By TIOL News Service

KOLKATA, JULY 28, 2016: THE issue is - Whether where a provision is made for payment of gratuity to retiring employees in respect of previous year, then the assessee is entitled to claim the deduction u/s 40A(7)(b)(i) even if actual payment is not made. YES is the answer.

Facts of the case

A) The assessee is a company engaged in the business of manufacture and sale of jute goods. The AO had not allowed the ascertained and determined gratuity liability of Rs. 4,19,97,464/- being in respect of those employees who had retired during the year on the grounds that (a) since no provision for the same was made in the accounts (b) since the assessee company followed mercantile system of accountancy except in the case of gratuity liability which was accounted for on cash basis (c) since the assessee company had no approved gratuity fund and 9d) since no actual payment was made during the year. Before the CIT(A) the assessee submitted that the issue may kindly be decided by following the view taken in A/Ys 2001-02, 2002-03 and 2003-04 on identical issue. Against order of CIT(A) in A/Y 2001-02 and 2002-03 the Revenue had preferred appeal before ITAT and the same has been settled in favour of the assessee. The assessee also drew the attention of the CIT(A) to a decision of ITAT, 'C' Bench, Kolkata in respect of their order in case of Hooghly Mills Project Ltd for the A/Ys 2001-02 and 2002-03 wherein under similar set of facts and circumstances as in the present of the assessee, it has been held by the Tribunal that such liability for gratuity in respect of those employees who had retired during the year is allowable u/s 40A(7)(b) even if no provision for the same had been made in the accounts. The CIT(A) following the decision of ITAT in the assesses own case had directed the A.O. to allow the gratuity liability of Rs. 4,19,97,464/- claimed by the assessee.

B) The AO had disallowed the claim of deduction of charity of donation of Rs. 6,80,000/- made during the year. The AO had held that the assessee has not furnished certificate under section 80G in respect of payment of Rs. 6,80,000/- and as such no deduction u/s 80G is allowed. The CIT(A) directed the AO to consider deduction under section 80G, if certificate in proof of the claim u/s 80G is filed.

C) The AO had made addition of Rs. 4,04,43,067/- as dividend u/s.2(22)(e). The CIT(A) had deleted the treatment of Rs. 4,04,43,067/- as deemed dividend income u/s. 2(22)(e) in respect of loans received during the year by the assessee.

D) On the basis of certain information that the M/s S.S. International proproitor Sri. Swararmal Jhunjhunwala has issued cheque of Rs. 2,06,92,409/- to assessee immediately after depositing cash in the bank account maintained in Axis Bank., the assesee was asked to explain the nature of transactions. In reply it was submitted by the assesee that the assessee is having no transaction with the given party. It was further submitted that some of the cheque received from the said party has been credited in the account of M/s Pankaj Jute Company against sale of Jute. However since no supporting evidence to prove that the amount in question received from the account of M/s S.S International is a sale proceed the AO treated the same as unexplained cash credit under section 68.The AO had made addition of Rs. 2.05.92,407 which was confirmed by the CIT-A as unexplained cash credit u/s 68.

Having heard the parties, the Tribunal had held that,

Gratuity liability

++ it is found that on identical grounds claim for deduction of gratuity liability was denied by the Revenue in A/Y 2001-02 and this Tribunal dealt with the identical issue holding that the Guwahati High court has held that if a provision is made for payment of gratuity to retiring employees in respect of previous year, the assessee is entitled to claim the deduction u/s 40A(7)(b)(i) even if actual payment was not made and the claim could not be denied u/s 43B and/or 40A(7)(a);

Deemed dividend

++ the Tribunal is concerned with the second limb of Sec.2(22)(e). The following conditions are required to be satisfied for application of the above category of payment to be regarded as Dividend. They are (a) There must be a payment to a concern by a company. (b) A person must be Shareholder of the company being a registered holder and beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power. This is because of the expression "Such Shareholder" found in the relevant provision. This expression only refers to the shareholder referred to in the earlier part of Sec.2(22)(e) viz., a registered and a beneficial holder of shares holding 10% voting power.(c)The very same person referred to in (b) above must also be a member or a partner in the concern holding substantial interest in the concern viz., when the concern is not a company, he must at any time during the previous year, be beneficially entitled to not less than twenty percent of the income of such concern; and where the concern is a company he must be the owner of shares, not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits, carrying not less than twenty percent of the voting power(d) If the above conditions are satisfied then the payment by the company to the concern will be dividend;

++ the Special Bench of ITAT, Mumbai, in the case of Bhaumik Color Labs, had held that deemed dividend can be assessed only in the hands of a person who is a shareholder of the lender company and not in the hands of a person other than a shareholder. since the Assessee in the present case is not a shareholder in the lender company, it is view that the above decision is squarely applicable to the facts of the Assessee's cas. No infirmity is found in the order of CIT(A) holding that no addition on account of deemed dividend u/s.2(22)(e) can be made in the facts and circumstances of the present case;

Disallowance u/s 14A r/w Rule 8D

++ the Calcutta High Court in the case of CIT Vs. M/s R R Sen & Brothers Pvt.Ltd, held that computation of 1% of exempt income as disallowance u/s.14A was proper. The Bombay High Court in the case of Godrej & Boyce Mfg. Co. Ltd. v. Dy. CIT has held that Rule 8D could not be considered as retrospective and the said Rule could be applied only with effect from the A/Y 2008-09. Further, the Bombay High Court also observed in the above-referred case that the AO would first be required to check the concerned assessee's offer of disallowance and only after recording his dissatisfaction, if any, the AO could commute the amount to be disallowed in accordance with subsection (2) of section 14A. The above-referred subsection (2) of section 14A was inserted by the Finance Act, 2006, with effect from the A/Y 2007-08. The Assessee's case being for the A/Y 2003-04, there cannot be any applicability of the above-referred sub-section (2) of section 14A or Rule 8D in the Assessee's case for the A/Y 2006-07. In the given circumstances, the quantum of disallowance had to be decided in the light of the decisions rendered by the ITAT Kolkata Benches in the cases referred to by the CIT(A) in the impugned order. In those decisions, the ITAT, Kolkata Benches have consistently taken a view that 1% of the exempted income/dividend shall be considered as expenses/expenditure relating to the earning of exempted income u/s 14A in the assessment years where the rule 8D was not applicable. The same has also been upheld by the Calcutta High Court in the case of M/S.R.R.Sen & Brothers Pvt.Ltd. Following those rulings, it is held that 1% of the exempt income alone should be disallowed u/s.14A.

(See 2016-TIOL-1327-ITAT-KOL)