Per Shri G. Santhanam, Accountant Member - These are appeals by the department and as common points are involved, a consolidated order is passed for the sake of convenience.
2. The appeals are time barred by 27 days. The IAC (Assessment) has explained the reasons for the delay in the submission of the appeals within the prescribed tome in his letter supported by affidavit. As we are satisfied with the reasons stated therein, the appeals are entertained for disposal.
3. The first point of dispute is with regard to the amount of claim of the assessee under section 80-O of the Income-tax Act, 1961 (the Act).
The assessee is a Government of India undertaking operating dredgers and running incidental technical services. It had undertaken a port management contract as a sub-contractor to Star Navigation Co., Zedda, and supplied the technical services for the management of the port of Yambu in Saudi Arabia. In the assessment year under appeal, it received a gross amount of Rs. 3,48,73,543 for services rendered. The administrative and establishment expenses in carrying out this contract were of the order of Rs. 53,20,048. Operational expenditure by way of wages for the crew and mobilisation expenses, etc., amounted to Rs. 54,17,764. Thus, both the administrative expenditure and the operational expenditure aggregated to Rs. 1,07,38,082. After deducting the said expenditure, this contract resulted in an income of Rs. 2,41,35,461 for the assessment year 1980-81. The assessee claimed as deduction the whole of the gross receipts in foreign exchange amounting to Rs. 3,48,73,543. The IAC (Assessment) took the net income of Rs. 2,43,35,046 for the purposes of deduction under section 80-O. There is no dispute before us regarding the eligibility of the assessee for deduction under section 80-O. The dispute is only about the quantum of deduction. The assessee relied on the decision of the Supreme Court in Cloth Traders (P.) Ltd. v. Addl. CIT [1979] 118 ITR 243. The Commissioner (Appeals) held that the operative part of section 80-O does not refer to either the gross income or net income or gross receipts and the qualifying amount would be the amount that has been received in convertible foreign exchange in India or, having been received outside India, is brought into India. Thus, he held that the amount that has been brought into India would be eligible for deduction. It was his view that the expenditures laid out in the foreign country were laid out to earn income and cannot be considered as having been utilised outside India. He found that a sum of Rs. 2,59,36,565 was the amount repatriated to India and he allowed the same as being eligible for deduction under section 80-O. He also directed the IAC (Assessment) to keep on his record a statement duly certified by the corporation of the actual amount brought into India and to keep in mind the provisions of section 80A (2) of the Act in allowing this claim.
4. Shri P. Radhakrishnamurthy, the learned departmental representative submitted that the deduction under section 80-O should be only with reference to the net income and should not exceed the gross total income as per the provisions of section 80A (2). He also submitted that the decision of the Supreme Court in Cloth Traders (P.) Ltd.s case (supra) stands overruled in the decision of the Supreme Court in Distributors (Baroda) (P.) Ltd. v. Union of Indian [1985] 155 ITR 120.
Therefore, he argued that only the net income included in the gross total income should have been allowed and the Commissioner (Appeals) erred in allowing a larger amount.
5. Shri V. Seetharamaiah, the learned chartered accountant for the assessee, relied on the orders of the Commissioner (Appeals).
