Category Archives: Tax Tracker

No escape from Tax withholding requirement for Year end provisions: Tax Tribunal

The Ruling in brief

The Bangalore Bench of the Tax Tribunal has held in the case of IBM India Private Ltd. that once a provision is created for an expense, the obligation for Tax Deduction at Source (‘TDS’) would get attracted irrespective of the fact that no invoice has been received or no claim made by the vendor.

Ruling Debrief

Stand of the Taxpayer

The Taxpayer contended that

(i) in respect of liabilities for which vendor invoices have not been received and where expenses are not due for payment, it was not liable to deduct tax merely on account of the fact that a provision for the same has been created in the books.

(ii) The Taxpayer argued that as the payees were not identifiable and the exact sum due for payment was not determinable at the provision stage, the obligation for Tax deduction did not arise. It was pointed out by the Taxpayer that the payee had to be mentioned in the TDS return that a Taxpayer has to file.

(iii) Explaining its accounting methodology, the Tax payer contended that the provision for expenses was reversed in the subsequent year and the Tax was deducted at source from payments [in relation to which the provision was created] made to vendors in the subsequent year. It was therefore contended that there was no default on the part of the Taxpayer in discharging Tax deduction obligations.

(iv) The Taxpayer also argued that since there was no charge to tax in the hands of the payee, as there was no payment obligation for Taxpayer, the question of applicability TDS provisions did not arise.

(v) Further, reliance was also placed on a Circular No.3/2010 which clarified that Banks need not deduct tax on interest accruals made on daily monthly basis as the same did not result in a “constructive receipt” in the hands of the depositor.

The Taxpayer however had also voluntarily added back the provision amounts as a “dis-allowable expense” under section 40(a). [A disallowance under section 40(a) is attracted when a Taxpayer has not complied with its Tax deduction obligation on payments/accruals].

Revenue’s Stand

(i) The Revenue contended that the action of the Taxpayer in disallowing the expense voluntarily was in itself an admission of default in compliance with Tax deduction obligation.

(ii)  The Revenue also relied on an express provision under Tax deduction provisions which required that TDS obligation to be met even on provisions made in the books.

(iii) Further, on account of failure on the part of the Taxpayer to file certain details called for at the lower stages, an adverse inference was also drawn to the effect that the Taxpayer was aware of the payees against which the liability was created and therefore there was no reason to charge the  expense to a  ‘provision’  account.

Tribunal’s view

On behalf of the Department, it was admitted that the Taxpayer has filed details of Tax deducted in the subsequent year, when the provision for expenses were paid out. On this basis, the Taxpayer was absolved of liability for default of TDS obligation  [under section 201 (1)].

However, the Tribunal ruled that the Taxpayer should have deducted tax at the time of provision itself, since the Tax deduction provision expressly provide for deduction to be made even in a scenario where provisions are created.

On the given facts, the Tribunal also did not agree to the Taxpayer’s stand that the payee’s were not identifiable at the time of creating the provisions. The Tribunal therefore upheld the levy of interest [u/s. 201(1A)] for the delay in the discharge of the TDS obligation.

The Tribunal also rejected the Taxpayer’s contention that TDS obligations arise only on showing that there was a charge to tax in the hands of payee. Reliance on Circular No.3/2010 was also held as misplaced, since the same was specifically issued in the context of interest provisioning made by banks for ‘macro monitoring’ purposes only.

 

Our Comment

The ruling highlights :

(i) Risks that a  Taxpayer faces even on mundane compliance issues like meeting TDS obligation

(ii) The administrative hassles that Taxpayer is put to by mandating TDS compliance even for provisions made in accounts

(iii) Impact of accounting practices on determination of Tax consequences

(iv)  Need to prepare ahead for consequences arising out of voluntary disclosures made in Tax filings and audit reports

While a strict and literal interpretation of the TDS provision does lead to the conclusion that the Tribunal reached, the ruling highlights the genuine hardships that Taxpayers are faced with, while discharging TDS obligations, particularly in the context of year end provisions.

The fairness of calling upon a Taxpayer to “deduct” tax even on provisions, when payments may not even be due to the vendors, is also an aspect on which a judicious view can be expected to be taken only at the High Court level, as Tribunals would generally confine their view to the express provision of law.

