Circular : No

Circular : No. 1 [F. No. 4/28/68-WT], dated 27-1-1969.

1350. Ownership flats of members of tenant co-partnership societies - Whether exempt under clause (iv) of sub-section (1)

1. Under the existing instructions, the Wealth-tax Officers do not allow the exemption under section 5(1)(iv), in the cases of members of co-operative societies of the tenant co-partnership type, on the ground that the legal ownership over the flats vests with the society and not with the individual members. It has been represented to the Board that these societies are usually only lessees of the flats, the legal ownership of which really vests with the individual members. The normal procedure in such cases is that an agreement is entered into between the builder and each purchaser of flat in the building proposed to be constructed. The purchaser pays the entire cost of the flat in instalments spread over the period of construction. As soon as the building is completed, the builder gives the possession of the flats to the various purchasers, who then join together to form a co-operative society. The builder who had originally taken the land on lease or free-hold, transfers the land and the building thereon to the co-operative society. The society then allots the tenancy in the flats to the members in such a way that each member gets the tenancy rights over the flats which he has purchased.

2. The Board are advised that under this arrangement the legal ownership in the flats vests with the individual members and that the exemption under section 5(1)(iv) would be available to the members of such a society. The cases of the tenant co-partnership societies would be scrutinised by the Wealth-tax Officers to see that the co-operative society is only a lessee and the individual members are the real owners. If it is found that this is so, the owners of the flats would not be denied exemption under section 5(1)(iv).

Circular : No. 2 [F.No. 1/164/68-TPL], dated 6-2-1969.

Section 193 l Interest on securities

1005. Whether instructions issued in 1966 to bar person responsible for paying interest from taking cognizance of tax exemption or abatement certificate issued by ITO in favour of beneficial owner of securities held by banking companies, etc., on behalf of their constituents

1. In Boards Circular No. 2-P(XXXIV-4) of 1966, dated 16-5-1966, instructions were issued that where Government securities are registered in the name of a banking company, tax should be deducted at source from the interest at the rates in force applicable to the banking company irrespective of the status of the beneficial owner of the securities.

2. A question has been raised as to whether these instructions bar the person responsible for paying interest on securities from taking cognizance of tax exemption or abatement certificate issued by the Income-tax Officer under section 197(1), in favour of the beneficial owner of the securities. Section 199 provides that any tax deducted from interest on securities and paid to the Central Government shall be treated as a payment of tax on behalf of the owner of the securities. The expression owner of the securities occurring in section 199 would include a beneficial owner as well. Thus, a person who holds securities not in his own name but in the name of a collecting bank is entitled to apply for the grant of an abatement or exemption certificate under section 197(1). If the Income-tax Officer is satisfied, inter alia, on the basis of the application and other evidence adduced before him, that the applicant is the beneficial owner and that the collecting bank is only the nominal holder of the securities on behalf of the applicant, he will grant the appropriate certificates. At the time of payment of interest on such securities, it will be in order for the Public Debt Office to deduct tax at the rate specified in the certificates or deduct no tax, as the case may be.

3. Circular No. 2-P(XXXIV-4) of 1966 should be treated as modified to the extent mentioned above.

Annex - Circular No. 3, dated 11-2-1969 Referred to in Clarification

941. Facility of payment of direct taxes through all branches of State Bank of India and other authorised banks by cash/cheque/draft

1. Up to March 31, 1976, income-tax and other direct taxes were collected mainly by the Reserve Bank of India and by some of the branches of the State Bank of India or subsidiaries of the State bank conducting Government business. Because of the restricted number of points at which payment of direct taxes could be made, the taxpayers were put to considerable inconvenience. They were required to travel long distances particularly in metropolitan cities and also experience other avoidable difficulties.

2. With the major objective of providing greater citizen satisfaction, a new scheme was introduced with effect from April 1, 1976 initially at 8 metropolitan cities namely: Ahmedabad, Bangalore, Calcutta, Bombay, Delhi/New Delhi, Hyderabad, Kanpur and Madras. The number of points at which payments of direct taxes could be made, were considerably increased. In addition to the Reserve Bank of India and the State Bank of India, the branches of 2 to 3 public sector banks were authorised at each of these 8 cities to accept payment of direct taxes. With effect from November 15, 1976, this scheme was extended to another 66 cities/towns in the country.

3. As a further step in this direction, with effect from April 1, 1977, the facility of payment of direct taxes through all the branches of the State Bank of India and other authorised public sector banks is being extended to the remaining 296 cities/towns where the income-tax offices are situated.