6. Having regard to rival submissions and the materials on record, we have to set aside the order of the Commissioner (Appeals) on this point. Section 80-O is as follows : "Where the gross total income of an assessee, being an Indian company, includes any income by way of royalty, commission, fees or any similar payment received by the assessee from the Government of foreign State or a foreign enterprise in consideration for the use outside India of any patent, invention, model, design, secret formula.... and such income is received in convertible foreign exchange in India, or having been received in convertible foreign exchange outside India, is brought into India, the time being in force for regulating payments and dealings inforeign exchange, there shall be allowed, in accordance with and subject to the provisions of this section, a deduction of the whole of the income so received in, or brought into, India in computing the total income of the assessee;" The assessee claimed the gross income received in the foreign country as being eligible for deduction; the IAC (Assessment) allowed only the net income arising to the assessee. The Commissioner (Appeals) allowed the amount that was brought into India. The opening words of section 80-O, viz., Where the gross total income of an assessee... includes any income by way of royalty, commission,... describe the condition which must be fulfilled in order to attract the applicability of the provisions contained in section 80-O. The condition is that the gross total income of the assessee must include income by way of the specified categories. Gross total income is defined in section 80B Column IV of the Act to mean total income computed in accordance with the provisions of the Act before making any deduction under Chapter VI-A or section 280-O. Therefore, income by way of royalty, commission, fees or any similar payment or the payment of the nature received by the assessee included in the gross total income would obviously be income computed in the gross total income would obviously be income computed in accordance with the provisions of the Act. In other words, it could mean only the gross income minus expenditure thereon, i.e., the net income. Therefore, the words such income must refer not only to the category of income included in the gross total income, but also to the quantum of income so included. On a plain reading of section 80-O, it is not every net income that is earned outside India which is eligible for deduction under section 80-O. Such income should be received in convertible foreign exchange in India, or having been received in convertible foreign exchange outside India, is brought into India by or on behalf of the assessee in accordance with the Foreign Exchange Regulations Act. In this case, the Commissioner (Appeals) allowed a sum of Rs. 2,59,36,565 being the amount that was repatriated to India, whereas the net income earned by the assessee during the year in the foreign assignment is only of the order of Rs. 2,41,35,461. In the light of our discussions, the entire amount that was repatriated to India during their year is not eligible for deduction. It is only that part of the amount repatriated to India which is referable to the net income earned in the foreign assignment and included in the gross total income that is eligible for deduction under section 80-O. In this view of the matter, we are supported by the provisions of section 155(12) of the Act. In terms of that section, if the income earned in convertible foreign exchange outside India in an earlier year is ultimately repatriated to India in some other year, the taxing authority is bound to rectify the assessment of that year in which the income is so earned, and the limiting period of four years for this purpose is to be reckoned from the due on which such income is so received if brought into India. Therefore, the Commissioner (Appeals) erred in roping in the sums which were previously earned by the assessee outside India in convertible foreign exchange and were brought into India during the previous year relevant to the assessment year 1980-81. This is not warranted in terms of section 80-O read with section 155(12). The emphasis in section 80-O is on such income included in the gross total income and that too received in or brought into India.
The second point of dispute is about the taxability of the amount of bills raised during the previous year for work done by the assessee, the details of which are as follows : 7. The assessee adopted the mercantile system of accounting. In the earlier years, it had offered as income the bills raised by it on its customers. Subsequently, when such bills were not accepted by the customers, the assessee used to make a claim of bad debts for the unrealised portion. In this year, it is the assessees contention that there were certain disputes between the assessee and the customers in respect of idle time, quantity of work done, escalation in prices, etc., and, therefore, the assessee did not include these amounts as part of its income as it considered the realisation of these amounts to be extremely doubtful. The IAC (Assessment) was of the view that a major part of these amounts was recovered later on and the assessee in this year had departed from its method of accounting and, therefore, he brought to tax the entire amount. The Commissioner (Appeals) went through the nature of the dispute in all these case was and adopted the reasoning that unilateral claims did not give rise to income and it is only when the amount was quantified either by arbitration or by settlement or by mutual agreement that the income accrued to the assessee. Therefore, he deleted the additions made by the IAC (Assessment). The department is aggrieved over this.
8. Shri Radhakrishnamurthy submitted that there was no reason in this year for the assessee to depart from the method of accounting that was consistently followed by the assessee in the previous years in respect of these bills realised against the shipyard and port trusts.
9. On the other hand, Shri Seetharamaiah submitted that the assessee can certainly change its method of accounting taking into account the realities of the circumstances and also on account of the experience gained by the assessee in the course of its business. He submitted that while income should be computed in accordance with the method of accounting employed by the assessee, the basic question whether income accrued at all would not depend upon a particular entry passed by the assessee. In this case, the bills raised by the assessee were all unilateral bills and these bills were never acknowledge by the customers. No liability arose for the customers on account of these bills and no income accrued to the assessee. Therefore, he submitted that the order of the Commissioner (Appeals) should be sustained.