From a practical standpoint though, the only mitigating option for the Taxpayer would appear to be to identify the payees behind the provisions as far as practicable and take advantage of the extended time-limit (one month as against normal period of seven days) for remitting taxes on year end provisions, to avoid disallowance and penal interest.

 

Delhi Tribunal sets out TP Adjustment formula for late realization of sales

In a recent ruling in the case of Techbooks International Private Limited, the Delhi Tax Tribunal proceeded to lay down the formula for making Transfer Pricing adjustment for late realization of sales proceeds.

 

Formula adopted by TPO

The Transfer Pricing officer noted that the Taxpayer had realized the sales invoices late and carried out Transfer pricing adjustment by applying interest rate of 15% on the late receipts, after allowing for a normal credit period of 60-days.

The Taxpayer protested the adjustment and also pointed out that as  the terms of the services agreement provided for a credit period of 150-days.

Tribunal Ruling

The Tribunal upheld in-principle the need for making the TP adjustment for late realization, taking note of the fact that the Finance Act 2012 widened the scope of international transactions to include inter-alia debts arising during the course of the business.

The Tribunal however altered the basis adopted to carry out the adjustment. The Tribunal reasoned that since the sale price of the Taxpayer was arrived on the basis of a 150-day credit period, the adjustment to late realization had to be made on the following basis:

(i) In the first instance, the credit period of the comparables had to be determined and the revenue of comparable companies had to be re-computed based on the 150-day credit period, to bring them on par with the Taxpayer

(ii) The delay in realization by the Taxpayer beyond the contracted 150-day credit period to be taken as another international transaction, and adjustment made therefor

For the purpose of making the adjustment, the Tribunal upheld the use of LIBOR rate in foreign currency relevant to a particular Associated Enterprise

 

Other Issues

a) Companies following different financial year

The Tribunal also provided an opportunity to the Taxpayer to re-determine the margins of the comparable companies which were rejected for following financial year-end different from fiscal year-end and reporting period of more than 12 months.

b) Selection /Rejection of comparable companies

Companies which had undertaken M&A transactions were held not comparable. Claims for selection / rejection of comparable companies on grounds of high / low turnover were also not entertained.

c) Risk Adjustment

Claim for Risk adjustment by the Tax payer since it was a “captive” service provider was negatived on the basis that it faced a “single-customer” risk and also on finding that the Taxpayer had created a provision for doubtful Advances against Associated concerns.

d) Margin computation

Forex fluctuation and provision for doubtful debts held to be an operating item while bank charges held as a non-operating item for the purpose of margin computation.

Tribunal can stay recovery of Tax demand beyond the statutory time-limit of 365 days: Delhi HC

The Delhi High Court has struck down as “unconstitutional” a provision under the Income-tax Act which restricts the power of the Tax Tribunal to grant a stay on recovery of the Tax demand beyond a 365-day period.  The decision was taken in response to a batch of petitions filed before the Court by Petitioners Pepsi foods, Ericsson Ab and Aspect Software Inc.

The Issue Involved

Under the Income-tax Act, where an appeal is pending before the Tax Tribunal, the related Tax demand can be stayed by the Tribunal for a period of 180 days and the Tribunal has to decide the case within that time. If the Appeal is not decided within the 180-day period, the stay can further be extended to 365 days if the delay is not on account of the Taxpayer and the Appeal would then have to be decided within the extended period of 365-days.

Practically, in quite a few instances involving complex issues, the Appeal process before the Tribunal can stretch even beyond the 365-day period. In all such cases, the law provided that the Tribunal cannot extend the stay beyond the 365-day time-limit even if the delay in disposal of the Appeal is not on account of the Taxpayer [Third proviso to section 254(2A) is the relevant provision]. This provision under the law was challenged by a batch of Petitioners before the Delhi High Court as “unconstitutional” and it was also argued that the provision restricting the time-limit for Stay of demand to 365-days rendered the Appeal mechanism an “illusory remedy” and rendered it nugatory. 

The Decision of the Court

Under Article 14, a provision of law can be struck down as unconstitutional if the same is found to be “discriminatory”. The High Court was of the view that the provision restricting the stay to 365 days, even where the delay in deciding the appeal was not attributable to the Taxpayer, is discriminatory. The Court ruled that a “well-behaved” Taxpayer (i.e.one who does not adopt dilatory tactics) cannot be clubbed with another who resorted to dilatory tactics, and both the classes of the Taxpayer cannot be made to face the same consequences.