4. Wherever the income-tax offices are located, payment of direct taxes can be made at all the branches of the Reserve Bank of India, State Bank of India and two or three specified public sector banks by cash or by cheque or draft drawn on any local bank at the place of payment. Out-station cheques or drafts can, however, be tendered only at the branches of the Reserve Bank of India/State Bank of India or its subsidiary banks which were accepting such cheques/drafts before April 1, 1976.

5. In a place other than the 370 cities/towns, where there is no income-tax office, the branch of the State Bank of India or its subsidiary bank which is at present conducting Government business at that place, would continue receiving payment of direct taxes. In Lakshadweep Islands, however, the Syndicate Bank will receive payment of direct taxes from April 1, 1977.

6. Taxpayers are requested to ensure that in the case of payment of advance tax, self-assessment tax and tax deducted at source, the challans filled in by them should contain all the requisite particulars, full name and address of the taxpayer, assessment year, income-tax ward or circle, major classification head and Permanent Account Number should invariably be indicated in the challans presented to the bank. Wherever applicable, tax and surcharge should be shown separately in the space allotted for this purpose in the relevant challan. Taxpayers would get receipted copies of the challans in proof of payment from the branch of the bank at which the payment is tendered.

7. A list showing the names of public sector banks which will collect direct taxes from April 1, 1977 at various places where the income-tax offices are situated is reproduced below.

8. In view of the large increase in the number of receiving points under the present scheme at each of the places where the income-tax offices are situated, the scheme of receiving cheques in the income-tax offices vide Boards Circular No. 3 [F. No. 16/5/69-IT Coord.], dated 11-2-1969 [annex] is being withdrawn.

Names of Specified Public Sector Banks Which Will Collect Direct Taxes From April 1, 1977 at Various Places Where the Income-tax Offices are Situated

Name of the State/Union territory in which income-tax office located	Name of public sector bank in addition to the Reserve Bank of India and the State Bank of India, authorised to receive direct taxes
1	2
Andhra Pradesh	State Bank of Hyderabad
	Syndicate Bank
Assam (including Union territory of	United Bank of India
Tripura, Nagaland, Meghalaya and	United Commercial Bank
Manipur)
Bihar	Central Bank of India
	Punjab National Bank
	Punjab National Bank
Delhi	Bank of India
	Syndicate Bank
Gujarat :
a. Ahmedabad	Bank of Baroda
	Bank of India
b. Other places	Dena Bank
	Bank of Baroda
Haryana (including Union territory	Punjab National Bank
Chandigarh)	Central Bank of India
Jammu & Kashmir	Punjab National Bank
	United Commercial Bank
Karnataka (including Union territory
of Goa) :
a. Bangalore	Canara Bank
	Syndicate Bank
b. Other places	State Bank of Mysore
	Canara Bank
Kerala	State Bank of Travancore
	Canara Bank
Madhya Pradesh	State Bank of Indore
	Central Bank of India
Maharashtra :
a. Bombay	Bank of Baroda
	Bank of India
	Central Bank of India
b. Other places	Bank of Maharashtra
	Bank of India
Orissa	United Commercial Bank
	Bank of India
Punjab	Punjab National Bank
	State Bank of Patiala
Rajasthan	State Bank of Bikaner and Jaipur
	Punjab National Bank
Tamil Nadu (including Union	Indian Bank
Territory of Pondicherry)	Indian Overseas Bank
Uttar Pradesh :

a.	Agra
	Aligarh
	Hathras
	Firozabad
	Mathura
	Mainpuri
	Jhansi
	Farrukhabad
	Banda
	Etah Fatehgarh	Allahabad Bank
	Etawah	Punjab national Bank
	Meerut
	Dehradun
	Rishikesh
	Saharanpur
	Muzaffarnagar
	Roorkee
	Hapur
	Ghaziabad
b.	Kanpur	Punjab National Bank
	Fatehpur	Bank of India
	Unnao
c.	Other places	Allahabad Bank
	Union Bank of India
	West Bengal :
	Punjab National Bank
a.	Calcutta	United Bank of India
	United Commercial Bank
b.	Other places	United Bank of India
	United Commercial Bank.

Letter: F. No. 385/12/77-IT(B), dated 31-3-1977.

1. According to the existing instructions, taxpayers are required to pay normally their tax dues under the direct taxes, i.e., income-tax, wealth-tax, gift-tax, estate duty, expenditure tax, etc., directly into the Reserve Bank of India, State Bank of India/Government Treasuries. For their convenience, it has now been decided that the payment tendered by crossed cheques will hereafter be accepted in the income-tax offices.

2. The taxpayers are, however, requested to conform to the following procedure which having regard to the banking provisions and need for proper accounting has been devised in their own interest:

1. All payments must be made by crossed cheques.

2. In the cities of Bombay, Calcutta, Madras, New Delhi, Kanpur, Bangalore and Nagpur where the Government business is transacted by the Reserve Bank of India, cheques should be drawn payable to (i) The Reserve Bank of India or (ii) The Income-tax Department.

