Itr/70/2000 Of M/S.carbon And Chemicals (India) Ltd v. The Commissioner Of Incometax, Kochi

IN THE HIGH COURT OF KERALA AT ERNAKULAM PRESENT THE HONOURABLE MR.JUSTICE S.V.BHATTI & THE HONOURABLE MR. JUSTICE BECHU KURIAN THOMAS MONDAY, THE 01ST DAY OF MARCH 2021 / 10TH PHALGUNA, 1942 ITR.No.70 OF 2000 AGAINST THE ORDER/JUDGMENT IN RA 289/Coch/1997 OFI.T.A.TRIBUNAL,COCHIN BENCH APPLICANT: M/S.CARBON AND CHEMICALS (INDIA) LTD.,KOCHI BY ADV. SRI.ANIL D. NAIR RESPONDENT: THE COMMISSIONER OF INCOMETAX, KOCHI BY ADV. SRI.P.K.R.MENON SR.COUNSEL FOR ITBY ADV. SRI.GEORGE K. GEORGE, SC, FOR IT THIS INCOME TAX REFERENCE HAVING BEEN FINALLY HEARD ON28-01-2021, THE COURT ON 01-03-2021 PASSED THE FOLLOWING: “C.R.” ORDER Dated this the 1[st] day of March, 2021 Bechu Kurian Thomas, J. The Income Tax Appellate Tribunal has referred the followingquestions of law to this Court, under Section 256(1) of the IncomeTax Act, 1963. (for short 'the Act') relating to the assessment year1995-96. “1. Whether on the facts and circumstances of the case, was theAppellate Tribunal right in holding that the amount that hasceased to be a liability under section 41(1) of the Income TaxAct to be assessed as income is Rs.53,71,650/- orRs.30,68,152/- is not a debatable issue and can be thesubject matter of adjustment under sec.143(1)(a) of theIncome Tax Act?Appellate Tribunal right in holding that the amount that hasceased to be a liability under section 41(1) of the Income TaxAct to be assessed as income is Rs.53,71,650/- orRs.30,68,152/- is not a debatable issue and can be thesubject matter of adjustment under sec.143(1)(a) of theIncome Tax Act? 2. Whether on the facts and circumstances of the case was theTribunal right in holding that the assessee is not entitled todeduction of the tax and interest amounting to Rs.23,03,498/-paid by the assessee from out of the gross royalty amount ofRs.53,71,650/- credited to the account of the foreigncollaborator in 1990 and written back in the previous yearrelevant to the assessment year 1995-96?Tribunal right in holding that the assessee is not entitled todeduction of the tax and interest amounting to Rs.23,03,498/-paid by the assessee from out of the gross royalty amount ofRs.53,71,650/- credited to the account of the foreigncollaborator in 1990 and written back in the previous yearrelevant to the assessment year 1995-96? 3. Whether, on the facts and circumstances of the case shouldnot the Tribunal have held that the cessation of liability andvalue of benefit that accrued to the assessee is only thedifferential amount of Rs.30,68,152/- which is the net amountthat has accrued to the assessee after paying an amount ofRs.23,03,498/- to the Income Tax Department towards tax andinterest on behalf of the foreign collaborator?”not the Tribunal have held that the cessation of liability andvalue of benefit that accrued to the assessee is only thedifferential amount of Rs.30,68,152/- which is the net amountthat has accrued to the assessee after paying an amount ofRs.23,03,498/- to the Income Tax Department towards tax andinterest on behalf of the foreign collaborator?” -:3:- 3. Whether, on the facts and circumstances of the case shouldnot the Tribunal have held that the cessation of liability andvalue of benefit that accrued to the assessee is only thedifferential amount of Rs.30,68,152/- which is the net amountthat has accrued to the assessee after paying an amount ofRs.23,03,498/- to the Income Tax Department towards tax andinterest on behalf of the foreign collaborator?”not the Tribunal have held that the cessation of liability andvalue of benefit that accrued to the assessee is only thedifferential amount of Rs.30,68,152/- which is the net amountthat has accrued to the assessee after paying an amount ofRs.23,03,498/- to the Income Tax Department towards tax andinterest on behalf of the foreign collaborator?” -:3:- 2. The issue relates to the assessment year 1995-96.However, the sequence of events that led to the present referencehas its genesis in the assessment year (for short AY) 1990-91. Theassessee claimed a deduction of Rs.53,71,650/-, for the AY 1990-91as an expenditure, being royalty payable to a foreign collaborator.Though deduction was allowed, the amount was not actually remittedoutside India. In the meantime, an amount of Rs.13,65,060/- waspaid towards TDS payable on the royalty amount and a furtheramount of Rs.9,38,438/- towards interest, as per orders issued underSection 201(1A) of the Act. Thus, a total amount of Rs.23,03,498/-was paid by the assessee towards tax and interest due to thedepartment against the deduction claimed towards royalty payable tothe foreign collaborator. In the AY 1995-96, the amount claimed asdeduction for the AY 1990-91, excluding TDS and interest paid, waswritten back by the assessee into its accounts, on account of thecessation of liability. To state in figures, the assessee had writtenback Rs.30,68,152/- instead of Rs.53,71,650/-. 