Som Distilleries & Breweries Ltd vs CIT

Case Commentary: Som Distilleries & Breweries Ltd vs. DCIT (ITA No. 495 & 516/Ind/2018)

Introduction
The Income Tax Appellate Tribunal (ITAT), Indore Bench, delivered a significant ruling in the cross-appeals of Som Distilleries & Breweries Ltd (ITA No. 495/Ind/2018 and ITA No. 516/Ind/2018) for Assessment Year 2012-13. The judgment, pronounced on 24 October 2019, addressed two pivotal issues: the validity of ad-hoc disallowance of business expenses and the retrospective applicability of the second proviso to Section 40(a)(ia) of the Income Tax Act, 1961. The Tribunal, comprising Judicial Member Kul Bharat and Accountant Member Manish Borad, set aside an ad-hoc disallowance of ₹17,06,811 and upheld the deletion of a ₹7,96,79,206 disallowance under Section 40(a)(ia) for non-deduction of TDS on royalty payments. This commentary provides a deep legal analysis of the reasoning, precedents, and implications of this judgment.

Facts of the Case
The assessee, Som Distilleries & Breweries Ltd, is engaged in manufacturing beer and bottling Indian Made Foreign Liquor. It filed its return of income on 21 December 2012, declaring total income of ₹12,67,29,170. The Assessing Officer (AO) selected the case for scrutiny under Section 143(3) of the Act. During assessment, the AO made two key additions:

1. Ad-hoc disallowance of expenses: The AO disallowed 5% of general and travelling expenses (₹17,06,811) on the ground that some vouchers were missing, self-made, or not properly maintained. No specific instances of excess or bogus claims were recorded in the Assessment Order.
2. Disallowance under Section 40(a)(ia): The AO disallowed royalty payments of ₹7,96,79,206 made to United Breweries Ltd, citing non-deduction of tax at source under Section 194J of the Act.

The Commissioner of Income Tax (Appeals) [CIT(A)] partly allowed the assessee’s appeal. The CIT(A) confirmed the ad-hoc disallowance but deleted the Section 40(a)(ia) disallowance, directing the AO to verify whether United Breweries Ltd had offered the royalty income to tax. Both parties appealed to the ITAT: the assessee challenged the ad-hoc disallowance, and the Revenue challenged the deletion of the Section 40(a)(ia) disallowance.

Reasoning of the Tribunal
The Tribunal’s reasoning is structured around two distinct issues, each addressed with meticulous legal analysis.

1. Ad-hoc Disallowance of Expenses (Assessee’s Appeal)
The Tribunal held that the ad-hoc disallowance of ₹17,06,811 was unsustainable. The AO had made this addition based on a test check of vouchers, noting that some were missing or self-made. However, the Assessment Order lacked specific findings linking these deficiencies to excess or unverifiable expenses. The Tribunal emphasized that:
– The assessee is a limited company with a huge turnover and audited books of accounts. It had declared significant income (₹12,67,29,170) and offered it to tax.
– Ad-hoc disallowances cannot be made as a mere formality. The AO must provide clear, expressive findings to justify such additions. In this case, the AO failed to demonstrate that the expenses were not genuine or that the assessee had claimed excess amounts.
– The Tribunal relied on three key precedents:
– Brilliant Estate Pvt Ltd vs. DCIT (ITA No. 349/Ind/2017, dated 13.12.2018): The Co-ordinate Bench of ITAT Indore held that ad-hoc disallowances without specific evidence are invalid.
– ACIT vs. Modi Rubber Limited (ITA No. 1952/Del/2014, dated 15.05.2018): The Delhi ITAT Bench ruled that disallowances must be based on concrete findings, not assumptions.
– Friends Clearing Agency (P) Ltd vs. CIT (2011) 9 taxmann.com 238 (Delhi): The Hon’ble Delhi High Court held that disallowances cannot be made on a presumptive basis when books are audited and income is declared.

The Tribunal concluded that the AO’s action violated principles of natural justice, as the assessee was not given a meaningful opportunity to rebut specific allegations. Consequently, the ad-hoc disallowance was deleted, and the assessee’s appeal was allowed.

2. Disallowance under Section 40(a)(ia) (Revenue’s Appeal)
The Revenue challenged the CIT(A)’s deletion of the ₹7,96,79,206 disallowance, arguing that the second proviso to Section 40(a)(ia) is not retrospective. The Tribunal, however, upheld the CIT(A)’s order, providing a detailed analysis of the provision’s legislative intent.

– Nature of the Second Proviso: The second proviso to Section 40(a)(ia) was inserted by the Finance Act, 2012, with effect from 1 April 2013. It provides that no disallowance shall be made if the payee has included the income in their return and paid tax thereon. The Tribunal, following the ITAT Agra decision in Rajeev Kumar Agarwal vs. Addl. CIT (165 ITJ 228), held that this proviso is declaratory and curative in nature. It clarifies the original intent of Section 40(a)(ia), which was to prevent revenue loss, not to penalize TDS lapses when the income is already taxed.
– Retrospective Application: The Tribunal ruled that the second proviso has retrospective effect from 1 April 2005, the date when Section 40(a)(ia) was originally inserted. This interpretation aligns with the principle that procedural or curative amendments should apply retrospectively to avoid unjust outcomes.
– Compensatory vs. Penal Nature: The Tribunal distinguished between the compensatory purpose of Section 40(a)(ia) and the penal provisions under Section 271C. It observed that Section 40(a)(ia) is designed to ensure that income embedded in an expenditure is not left untaxed due to TDS lapses. If the payee has already offered the income to tax, the disallowance serves no purpose. The CIT(A) had correctly set aside the issue to the AO to verify whether United Breweries Ltd had filed its return and paid taxes on the royalty income.

The Tribunal noted that the Revenue could not controvert the fact that the issue was squarely covered by judicial precedents. Therefore, the Revenue’s appeal was dismissed, and the CIT(A)’s order was upheld.

Conclusion
The ITAT Indore’s judgment in Som Distilleries & Breweries Ltd reinforces two critical principles of tax jurisprudence:
1. Evidence-Based Disallowances: Ad-hoc disallowances without specific findings are unsustainable, especially when the assessee maintains audited books and declares substantial income. The Tribunal’s reliance on precedents like Friends Clearing Agency underscores the need for the Revenue to provide concrete evidence before making additions.
2. Retrospective Application of Curative Provisions: The second proviso to Section 40(a)(ia) is declaratory and curative, applying retrospectively from 1 April 2005. This ensures that the provision’s compensatory intent is not defeated by technical TDS lapses when the income is already taxed in the payee’s hands.

This ruling provides clarity for businesses on expense claims and TDS compliance. It emphasizes that disallowances must be based on substantive findings, not procedural shortcuts. The judgment also aligns with the broader judicial trend of interpreting tax provisions to prevent revenue loss rather than impose penalties for technical defaults.