3. In other cities where the Government business is transacted by the State Bank of India or its subsidiary, the cheques should be made payable to the Income-tax Department and should not be drawn in favour of any Departmental Officer either by name or by designation.

3. The challan should be complete in all respects and should accompany the cheques for the same amount. They should be presented with a pay-in-slip available at the pay-in-counter.

4. A provisional receipt bearing the seal of office, duly signed and countersigned, will be given in acknowledgement of the cheque. The taxpayers copy of challan can be collected by him from the counter some time after the cheque has been cleared and credited to the Government account.

5[`1] 1. For removal of all doubts, it is clarified that the date of tax payment will be the date on which the proceeds of the cheque are realised and credited to the Government account.

6. Taxpayers are requested to note that the cheques tendered by them in payment are drawn by them. Where, however, it is not possible and the taxpayer has to tender third party cheque in payment of the tax dues, the foregoing procedure will have to be supplemented by the following:

The third party should draw the cheque directly in favour of the Income-tax Department and such a cheque should be accompanied by a letter from the drawer of the cheque.

44. Pensions received from abroad by pensioners residing in India - Taxability under clause (iii) of sub-section (1)

1. Under section 9(1)(iii), pension accruing abroad is taxable in India only if it is earned in India. Pensions received in India from abroad by pensioners residing in this country, for past services rendered in the foreign countries, will be income accruing to the pensioners abroad, and will not, therefore, be liable to tax in India on the basis of accrual. These pensions will also not be liable to tax in India on receipt basis, if they are drawn and received abroad in the first instance, and thereafter remitted or brought to India.

2. It is only in cases where in pursuance of a definite agreement with the employer or former employer, the pension is received directly by the pensioner in India that the pension would become taxable in India on receipt basis.

3. While the pension earned and received abroad will not be chargeable to tax in India if the residential status of the pensioner is either non-resident or resident but not ordinarily resident, it will be so chargeable if the residential status is resident and ordinarily resident. The aforesaid status of ordinarily resident cannot, however, be acquired by a person unless he has been resident in India in at least nine out of the preceding ten years.

Circular : No. 4 [F. No. 73A/2/69-IT(A-II)], dated 20-2-1969.

Judicial analysis

Applied in - The above circular was referred to and applied in Fifth ITO v. Mrs. Lalitha Chettur [1991] 38 ITD 294 (Mad. - Trib.), with the following observations :

. . . There is a circular of Central Board of Direct Taxes which is unequivocal in its terms dated 20-2-1979 in Circular No. 4 [F. No. 73-A/2/69-IT(A-II)]. It was fully extracted in the impugned order passed by the Commissioner (Appeals). In that circular it is stated that pensions will not also be liable to tax in India on receipt basis, if they are drawn and received abroad in the first instance and thereafter remitted or brought to India. In the case of Ms. Padmini Chettur, one of the legal heirs of the deceased, the Income-tax Officer while making the assessment for 1982-83 already agreed that the Paymaster General was acting as agent of the assessee and in his capacity as agent, first received the pension of the recipient from the Department of National Health Service and the same pension received by him was remitted to the assessee in India through post (vide page 17 of the paper book filed by the assessee, representing assessment order dated 7-2-1986, for the assessment year 1982-83, in the case of Padmini Chettur). Thus it can be seen that the amount of family pension was not directly received by the assessee in India but it was first received by the Paymaster General as agent of the assessee and later it was sent to India through post to the assessee and therefore on receipt basis the family pension was not assessable in India as per the categorical terms of the CBDT circular mentioned above. In the same CBDT circular mentioned above, it was stated that pension received in India, from abroad, by pensioners residing in this country for past services rendered in the foreign country, will be income accruing to the pensioners abroad and the same will not, therefore be liable to tax in India on the basis of accrual. Late Balakrishna Chettur was employed in the National Health Service, U.K. He died in 1976 and by the order dated 29-9-1976 passed by the Department of Health and Social Security, the following allowances were granted to the wife as well as the children of late Balakrishna Chettur (vide page 4 of the paper book filed by the assessee):

Widows injury allowance	2,664.27 p.a.
Childrens allowance for
Krishnan and Padmini	307.42 p.a. for each child
Lump sum payment	2,049.43

It is stated that the allowances are payable with effect from 25th May, 1976 and are in addition to the benefits, the assessee and her children are receiving, under the National Health Service Superannuation Scheme. It is further stated that the then minor son, Krishnan, and daughter, Padmini, will remain payable until they attain 16 years of age and beyond that date if full time education continues. Therefore, it is clear that the family pension and allowance due to the assessee were received abroad for the services rendered by late Balakrishna Chettar in Department of Health and Social Security in U.K. Therefore as per the CBDT circular quoted above this amount received in India cannot be taxed even on accrual basis. . . . (pp. 297-298).