10. We have heard rival submissions and perused the materials on record.
10.1 The first item is a claim on Cochin Shipyard for a sum of Rs. 56,16,752.67. This was in pursuance of a contract for dredging Ernakulam channel. The quantity to be dredged was 60 lakh cu. m. and the permissible variation limit was +/- 25 per cent. It was stipulated in the contract that the rate for the quantity in excess of the variation limit would be mutually agreed upon. The assessee was entitled to be compensated for escalation in prices of fuel, wages and prices of material other than fuel. There was an extended period for the completion of the dredging work. The actual quantity dredged was about 9.1 lakh cu. m. As the contract rates were applicable only for 6 lakh cu. m. +/- 25 per cent, the assessee claimed payment on time basis for the excess work done. There was also dispute pertaining to the rate at which the work in excess of the variation was to be computed. The work was done in two phases : phase 1 and phase 2. The income was reported in two assessment years, 1979-80 and 1980-81. The arbitrator gave his award in March 1981.
10.1(a) The claim of Cochin Shipyard for liquidated damages was rejected but the arbitrator. The board of directors at their meeting held on 23-6- 1981, accepted the arbitration award. The Commissioner (Appeals) held that until the arbitration award was made and accepted, income did not accrue to the assessee in respect of the disputed amount for which claims were made unilaterally by the assessee.
10.2 Similarly, in the case of work done for Madras Port Trust, the estimated quantity of dredging was 5 lakh cu. m. with +/- 25 per cent variation. There was delay on the part of the Madras Port Trust in arranging the reclamation of sites free of physical obstructions. On account of this delay, the assessee claimed a total amount of Rs. 1,60,41,377 out of which an amount of about Rs. 1.06 crore was paid and an amount of Rs. 54.41 lakhs was in dispute. The disputed claim was under various heads, viz., delay due to non-handing over of sites, idle time of dredger due to non-availability of floating crane, idle time due to swells at dredging site and obstructions, etc. These matters were thrashed out by mutual discussion and settlement. For all the said claims, debit notes to the extent of Rs. 14.25 lakhs were sent before 31-3-1980. After protracted negotiations, ultimately a settlement was reached between the representative of Madras Port Trust and the assessee in which the port trust agreed to pay Rs. 37,72,309 and the assessee agreed to give up its claim for Rs. 16,66,210. The settlement was reached on 3-2-1982 and was approved by the board of directors of the assessee at their meeting held on 24-9-1982. The amount received under the assessment, viz., Rs. 37,72,309 was offered as income in the assessment year 1982-83. The Commissioner (Appeals) allowed the claim of the assessee on the ground that in this case the settlement was reached only on 3-2-1982 and was approved by the board of directors on 24-9-1982 and, therefore, no income accrued to the assessee till that date.
10.3 There were two claims with Calcutta Port Trust for Rs. 1,70,684 towards hire of dragger for forced idle time and Rs. 6,949 towards hire charges of a launch. It was only in December 1980 that the Calcutta Port Trust had agreed to pay 50 per cent of the former claim and full amount of the latter claim. The Commissioner (Appeals) took cognisance of the date of settlement and allowed the claim of the assessee.
10.4 The fourth item pertains to a demand of Rs. 1 lakh from the Tuticorin Port Trust. The assessee claimed an amount of Rs. 11 lakhs from Tuticorin Port Trust towards mobilisation charges of a hopper barge and two numbers of Grates. From the letter of the port trust dated 5-8-1980, it is evident that the assessee could not mobilise the Grates though the hopper barge was mobilised. Tuticorin Port trust informed the assessee that Rs. 1 lakh would be made available to it only when the Grates are mobilised. The Commissioner (Appeals) held that in view of the conditions put by the customer, no income accrued to the assessee as far as this amount of Rs. 1 lakh is concerned.