3. In the return filed for the AY 1995-96, assessee had thuswritten back only Rs.30,68,152/- under Section 41(1) of the Act. TheAssessing Officer found that the entire amount of Rs.53,71,650/- I.T.R. No.70/2000 ought to be treated as a deemed profit under Section 41(1)(a) of theAct and that the amount paid towards tax and interest was not liableto be deducted while returning the entry due to cessation of liabilitywith the foreign collaborator. 4. On appeal, the First Appellate Authority held that the issue whether the entire sum of Rs.53,71,650/- or whether the said amountexcluding the tax and interest paid, alone, could be regarded as aprofit under Section 41(1) of the Act, was a debatable issue. Itfurther held that since a debatable issue cannot be made the subjectmatter of adjustment under Section 143(1)(a), the First Appeal wasallowed by deleting the addition directed by the Assessing Officer. 5. The Revenue preferred an appeal to the Tribunal. It washeld by the Tribunal that the deduction claimed for tax and interestalready paid was inadmissible and the appeal was allowed, therebyrestoring the order of the Assessing Officer. Briefly prefaced thecontroversy for a decision on the points referred by the Tribunalcenters around whether the assessee has to write back entry ofRs.53,71,650/- upon cessation of liability or should it be the actualamount of Rs.30,68,152/- to be written back as deemed profits underSection 41(1) of the Act for the AY 1995-96. 6. We have heard Mr. Raja Kannan, the learned counsel forthe assessee as well as Sri. P.K.Raveendranatha Menon, the learnedSenior Advocate for the department duly instructed by Adv. NavneethPai. 5. The Revenue preferred an appeal to the Tribunal. It washeld by the Tribunal that the deduction claimed for tax and interestalready paid was inadmissible and the appeal was allowed, therebyrestoring the order of the Assessing Officer. Briefly prefaced thecontroversy for a decision on the points referred by the Tribunalcenters around whether the assessee has to write back entry ofRs.53,71,650/- upon cessation of liability or should it be the actualamount of Rs.30,68,152/- to be written back as deemed profits underSection 41(1) of the Act for the AY 1995-96. 6. We have heard Mr. Raja Kannan, the learned counsel forthe assessee as well as Sri. P.K.Raveendranatha Menon, the learnedSenior Advocate for the department duly instructed by Adv. NavneethPai. 7. The learned counsel for the assessee submitted that theprofits chargeable to tax as per Section 41(1)(a) of the Act ought tobe the amount after deducting the tax and interest already paid to thedepartment, as per the orders issued under Section 201 of the Actand not the entire amount inclusive of the tax and interest. Hesubmitted that a contrary interpretation, if adopted, in the instantcase, would cause great hardship and prejudice to the assesseeincluding double taxation. It was also contended that when there is adoubt as to whether it is the net amount or the gross amount of theceased liability that should be treated as the amount obtained underSection 41(1)(a) of the Act, section 143(1)(a) of the Act will have noapplication, as the question falls within the realm of a debatableissue. According to the learned counsel for the assessee, an issue,which is debatable or has two possible views, could not be thesubject matter of a summary adjustment under Section 143(1)(a) ofthe Act. 8. Learned Senior Counsel for the department, on the other hand, submitted that the amount contemplated under Section 41(1)(a) is inclusive of the tax since income tax is always levied on theamount received without deducting the tax. He further submitted thatSection 41(1) is a deeming provision, which makes the amount, ascontemplated under the said provision, if received by the assessee,be deemed to be the profit and gains of business and chargeable toincome tax in the manner contemplated therein. 9. While considering the above controversy, it is necessary to refer to Section 41(1)(a) of the Act, which is extracted below: “41. Profits chargeable to tax.- (1) Where an allowance ordeduction has been made in the assessment for any year inrespect of loss, expenditure or trading liability incurred by theassessee (hereinafter referred to as the first-mentioned person)and subsequently during any previous year. (a) the first-mentioned person has obtained, whether in cash or inany other manner whatsoever, any amount in respect of such lossor expenditure or some benefit in respect of such trading liability byway of remission or cessation thereof, the amount obtained bysuch person or the value of benefit accruing to him shall bedeemed to be profits and gains of business or profession andaccordingly chargeable to income-tax as the income of thatprevious year, whether the business or profession in respect ofwhich the allowance or deduction has been made is in existence inthat year or not;” 10. A reading of the above provision indicates that a legal fiction is created to treat the amount which was once deducted as an