Applied in - Maganlal Ranchhodbhai Chhaya v. ITO [1985] 11 ITD 432 (Ahd. - Trib).

Circular : No. 5 [F. No. 73A/2/69-IT(A-II)], dated 20-2-1969.

SECTION 68 l CASH CREDITS

472. Persons migrating from West/East Pakistan, Burma, East African countries, namely, Mozambique, Zanzibar, Kenya, Tanzania andUganda - Claims as to origin of money/assets brought into India to be freely admitted up to a limit of Rs. 50,000 subject to certain conditions

1. It has been represented to the Board that persons of Indian origin residing abroad but intending to return to India and settle here permanently, apprehend that the money brought in or remitted from abroad by such persons might be subjected to income-tax in India. The apprehension appears to be due to lack of information regarding the correct legal position about the taxability of the remittances of money from abroad. The general position, in this regard, is clarified below.

2. Money brought into India by non-residents for investment or other purposes is not liable to Indian income-tax. Therefore, there is no question of a remittance into the country being subjected to income-tax in India. The question of assessment to tax arises only when there is no evidence to show that the amount, in question, in fact represents such remittance. In other words, in the absence of proper supporting evidence, the taxpayers story that the money has been brought into India from outside may be disbelieved by the Income-tax Officer who may then proceed to hold that the money had in fact been earned in India.

3. If the money has been brought into India through banking channels or in the form of assets like plant and machinery or stock-in-trade, for which the necessary import permits had been obtained, no questions at all are asked by the Income-tax Officers as to the origin of the money or assets brought in. It is only in case where the money is claimed to have been brought from outside otherwise than through banking channels and there is no evidence regarding the transfer of the money, that the department has to make enquiries about the source thereof. Even in these cases, having regard to the difficulties experienced by persons migrating from Pakistan, Burma and East African countries, instructions have been issued to the Income-tax Officers that such claims should be freely admitted up to the limit of Rs. 50,000 in each case provided the following conditions are satisfied :

1. The assessee migrated to India on or after the dates mentioned below from the countries shown against each and had no source of income in India :

a.	30-7-1962	Mozambique [vide Ministry of Finance Press Note, dated 22-5-1967 (Circular No. 8, dated 22-5-1967 printed as Annex I)].
b.	1-1-1963	Zanzibar, Kenya, Tanzania and Uganda [vide Ministry of Finance Press Note, dated 22-5-1967 (Circular No. 8, dated 22-5-1967 printed as Annex I)].
c.	1-1-1964	East Pakistan and Burma [vide Ministry of Finance Press Note dated 15-6-1964/22-5-1965 (Circular Nos. 16D, dated 15-6-1964 and 11, dated 22-5-1965 printed as Annex II and Annex III respectively)].
d.	1-10-1965	West Pakistan [vide Ministry of Finance Press Note, dated 3-2-1969].

2. He had sufficient resources in the foreign country.

3. He had no source of income either in India or in any foreign country, other than the country from which he migrated, prior to migration and he was not assessed as resident in India either for the assessment year preceding the year in which he migrated or for earlier years.

4. The amount brought in has been duly introduced in the books regularly maintained in India and an intimation of such introduction is given to the Income-tax Officer within two months of the migrants arrival.

4. Cases not covered by preceding paragraph, namely :

a. where the money (in the case of Mozambique, Zanzibar, Kenya, Tanzania, Uganda, East Pakistan and Burma) and money and/or the personal jewellery in the case of West Pakistan claimed to have been brought exceeds Rs. 50,000; or

b. where the assessee had some sources of income either in India or in any foreign country, other than the one from which he had migrated, prior to migration; or

c. where the assessee was assessed as resident in India either for the assessment year preceding the year of his/her migration or in the earlier years,

will not be entitled to any special concession. Thus, any claim by such migrants that the funds or the jewellery have been brought from the abovementioned countries, will be accepted only if the persons concerned produce adequate evidence to show that they had sufficient funds/wealth in those countries and that the transfer of the cash/jewellery to India can directly be linked with the said funds or wealth. In other words, these migrants will have to lead proper evidence like any other assessees, about the source of the cash/jewellery alleged to have been brought by them from these countries. In support of the claim that they had sufficient funds in those countries, they might produce before the income-tax authorities in India their bank accounts in those countries as also copies of the assessment orders passed in their cases by the income-tax authorities of those countries. The migrants would also then be required to prove that the amounts brought into India can directly be linked with the funds which they had possessed in those countries.