Impact of the Ruling

This ruling would clear the air on an issue where different practices were being followed by various benches of the Tax Tribunal.  The ruling would of course would be of no consequence where the delay in deciding the appeal is on account of the Taxpayer and would benefit only those Taxpayers who have been co-operative in the appellate process before the Tribunal.

Our View – A fallacy in appreciating the “discrimination” angle

In general, a Court would be slow to strike down a provision of law as unconstitutional – challenges to various pieces of legislation as “unconstitutional” under Article 14 on the grounds of “discrimination” have been turned down more often by the Courts than upheld.

In the above ruling, the Court has taken a view that the provision to deny the stay beyond 365, even if the Taxpayer was not at fault,  was discriminatory since such a Taxpayer would be placed on the same footing as another who was indeed at fault, say, by having adopted dilatory tactic.

However, it is noteworthy that the stay on demand is granted on a staggered basis – initially for a 180-day period which is further extended to 365 days ONLY in those cases where the Taxpayer has co-operated in the proceedings and delay is not on his account. A recalcitrant Taxpayer who adopts dilatory tactics would not even be granted a stay beyond the initial time-limit of 180-days, and the extension of stay to 365-days itself is reserved only for “well-behaved” Taxpayers. It is only at the end of the 365-day period, that the “well-behaved” would be relegated to the same position as the not so well-behaved. As the ruling itself notes, even after the 365-day period, the “well-behaved” would have the liberty to approach the High Court for extension of stay, which option would not be available to a recalcitrant. This would no doubt make the appeal process more onerous, but whether that would warrant  a provision of law being construed as “discriminatory” and struck down as “unconstitutional” is a moot question, which probably the Supreme Court would be called upon to answer.

 

Supreme Court settles long-standing dispute on Taxation of Foreign service providers to Oil & Gas sector

The ruling in brief

The Supreme Court has ruled that services provided by non-residents which are inextricably linked with Oil and Gas exploration and production activities are taxable  under section  44BB, a special provision under the Income-tax code. The ruling was given in the case of Oil & Natural Gas Corporation, which had contested the cases as a “representative” for foreign companies.

The Supreme Court rejected the stand of the Revenue that the services ought to be taxed under Section 44D, a special provision which applied to Taxation of technical services fees earned by non-residents.

[Note – Section 44D has since been replaced by another provision – section 44DA. Refer last para for our comments on applicability of the ruling in current context  – skip next section, if you have a phobia for legalese]

Ruling De-brief

Taxation of overseas service providers to the Oil & Gas industry has been plagued by the overlap between two provisions under the Indian Tax code – Section 44BB and Section 44D/DA. Taxability under Section 44BB is considered more favorable as it deems 10% of gross receipts as the income of the foreign service provider, thereby leading to a low effective tax rate of a tad over 4%.

The Revenue stand was that “technical services” are caught in the net of section 44D. The statute also provides for section 44D to over-ride the provisions of Section 44BB. However, the scope of “technical services” under section 44D is defined to mean the same as that under section 9, which excludes consideration for “mining or like project…”.

The issue therefore boiled down to whether services provided to an Oil & Gas operator would constitute  consideration for “mining or like project” and stood excluded from scope of “technical services”

Reliance on CBDT Circular

The Taxpayer relied on a CBDT circuar No. 1862, dated 22.10.1990  which clarified that rendition of services like training and carrying out drilling operations for exploration /exploitation of oil and natural gas  would also be covered within the phrase “mining or like project” and therefore fall outside the ambit of “technical services”.

“Pith and Substance” doctrine of Interpretation 

The Revenue authorities sought to dilute the impact of the Circular by contending that ONGC had contracted for various services of a technical nature and the services availed by it had only a “remote connection” to the carrying on of Oil & Gas exploration and drilling.

However, the Supreme Court , adverting to a list of such services which covered a wide range of assistance [like drilling, furnishing of personnel for operation of rigs, capping of wells, Data analysis and studies, consultancy, laboratory testing and simulation,  technical opinions and advise reviews, inspection and training etc., ] took the view that the “pith and substance” of agreements was to render services that were inextricably linked to exploration and production of Oil & Gas. The Supreme Court therefore concluded that the said services were covered within the ambit of Section 44BB.