11. We uphold the order of the Commissioner (Appeals) on the issues covered in paragraphs 10.1 to 10.4 above. The reason is that unilateral claims do not give rise to accrual or receipt of incomes. In all cases of contracts, if there is dispute over the amount of claim, unless the dispute is settled by way of arbitration or negotiation or settlement, it cannot be said that income really accrued to the assessee. In CIT v.A. Gajapathy Naidu [1964] 53 ITR 114, the Supreme Court explained the meaning of the words accrue and arise as follows : "... both the words are used in contradistinction to the word receive and indicate a right to receive. They represent a stage anterior to the point of time when the income becomes receivable and connote a character of the income which is more or less inchoate." (p. 372) [quotation from the decision in Rogers Pyatt Shellac & Co. v. Secretary of State for India 1 ITC 363 (Cal.).] "Under this definition accepted by this a court, an income accrues or arises when the assessee acquires a right to receive the same... When does the right to receive an amount under a contract accrue or arise to the assessee, i.e., come into existence That depends upon the terms of a particular contract. No other relevant provision of the Act has been brought to our notice-for there is none which provides an exception that though an assessee does not acquire a right to receive an income under a contract in a particular accounting year, by some fiction the amount receive by him in a subsequent year in connection with the contract, though not arising out of a right accrued to him in the earlier year, could be related back to the earlier year and made taxable along with the income of that year.... No power is conferred on the Income-tax Officer under the Act to relate back an income that accrued or arose in a subsequent year to another earlier year on the ground that the said income arose out of a earlier transaction.... " (p. 118) In this case also, the Supreme Court considered the import of the two recognised methods of accounting-cash basis and mercantile basis.
Applying the ratio of the decision of the Supreme Court to the facts of the case before us, we come to the conclusion that even though the assessee was following mercantile system of accounting, no right to income arose during the previous year when the assessee made unilateral claims against the customers. These claims were made on account of the work done in excess of the quantity contracted. So, unless these claims are acknowledged or accepted or negotiated upon, and reached a final stage either through settlement or arbitration or otherwise, the assessee cannot claim to recover this amount as a matter of right and when this right is conspicuous by its absence, no income accrued to the assessee until then. Therefore, we uphold the order of the Commissioner (Appeals).
12. Another related issue in regard to these disputes in whether the assessee is entitled to adopt a different method of accounting in respect of the disputed amounts. Earlier, the assessee used to raise these controversial bills, debit the account of the customers and offer the amount as income for assessment. As and when the amounts are finally settled, the amount unsettled would be known and was treated as bad debts writted off for which the assessee used to put up claim under section 36 of the Act. It is the assessees case that in view of huge sums involved and also the nature of dispute involving protracted negotiations, it felt genuine difficulty in adopting this accounting procedure which might inflate its profits and which as a Government company it is not permitted to do. Therefore, taking into account the practical difficulties and the uncertain nature of the claims, it felt that it would be enough to set up proforma invoices for such disputed claims against its customers and, therefore, when the dispute is resolved and the amount is agreed upon, the assessee wanted to offer the same as income in respect of disputed claims. We are of the considered view that this type of accounting is only an accounting procedure and does not partake of the nature of method of accounting which is either cash basis or mercantile basis. The assessee is obviously following the mercantile system of accounting, but in respect of the disputed claims, a different accounting procedure was set up by raising only proforma invoices. This is in accord with the accrual concept in respect of disputed claims. Unless the claim is settled, no income accrues and when income accrues at that point, the same will be taken care of. Therefore, according to us, there is no change in the method of accounting adopted by the assessee which continues to remain mercantile system of accounting. Only accounting procedure for disputed claims was streamlined.