Judicial analysis

The above circular was referred to in ITO v. Shri Lachhumal Bahrumal Sedari Nadiad [1979] Tax 52(6) 77 (Ahd. - Trib.).

ANNEX I - CIRCULAR NO. 8, DATED 22-5-1967 REFERRED TO IN CLARIFICATION

1. It has been represented to the Board that in view of the difficulties faced by persons migrating from East African countries, viz, Zanzibar, Kenya, Tanzania, Uganda and Mozambique, to India, it may not be possible for a migrant from these countries to lead the evidence necessary to prove his claim that a particular sum of money has been brought over by him from those countries.

2. The Board consider that the case of bona fide migrants from these countries should be dealt with in a sympathetic manner. In their cases, production of direct or documentary evidence in the shape of transfer through banks, hundies, etc., in support of remittance from these countries need not be insisted upon. However, with a view to ensure that unscrupulous persons do not abuse the concessions, the Income-tax Officers should ensure the satisfaction of the following conditions before accepting a claim of remittance from the abovementioned countries :

1. The assessee has migrated to India from Mozambique on or after July 30, 1962 and from Zanzibar, Kenya, Tanzania and Uganda on or after January 1, 1963.

2. The assessee had sufficient resources in these countries to which the remittance could be reasonably attributed.

3. The assessee had no source of income either in India or any foreign country, other than one from which he migrated, prior to migration and he was not assessed as resident in India either for the assessment year preceding the year in which he migrated or for earlier years.

4. The assessee has intimated the Income-tax Officers concerned about the sum brought over and the date(s) of its introduction in the books of account within two months of the date of his arrival in India and in the case of persons who have already migrated, by July 31, 1967.

The above concession will be subject to an overall ceiling of Rs. 50,000 in respect of all sums brought over from these countries and introduced as such in the account books by the assessee and all his family members taken together.

3. In the following cases, namely :

a. where the money claimed to have been brought over exceeds Rs. 50,000;

b. where the assessee had some sources of income prior to migration either in India or any other country, other than one from which he has migrated; or

c. where the assessee was assessed as resident in India either for the assessment year preceding the year in which he migrated or for earlier years,

any claim that the funds have been brought from the East African countries mentioned above will be accepted only if the assessee produces adequate evidence to reasonably satisfy the Income-tax Officer that he had sufficient resources in these countries to cover the remittance, provided that the assessee has migrated from these countries to India on or after the dates specified in paragraph 2(i) and has given the necessary intimation to the concerned Income-tax Officer within the time specified in paragraph 2(iv). The assessee, however, will not be required to establish the actual remittance of moneys through banks, etc.

ANNEX II - CIRCULAR NO. 16D, DATED 15-6-1964 REFERRED TO IN CLARIFICATION

1. It has been represented to the Board that in view of the difficult circumstances in which persons belonging to minority communities have recently been migrating from East Pakistan to India, it may not be possible for a migrant assessee to lead requisite evidence to prove his claim that a particular sum of money has been brought over by him from that country. Although under the 1961 Act, remittance is no more a basis of tax liability fears have been expressed that due to lack of adequate evidence such amounts may be assessed to tax as income accruing or arising in India.

2. The Board consider that the cases of genuine migrants should be dealt with in a sympathetic manner and that production of direct/documentary evidence, e.g., transfer through banks, hundies, etc., in support of a claim for transfer of funds from East Pakistan may not be insisted upon in such cases. However, with a view to ensure that these unfortunate persons are not used by tax evaders as their instruments for passing off their concealed income, the Assessing Officers should ensure the satisfaction of the following conditions before accepting a claim of remittance of funds from East Pakistan :

(i) that the assessee has migrated to this country after January 1, 1964 and he has had no source of income in India or in any foreign country other than Pakistan prior to his migration;

(ii) that he had sufficient resources in Pakistan to which the remittance could be traced; and

(iii) that an intimation about the sum brought over and the date(s) of its introduction in the account books has been given to the concerned Income-tax Officer within two months of the date of arrival in India. For persons who have already migrated, the intimation should be given by July 31, 1964.

3. This concessional treatment will be subject to an overall ceiling of Rs. 50,000 in respect of all amounts claimed to have been brought over from Pakistan, and introduced as such in the account books by the assessee and all his family members taken together.

4. Where the remittance exceeds Rs. 50,000 the assessee should establish the availability of sufficient resources in East Pakistan to cover the remittance. He will, however, not be required to establish the actual remittance of moneys through banks, etc.