expenditure, if received back in another assessment year, as an I.T.R. No.70/2000 -:7:- income from profits and gains of business. For the purpose of attracting Section 41(1), it is necessary that the following conditionsare satisfied: (i) The assessee had made an allowance or any deduction in respect of any loss, expenditure, or tradingliability incurred by him. (ii) Any amount is obtained in respect of such loss or expenditure or any benefit is obtained in respect of suchtrading facility by way of remission or cessation thereof;and, 10. A reading of the above provision indicates that a legal fiction is created to treat the amount which was once deducted as an expenditure, if received back in another assessment year, as an I.T.R. No.70/2000 -:7:- income from profits and gains of business. For the purpose of attracting Section 41(1), it is necessary that the following conditionsare satisfied: (i) The assessee had made an allowance or any deduction in respect of any loss, expenditure, or tradingliability incurred by him. (ii) Any amount is obtained in respect of such loss or expenditure or any benefit is obtained in respect of suchtrading facility by way of remission or cessation thereof;and, (iii) Such amount or benefit is obtained by theassessee in a subsequent year. 11. Once the aforesaid conditions are satisfied, the deemingprovision enacted in the closing part of Section 41(1)(a) of the Actgets attracted and the amount obtained becomes chargeable toincome tax as profits and gains of business or profession. Referenceto the above propositions can be derived from the decisions laiddown by the Supreme Court in CIT v. Haryana Co-operative SugarMills Ltd. [1985) 154 ITR 751] and Polyflex (India) Pvt. Ltd. v. CIT[(2002) 257 ITR 343]. 12. A glance at the history of Section 41 will reveal the purpose behind the enactment of this provision. Section 41(1) of the 1961 Actcorresponds to Section 10(2)(A) of the Income Tax Act of 1922. In thedecision in British Mexican Petroleum Co. Ltd. v. Jackson (1932)16 TC 570 (HL), it was held that once a loss or expenditure isallowed as a deduction or as a trading liability, recoupment of theloss or expenditure or remission of the trading liability would be acapital receipt and not a business receipt. By virtue of the fictionenacted under Section 41(1) of the 1963 Act, the difficulty created bythe decision in British Mexican Petroleum case was overcome. Theprovision now by a legal fiction makes the amount so received to betreated as profits and gains includable in the total income of theassessee for the previous year in which such recoupment isobtained. 13. The purpose behind creating a fiction under Section 41(1)(a) of the Act is to tax the amount, earlier deducted but subsequentlyreceived back, to the extent recouped. It is a measure of taxing theamount recouped. 14. Though a legal fiction must be given full effect to it shouldnot be extended beyond the purpose for which it is created. As held I.T.R. No.70/2000 in Bengal Immunity Co. Ltd. v. State of Bihar (AIR 1955 SC 661)and in Maganlal v. Jaiswal Industries [(1989) 4 SCC 344], legalfictions are created only for some definite purpose and it must belimited to the purpose for which it was created and should not beextended beyond that legitimate field. Explaining the scope of legalfictions, in the decision in Vodafone International Holdings BV v.Union of India, [(2012) 6 SCC 613], it was held that the legal fictionhas a limited scope and cannot be expanded by giving a purposiveinterpretation to the same, particularly if the result of suchinterpretation is to transform the concept of chargeability. 15. It is true that income tax is a portion of the profits payable tothe State and the tax payable is not a permissible deduction and alsothat Section 198 of the Act provides that all sums deducted for thepurpose of computing income of an assessee, including the taxdeducted at source, shall be treated as income received. However,the aforesaid principle cannot be applied while determining theamount to be deemed as profits and gains under Section 41(1)(a) ofthe Act. Such an interpretation, if adopted, will in fact be expandingthe fiction created and even transform the chargeability. 16. The amount deducted in 1990-91 as an expenditure 15. It is true that income tax is a portion of the profits payable tothe State and the tax payable is not a permissible deduction and alsothat Section 198 of the Act provides that all sums deducted for thepurpose of computing income of an assessee, including the taxdeducted at source, shall be treated as income received. However,the aforesaid principle cannot be applied while determining theamount to be deemed as profits and gains under Section 41(1)(a) ofthe Act. Such an interpretation, if adopted, will in fact be expandingthe fiction created and even transform the chargeability. 