Applicability of the ruling in the current context

It may be noted that Section 44D has since been replaced by Section 44DA. Section 44DA specifically provides that 44BB shall not apply to income referred to in Section 44BB. However, the definition of “Technical services” referred to under section 44DA is the same as that under erstwhile provisions of Section 44D.  Therefore, it is our view that the ruling would also apply in the current context.

Long-term loss from sale of shares can be set-off Taxable Long-term gain on Land sale : Section 10(38) no bar

 

In an interesting ruling, the Mumbai Tax Tribunal has held in the case of Raptakos Brett & Co. Ltd Vs. DCIT that Long-term capital loss on sale of shares CAN be set-off against long-term gains on land sale arising to the Taxpayer.

Ruling in Brief

Income from sale of shares which are held for a longer-term (i.e. held for a period of 12 months or more, called ‘Long-term capital assets’) are exempted from tax under the Indian Tax law, when such shares are sold in a stock exchange and a Transaction tax (called Securities Transaction Tax) is paid.  The general view was that since the ‘income’ is exempt, the loss, if any, from such transactions cannot be claimed as ‘set-off’ against taxable gains from other Long-term capital assets.  In the aforesaid ruling, the Tax Tribunal has held that the loss arising from sale of long-term equity shares in stock exchange CAN be claimed as set-off against other, taxable gains from sale of long-term assets (sale of land in the given case).

Ruling Debriefed

The Controversy

In India, gains from sale of shares which are of a “Long-term” nature (i.e. shares held for more than 12 months) and sold in a stock exchange are exempt from Tax.  The relevant section in the Tax code [Section 10(38)] refers to exemption for  “income arising from the transfer of long-term capital asset, being an equity share” which is sold in a recognized stock exchange.

An “exemption” provision under section 10 under the Indian Tax law operates very differently from a “deduction” provision, inasmuch as the income which is governed by an exemption provision is kept completely outside the purview of income-computation process.

Further, the  the term “income” is interpreted as including both the positive (i.e. gain) and negative (i.e. loss) aspects of income, based on a ruling on a ruling of the Supreme Court which clarified that income also includes a loss.

The widely prevalent view therefore was that when there is a loss on sale of “long-term” equity shares in a stock exchange, the said loss does not enter the income-computational process and therefore not admissible for set-off against a Long-term gain that a Taxpayer may have from a taxable, long-term capital asset. The Honorable Gujarat High Court in its decision in the case of Kishorebhai Bhikabhai Virani Vs. ACIT had also taken the above view (i.e. that loss from sale of equity shares cannot be claimed for set-off)

Case made out for a differential treatment of loss from sale of shares

The counsel appearing for the Taxpayer, Mr. Soli Dastur, argued that the normal computation provisions under the Income-tax Act would apply when the exemption is granted to only a ‘part’ of the source of income. It was argued that exemption provided under section 10(38) was applicable only to listed equity shares and units of equity oriented funds, and was also conditional. It was argued that in such a situation, the exemption applied only in case there was a gain from the transaction. It was therefore argued that in a scenario where the transactions resulted in a loss to the Taxpayer, then the normal computation provisions would apply.

Reliance was placed on an ruling of the Calcutta High Court in the case of Royal Calcutta Turf Club Vs CIT, which was on the issue of exemption given to breeding horses and pigs under section 10(27).

Ruling of the Mumbai Tribunal

The Mumbai Tax Tribunal accepted the arguments advanced on behalf of the Taxpayer and ruled that losses from sale of long-term capital asses, being equity shares, can be claimed as set-off. The Tribunal took note the ruling by the Gujarat High Court, the facts of which case were more appropriately applicable, but preferred to adopt the view of the Calcutta High Court as it found the latter’s view to be based on precedents laid down by the Apex Court.

 

Our view

The aforesaid ruling being a decision at the Tribunal level, the same is unlikely to result in any re-thinking of the stand adopted by Revenue authorities. However, Taxpayers may consider lodging a claim of set-off of any such losses suffered by them, to keep the option of availing set-off of such losses open.

Action Steps by Taxpayers

Review the positions taken in relation to losses on sale of equity shares and lodge claim for set-offs.  The option of filing a revised return can also be explored, if the amounts involved are material and time-line window for revised return is still available. Such claims can also be made at the audit stage, if the audits are open. We would also recommend to assess the mitigating option of paying tax even while making a claim for set-off of long-term capital loss.

Even where there is no immediate need for set-off, claims for losses suffered may be made to secure such a right to set-off against a future foreseeable gain.