ANNEX III - CIRCULAR NO. 11, DATED 22-5-1965 REFERRED TO IN CLARIFICATION

1. It has been represented to the Board that in view of the difficulties faced by persons migrating from Burma to India, it may not be possible for a migrant from that country to lead the evidence necessary to prove his claim that a particular sum of money has been brought over by him from that country.

2. The Board consider that the cases of bona fide migrants from Burma should be dealt with in a sympathetic manner. In their cases, production of direct or documentary evidence in the shape of transfer through bank, hundies, etc., in support of remittance from Burma need not be insisted upon. However, with a view to ensure that unscrupulous persons do not abuse the concessions, the Income-tax Officer should ensure the satisfaction of the following conditions before accepting a claim of remittance from Burma :

1. The assessee has migrated from Burma to India on or after January 1, 1964.

2. The assessee had sufficient resources in Burma to which the remittance could be reasonably attributed.

3. The assessee had no source of income either in India or any foreign country, other than Burma prior to migration and he was not assessed as resident in India either for the assessment year 1963-64 or for the earlier years.

4. The assessee has intimated the Income-tax Officer concerned about the sum brought over and the date(s) of its introduction in the books of account within two months of the date of his arrival in India, and in the case of persons who have already migrated, by July 31, 1965.

The above concession will be subject to an overall ceiling of Rs. 50,000 in respect of all sums brought over from Burma and introduced as such in the account books by the assessee and all his family members taken together.

3. In the following cases, namely :

a. where the money claimed to have been brought over exceeds Rs. 50,000;

b. where the assessee had some sources of income either in India or any other country, other than Burma, prior to migration; or

c. where the assessee was assessed as resident in India either for the assessment year 1963-64 or for earlier years,

any claim that the funds have been brought from Burma will be accepted only if the assessee produces adequate evidence to reasonably satisfy the Income-tax Officer that he had sufficient resources in Burma to cover the remittance, provided that the assessee has migrated from Burma to India on or after January 1, 1964 and has given the necessary intimation to the concerned Income-tax Officer within the time specified in paragraph 2(4). The assessee, however, will not be required to establish the actual remittance of moneys through banks, etc.

Circular : No. 8 [F. No. 23/1/69-IT(A-II)], dated 24-3-1969.

1306. Requirements to be satisfied by applicants for being eligible for concession envisaged under the section

1. Section 280ZA provides for the issue of tax credit certificates to public companies owning industrial undertakings situated in urban areas if they shift their undertakings to some other areas with the prior approval of the Board.

The obvious purpose for the enactment of section 280ZA is to encourage the dispersal of industries from urban areas.

2. In order to be eligible for the concession envisaged in section 280ZA, the following requirements have to be satisfied by the applicant :

(a) the undertaking proposed to be shifted should be owned by a public company;

(b) the undertaking should be situated in an urban area from where it is to be shifted and which has been notified by the Central Government as such under section 280Y in its Notification No. SO 3419, dated 22-9-1967;

(c) application for the shifting of the industrial undertaking be made to the Board in Form No. 1 appended to the Tax Credit Certificate (Shifting of Industrial Undertakings) Scheme, 1967;

(d) prior approval of the Board before the shifting actually commences, should be obtained; and

(e) the industrial undertaking, by shifting should serve a public purpose.

Circular : No. 9 [F. No. 8/2/69-IT(A-I)], dated 25-3-1969.

INCOME FROM HOUSE PROPERTY

section 22 l INCOME FROM PROPERTY [CORRESPONDING TO SECTION 9(1) OF THE 1922 ACT]

210. Tenant co-partnership co-operative housing societies - Whether legal ownership in flats can be said to vest in individual members themselves and not in co-operative society

1. Instructions were issued in 1955 to the effect that in the case of tenant co-partnership co-operative housing societies, the income from each building should be assessed in the hands of the individual members to whom it had been allotted, notwithstanding the facts that the technical legal ownership in the property in such cases vested in the society. However, it has now been represented to the Board that in the case of tenant co-partnership co-operative housing societies, the societies are usually only lessees of the flats and the legal ownership of the flats really vests in the individual members themselves.

2. The normal procedure in such cases is that an agreement is entered into between the builder and each purchaser of the flat in the building proposed to be constructed. The purchaser pays the entire cost of the flat in instalments spread over the period of the construction. As soon as the building is completed, the builder gives the possession of flats to the various purchasers, who then join together to form a co-operative society. The builder who had originally purchased the land or taken it on lease, transfers the land and the building thereon to the co-operative society. The society then allots the tenancy in the flats to the members in such a way that each member gets the tenancy rights over the flat which he has purchased.

3. The Board are advised that under the above arrangement, the legal ownership in the flats can be said to vest in the individual members themselves and not in the co-operative society. Hence, for all purposes (including attachment and recovery of tax, etc.) the individual members should be regarded as the legal owners of the property in question.