16. The amount deducted in 1990-91 as an expenditure consisted of an element of tax being TDS. The words employed inSection 41(1)(a) are “amount obtained by such person or the value ofbenefits accruing to him”. The “amount obtained” can only mean theactual amount obtained. The fiction created under the provisioncannot be expanded to even include amounts that may be obtainedin the future. The legal fiction is intended to deem the actual amountobtained as profits and gains from business and to tax the said actualamount. 17. Section 41(1) employs, on the one hand, words such as“allowance” or “deduction” and on the other hand “loss”,“expenditure”, or “trading liability”. These words are of general importand are understandably employed to take care of several fluiddynamics. These expressions are relatable to words used in Section41(1)(a) i.e., “the amount obtained by such person or the value ofbenefit accruing to him shall be deemed to be profits, gains etc.”.Therefore an entry made in one previous year as an allowance ordeduction towards “loss”, “expenditure” or “trading liability” whenwritten back in a subsequent previous year, on account of thecessation of such liability, becomes taxable as profit or gains ofbusiness. But the tax liability should be commensurate to the actual I.T.R. No.70/2000 amount received or the value of benefit accrued to the assessee in that financial year and not on the unrecovered amount orunacknowledged benefit by the assessee. The unrecovered amountbecomes taxable only in the previous year when it is recovered oractually obtained. 18. The amounts paid as tax has not been obtained in 1995- 96 as the same had not been refunded. Until the amount of TDS isrefunded, that amount cannot be treated as amount obtained by theassessee. The amount of TDS and interest can be deemed to beprofits and gains and chargeable to tax only on refund. Until actualreceipt, it is not “amount obtained” and cannot be deemed to beprofits and gains from business. In other words, if it is assumed thatthe TDS paid by the assessee, for the royalty payable, is ordered tobe refunded due to the cessation of liability and the refund isreceived by the assessee, the actual amount of refund whenreceived will have to be treated as the amount obtained in theprevious year of receipt and not prior to that. 19. The above concept can be illustrated as follows; if anassessee deducts Rs.10,000/- as an expenditure in 1990-91 forwhich Rs.1,000/- was paid as TDS. Subsequently, due to cessation -:12:- of the liability, the assessee writes back Rs.9000/- in 1995-96 and applies for a refund of TDS. Refund gets ordered and is receivedonly in 1996-97. The amount deemed to be profit under section 41(1)(a) for 1995-96 can only be Rs.9,000/- it being the actual amountreceived in that year. The TDS refund of Rs.1,000/-.will be thedeemed profits for 1996-97. If on the other hand, the entireRs.10,000/- in the above illustration was deemed to be profit for1995-96, the tax refund when received becomes impossible toaccount for. 20. From the above, it is clear that the amount paid by theassessee as TDS comes back to the assessee only when the TDS isrefunded. The amount obtained by the assessee under Section 41(1)(a) is thus the actual amount obtained. -:12:- of the liability, the assessee writes back Rs.9000/- in 1995-96 and applies for a refund of TDS. Refund gets ordered and is receivedonly in 1996-97. The amount deemed to be profit under section 41(1)(a) for 1995-96 can only be Rs.9,000/- it being the actual amountreceived in that year. The TDS refund of Rs.1,000/-.will be thedeemed profits for 1996-97. If on the other hand, the entireRs.10,000/- in the above illustration was deemed to be profit for1995-96, the tax refund when received becomes impossible toaccount for. 20. From the above, it is clear that the amount paid by theassessee as TDS comes back to the assessee only when the TDS isrefunded. The amount obtained by the assessee under Section 41(1)(a) is thus the actual amount obtained. 21. Since we have held that the amount obtained underSection 41(1) shall be the actual amount obtained by the assesseeexclusive of the tax paid and not refunded, the contention regardingwhether the issue is a debatable one or not, does not strictly arise.However, for the purpose of complete appreciation, it is necessary todeal with the said contention also. Interpretation of the wordsemployed in Section 41(1) required a deeper analysis and whether I.T.R. No.70/2000 -:13:- the section contemplates the net amount or the gross amount, was certainly a matter of debate. It cannot be held that the questionraised by the assessee was a non-debatable issue. In the saidcircumstances, we are of the view that the First Appellate Authoritywas correct while the Tribunal erred in coming to the conclusion thatthe issue was not a debatable one. 22. In view of the above, the questions of law raised by the assessee are answered in the affirmative, i.e., against the revenue.and in favour of the assessee. The reference is ordered accordingly. Sd/- S.V.BHATTI, JUDGE Sd/- BECHU KURIAN THOMAS, JUDGE vps /True Copy/ PS to Judge