13. Even assuming without admitting that this involved a change in the method of accounting, we are of the view that the assessee has a right to effect change in the method of accounting in deference to commercial expediency and sound business practices in relation to disputed claims so that its real income may be reflected in its accounts. [See Allahabad High Court decision in CIT v. Cosmopolitan Trading Co. (No.2) [1979] 116 ITR 815 AT P. 818.] 14. An amount of Rs. 59,21,248 towards reimbursement of systems duty on supply of imported spares in respect of certain dredgers used for Mangalors Port Trust was added as income by the IAC (Assessment). On this point, the Commissioner (Appeals) stated as follows : "There was a claim of Rs. 49,21,249 towards reimbursement of customs duty paid for import of spare parts for certain dredgers which were used for Mangalore Port Trust. It is stated that the company claimed reimbursement of the said amount of the basis of payment made. Accruing to the contract, whatever spare parts are needed during dredging, the customs duty paid on the spares would be reimbursed by the customer, subject to a ceiling. Appellant knew beforehand whatever was the spares needed. Appellant procured the material and duty was paid. When duty was first paid, it was debited to customers deposit account. F. O. B.plus customs duty is debited to stock of spares. When it is issued for vessels, it is debited to profit and loss account and credited to stock account. From cash, it is converted into inventory. Claims are made according to the bills of entry." We are unable to appreciate the true nature of the transaction and the claims made by the assessee in this behalf. There is no useful discussion on this point in the order of the IAC (Assessment) also. The Commissioner (Appeals) accepted the plea of the assessee that this is a simple case of reimbursement of expenditure and no income arose at all in a reimbursement. From the facts available on the recovered, we are unable to comprehend the true nature of the transaction; nor was any light thrown on this respect of the matter by either side. Therefore, we have to set aside the order of the Commissioner (Appeals) and restore the matter to the file of the IAC (Assessment) to verify and consider the submissions made by the assessee in this behalf as detailed by the Commissioner (Appeals) and decide the same on merits in accordance with law. Adequate opportunity should be given to the assessee to substantiate its claim.
"The Commissioner (Appeals) also failed to appreciate the fact that there were agreements with the customers, viz.
for rendering certain services, as are evidenced by the correspondence between the assessee and the customers and services were in fact rendered in pursuance of those agreements and he should have, therefore, held that the income represented by the sum of Rs. 1,31,29,002 actually accrued in the year of account notwithstanding the disputes referred to by the assessee." On a perusal of the order of the IAC (Assessment), it would be clear that he was only questioning the assessees claim that no income accrued during the previous year in respect of the disputed bills. In no part of his order has he referred of the contracts or the correspondence between the assessee and the customers on which the specific ground as above is taken by the department before us. However, the Commissioner (Appeals) took pains to go into the contracts and listed out the nature of the disputes item wise from paragraphs 7 to 14 of his order,.
Therefore, as we have already upheld the findings of the Commissioner (Appeals) on the main contention whether these disputed bills give rise to accrual of income except in the case of the assessees claim in respect of Mangalore Port Trust where we have re mitted the matter back to the IAC (Assessment), we reject this ground of appeal.
16. For the assessment year 1981-82, the first point of dispute is whether the amount of Rs. 3,64,075 representing expenditure incurred on the occasion of the visit of the King of Saudi Arabia did not amount to entertainment expenditure within the meaning of section 37(2A) of the Act. The facts of the case are briefly as follows. The assessee-company executed a contract for the management of the port of Yambu. During the period form August 1977 to February 1981, it was a sub-contractor of Star Navigation Co. The king of Saudi Arabia was invited to dedicate the project on 17-11- 1979. In connection with the opening ceremony, the contractors working at the port of Yambu were asked to meet the expenditure in connection with preparation of artificial greenry, supply of flages, erection of arches, etc. The expenditure was shared between the main contractor and the assessee as a subcontractor. The assessees share of the expenditure was Rs. 3,29,688 only. This was in connection with supplying about 900 flags from India costing Rs. 4.10 lakhs. The IAC (Assessment) disallowed this expenditure. The Commissioner (Appeals) found that the amount was not incurred on hot drinks or be averages. There was no provision of hospitality of any kind attributable to the assessee. The words in any other manner whatsoever following the words whether by way of provision of food and beverages limit the meaning and content of what other kinds of ho spitality could be, and must be related to provision of food, beverages other types of customary entertainment. He also noted that the royal guests were only doing an official duty and it was in connection with the deduction ceremony as a fitting finale to the completion of the contract and, therefore, the held that the amount does not represent entertainment expenditure.