Circular : No. 10 [F. No. 12/59/69-ITCC], dated 26-3-1969

188. Deductions under clause (i) as it stood prior to its substitution, and under clauses (iii) to (v) as they stood prior to their omission, by Finance Act, 1974 with effect from 1-4-1975 - Clarifications on certain issues retained in the compendium for reference purposes

clarification 1

Maintenance of conveyance - Allowance of deduction therefor when vehicle is in repair - I am directed to invite a reference to the Boards Circular No. 15 [F. No. 40/22/69-IT(A-I)], dated 8-5-1969 and to say that in the manner of standard deduction from salaries under section 16(iv), a question has arisen, viz., whether an assessee who owns a conveyance and uses it for the purposes of employment is entitled to the standard deduction for the period during which it was temporarily out of use because it was under repairs. Since during the temporary non-user of the conveyance and the assessee would have been spending on substitute conveyance and further the repair charges are not separately allowable, the Board desire that the assessee may be allowed the prescribed monthly deduction for the period of repairs. The certificate about continuous use of the vehicle for purposes of employment should cover the repairs period also.

Circular : No. 97 [F. No. 200/29/72-IT(A-I)], dated 14-12-1972.

clarification 2

Deduction to salaried employees who do not own any conveyance as also those who own a bicycle - I am directed to invite a reference to this Ministrys Circular No. 36 [F. No. 275/42/70-ITJ], dated 25-3-1970 [printed under section 192] and to say that the two examples in Annexure II to the above circular have been further considered in the light of the intended import of clause (iv) of section 16, as substituted by the Finance Act, 1970. Salaried employees who do not own any conveyance as also those who own a bicycle or any other conveyance, not being a motor car, motor cycle, scooter or other moped, are entitled to standard deduction of Rs. 35 for each calendar month or part thereof comprised in the period of their employment during the year and in order to be eligible for this deduction it is not necessary for the employee to prove that he had actually incurred any expenditure on travelling for the purposes of his employment. The aforesaid deduction should, therefore, be taken into account in calculating tax deducted at source from the salary income of such employees.

Circular : No. 44 [F. No. 275/42/70-ITJ], dated 4-8-1970.

clarification 3

Allowance for maintenance expenditure/wear and tear of conveyance Whether available where conveyance is not registered in the name of assessee

1. Reference is invited to this Ministrys Circular letter of even number dated March 26, 1968 [printed under section 192] regarding the procedure to be followed by disbursing officers in deducting tax at source from salaries during the financial year 1968-69.

2. In paragraph 4 in item (ix) of the above letter, it has been stated that in calculating the tax deductible at source from salaries, the salary income is to be reduced by the appropriate amount of standard deduction for maintenance expenditure and wear and tear of motor cars and other conveyances owned by the employee and used by him for the purposes of his employment. A question has arisen whether this standard deduction is allowable in a case where the employee claims to have financed the purchase of the motor car or other conveyance from his own funds but such conveyance stands registered in the name of his wife or any other person.

3. The standard deduction under section 16(iv) is admissible only where the conveyance is owned by the employee and is used for the purpose of his employment. In accordance with the provisions of the Motor Vehicles Act, 1939, the owner of a motor vehicle has to get it registered in his name within a specified period. From this it follows that where a motor vehicle is not registered in the name of the employee, he cannot be regarded to be its owner in law. In view of this position, the standard deduction for the maintenance expenditure and wear and tear of a motor vehicle can be allowed to an employee only where the vehicle is registered in his own name.

clarification 4

Salaried taxpayers owning conveyances and using them for employment - Deduction therefor for the assessment year 1968-69

1. A reference is invited to the Press Note issued by the Ministry of Finance (Central Board of Direct Taxes) on 25-5-1968, relating to the allowance of standard deduction for maintenance expenditure and wear and tear in the case of salaried taxpayers owning conveyances and using them for the purpose of their employment.

2. In the absence of the definition of the phrase used for the purpose of employment in the Income-tax Act, 1961, a doubt has been expressed as to the meaning of this phrase and the checks which can be applied for the proper verification of the claim, by the disbursing officers.

3. For this purpose, it is hereby clarified that a declaration from the employee that the conveyance is owned by him and is being used by him for the purposes of employment may be considered adequate by the disbursing officer for the purpose of calculation of tax deductible at source under section 192.

