscribe actual earning of profit, then the impugned suggestion of the AO do not have legal sanctity in the eyes of law. 10.9 A very pertinent question has been raised by ld.AR Mr. Patel that what should be the line of demarcation to determine the sa....
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....only the profits derived due to manufacturing activity can be said to be derived from eligible undertaking. It was contested by AR before us that the "segment reporting" is about the segregation of business and not about the segregation of any specific activity. In the case of Liberty India (supra) it was observed that the IT Act broadly provides two types of tax incentives, namely, investment linked incentives and profit linked incentives. The Court was discussing Chapter VIA which provides incentive in the form of tax deductions to the category of "profit linked incentives". The incentive is linked with generation of 'operational profit'. Therefore, the respected Parliament has confined the grant of deductions only derived from eligible business. Each eligible business constitutes a stand alone item in the matter of computation of profit. The Court has said that because of this reason the concept of "segment reporting" was introduced in Indian Accounting Standards. Ld. Counsel Mr. Srivastava has argued that the deduction u/s.80IC is a profit linked incentive. Only the Operational Profit has to be claimed for 80IC deduction. According to him, each of the eligible business ....
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.... that the profits of the eligible unit was artificially higher because the other units or company as a whole had a lower profitability without any relevant evidence or material, was baseless and unjustified. We also disapprove their observations for segregating and estimating profits of the eligible unit on pure hypothesis, for the reasons discussed above. Before parting on this issue, it is noted that, the AO has used the expression 'tax evasion' and adoption of 'colorable device' by the assessee in several places in the assessment order, for making the impugned disallowance. We find such usage to be uncalled for as the allegations of 'tax evasion' is a very serious allegation and therefore, the AO should have desisted from using such expression when he never made out such a case in the impugned order. We note that, such allegation, for the reasons discussed above, were unfounded and that the decisions relied upon by the AO for stating so, was completely distinguishable having no relevance in the factum of the present case. It is not in dispute that the assessee had indeed invested and set-up a manufacturing facility in industrially designated backward area in Pantnagar, Uttarakha....
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....ct. The Ld. CIT(A) accordingly deleted the impugned disallowance. Aggrieved by the order of Ld. CIT(A), the Revenue is now in appeal before us. 8.2 Heard both the parties. The limited issue-in-dispute before us is that, whether the pollution control and energy saving devices are in the nature of 'plant & machinery' and therefore eligible for additional depreciation u/s 32(1)(iia) of the Act. The Ld. AR brought to our notice the relevant New Appendix-I to the Income-tax Rules, 1962 which contains the rates at which the depreciation is admissible. He showed us that Sl. No. III contained the depreciation rates applicable on 'plant & machinery'. It was pointed out that, the 'energy saving devices' were specifically mentioned at Sl. No. III(8)(ix), 'renewable energy devices' were mentioned at Sl. No. III (8)(xiii) and 'pollution control devices' were mentioned at Sl. No. III(3)(vii) & (ix). We are therefore in agreement with the Ld. CIT(A) that these fixed assets were in the nature of 'plant & machinery' and hence the assessee had rightly claimed additional depreciation u/s 32(1)(iia) of the Act on the same. The Ld. CIT, DR appearing before us are was unable to controvert the same. W....
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....sallowance made u/s 14A cannot be added to book profit u/s 115JB. The relevant findings taken note of are as follows:- "6. We have considered the submissions made on both sides and have perused the record. Before proceeding further, it is apposite to take note of relevant extract of section 115JB of the Act, which reads as under: ..... 7. Thus from perusal of the relevant extract of section 115JB, it is evident that sub-section (1) of section 115JB provides the mode of computation of the total income of the assessee and tax payable on the assessee under section 115JB of the Act. Sub-section (5) of section 115JB provides that save as otherwise provided in this section, all other provisions of this Act shall apply to every assessee being a company mentioned in this section. Therefore, any expenditure relatable to earning of income exempt under section 10(2A) and section 10(35) of the Act is disallowed under section 14A of the Act and is added back to book profit under clause (f) of section 115JB of the Act, the same would amount to doing violence with the statutory provision viz., sub-sections (1) and (5) of section 115JB of the Act. It is also pertinent to....