17. Having regard to rival submission and the materials on record, we have no hesitation in upholding the order of the Commissioner (Appeals) on this point. The cost incurred for the supply of national flages could never be viewed as entertainment expenditure. Even the preparation of artificial greenry and erection of arches are only in connection with the inaugural function.Entertain would mean to amuse, occupy agreeably or to receive hospitably. In matters of entertainment, there is an element of personal gain on the part of the giver and the given. Normally, it is associated with the provision of food, beverages, performances of are and show-dance, drama and music-and provision of conveyance and lodging. The expenditure was not on this count. Therefore, the expenditure of the kind incurred by the assessee is not covered by section 37(2A) read with Explanation (II). For these reasons, we uphold the order of the Commissioner (Appeals) on this issue.
18. Another related dispute is with regard to a sum of Rs. 4,387 being expenditure in connection with the Board meeting. The Commissioner (Appeals) took the view that the amount was spent in the course of conducting an official meeting of the board of directors and this cannot be viewed as an entertainment expenditure.
19. Having regard to rival submissions, we are of the view that the directors of the assessee-company are as much the servants of the company as they are the agents of the company and any expenditure even on entertainment spent for the staff of the company is no hit by section 37(2A) in view of the Explanation (ii). Therefore, this expenditure was rightly allowed by the Commissioner (Appeals) 20. The Commissioner (Appeals) has further allowed a sum of Rs. 30,000 on the basis of the slab rates permitted under section 37(2) out of the following : From the order of the IAC (Assessment), it is not known whether the above expenditures, though on entertainment, were incurred for purposes of the business of the assessee. The Commissioner (Appeals) has simply remarked that the first items of Rs. 30,000 is admissible on the basis of the slab rates permitted under section 37(2) of the Income-tax Act.
In the context of these summary figures and the summary remarks, we are unable to appreciate properly whether the expenditure, though on entertainment, was really incurred for purposes of the business and we do not know what figure and what category of expenditure the Commissioner (Appeals) had in mind when he referred to Rs. 30,000 as being eligible for allowance on the basis of slab rates under section 37(2). Therefore, we set aside the order of the Commissioner (Appeals) on this point and restore it to his file to verify and give a clear finding on the nature of the expenditure and whether the same is related to business or not.
21. The next point of dispute is about the taxability of the amount of bills raised during the previous year for work done by the assessee, the details of which are as follows : The Commissioner (Appeals) has dealt with the nature of the disputes in great detail in paragraphs 3 to 6 of his order. The claim of the assessee in all these cased was disputed by the customers and was referred to arbitration or was resolved by settlement or otherwise by mutual agreement in the case of Tuticorin Port Trust, Madras Port trust and Visakhapatnam Port trust. In the case of A. C. C., it was found that the assessees claim for idle time due to delay in commencing dredging operations was not in terms of the agreement and ultimately the claim was withdrawn,. For these reasons, the Commissioner (Appeals), following his earlier order in the case of the same assessee, deleted the additions made by the IAC (Assessment). We have already held in paragraph 11 of this order that unilateral claims do not give rise to accrual or receipt of income and that there was no change in the method of accounting by the assessee but only the accounting procedure was streamlined in response to the call of business expedinency and sound business practices in relation to the disputed claims. These reasoning will apply to the facts in relation to this assessment year also. Therefore, we uphold the order of the Commissioner (Appeals) on this point.
"The Commissioner (Appeals) also failed to appreciate the fact that there were agreements with the customers, viz., for rendering certain services, as are evidences by the correspondence between the assessee and the customers and services were in facts rendered in pursuance of these agreements and he should have, therefore, held that the income represented by the sum of Rs. 1,48,77,973 actually accrued in the year of account notwithstanding the disputes referred to by the assessee." Similar ground was raised for the assessment year 1980-81 also and in paragraph 15 we have dismissed the ground stating the reasons therefor.
For similar reasons, we reject this ground of appeal.