Circular : No. 15 [F. No. 40/22/69-IT(A-I)], dated 8-5-1969.

clarification 5

Purchase of books and other publications for the employment purposes/Main- tenance and use of own conveyance for employment purposes

1. **

2. Books - The intention is that the books and publications purchased should be of use to the employee in providing the service which he is required to give to his employer. Thus, except in the case of a journalist or a person employed on literary work, the deduction is not permissible in respect of expenditure incurred on books of literary interest or magazines, etc., which are read for the purpose of improving ones general knowledge or for entertainment. A detailed list of the books purchased, together with their prices and a certificate that the assessee had actually spent the amount claimed, should be furnished at the time of assessment. As the new provisions became effective from the assessment year 1956-57, the accounting year for which is 1955-56, it is possible that the vouchers in respect of all the purchases made after April 1, 1955 might not be available. In such cases, the production of vouchers for the assessment year 1956-57 will not be insisted upon. The deduction admissible is subject to a maximum of Rs. 500 per year.

3. Conveyance - Every salaried employee who maintains and makes use of a conveyance of his own for the purposes of his official work will be entitled to a deduction from his salary for the financial year 1955-56 (liable to be taxed in the assessment year 1956-57) of a reasonable proportion of the running expenditure and of the normal wear and tear which can be attributed to the use of the conveyance for the purposes of his employment as distinct from his private and personal use. For making a reasonable estimate of the amount to be allowed, the Income-tax Officer will require the following information :

a. the total expenditure incurred in running the conveyance during the relevant year;

b. the date of purchase, the original cost and the period for which it was in the employees use during the year; and

c. the status of the employee and the nature of duties of the employee necessitating the use of the conveyance and indicating the extent of such use for purposes of employment.

Where adequate details in respect of item (a) are not available, the employee should furnish a certificate to the effect that the total cost of running and maintaining the car was not less than a specified amount.

The employee should also furnish a certificate indicating what proportion of the expenditure on the maintenance and use of the car was for purpose of employment. (Care should naturally be taken to see that excessive and unreasonable claims are not made). For this purpose, trips between the residence and office or regular place of work, to and fro, will be regarded as being for the purposes of employment.

Journeys in ones own conveyance for which travelling allowance is charged will not qualify for the concession. Similarly, no deduction will be allowable, if the employee is in receipt of a conveyance allowance, or is provided with free transport, at employers cost.

4. No abatement in respect of this concession will be permissible at the time when tax is deducted from salary at source from month to month. The assessees claim in this behalf will be considered only at the time of assessment.

Circular : No. 23(LVIII-8), dated 9-7-1956 [relevant extracts] as corrected by Circular No. 37(LVIII-10), dated 21-9-1956.

Circular : No. 13 [F. No. 12/224/68-ITCC], dated 14-4-1969.

1007. Whether non-resident person (corporate as also non-corporate) owning 4 per cent National Defence Loan, 1968 and 43/4 per cent National Defence Loan, 1972, are entitled to receive interest thereon without deduction of tax at source

1. A question has arisen whether the provisions of paragraph 5 of the Ministry of Finance (Department of Economic Affairs) Notification No. 4(28) W&M/65, dated 19-10-1965, which lays down, inter alia, that non-residents will be exempt from tax under the Income-tax Act, on the interests on the above-mentioned loans held by them, has the effect to exempting the interest on these loans from deduction of tax at source under section 193, where these loans are held by non-resident persons, and, if so, whether foreign banks are entitled to receive the interest on those loans without deduction of tax at source even where these are held by the bank on behalf of a constituent. The position in the matter is stated in the following paragraphs.

2. By virtue of the Ministry of Finance (Department of Revenue) Notification (Income-tax) No. SO 3331, dated 19-10-1965, issued under clause (4) of section 10 non-residents are eligible for exemption from income-tax on their income by way of interest on 4 per cent National Defence Loan, 1968 and 4 per cent National Defence Loan, 1972. As a corollary to this position non-resident persons (corporate as also non-corporate) owning these loans are entitled to receive the interest thereon without deduction of tax at source.

3. Resident persons are chargeable to income-tax on their income by way of interest on the above-mentioned loans. However clause (ia) of the proviso to section 193 exempts from deduction of tax at source the interest on these loans where this is payable to a resident individual. Where the interest is payable to residents who are not individuals (e.g., companies),tax is deductible at source from such interest.

4. In view of the position stated in the preceding paragraphs, where the above-mentioned loans are registered in the name of a non-resident bank, no tax is deductible at source from the interest if the beneficial ownership over the securities vests in the bank itself or in any of its constituents who is a non-resident. The same position obtains where the securities are deposited in a resident bank on behalf of a constituent who is resident individual but not where such constituent is a resident person other than an individual (e.g., a resident company). In the latter case, tax will be deductible at source under section 193 from the interest on these securities.

5. Where a foreign bank holding 4 per cent National Defence Loan, 1968, or 4 per cent National Defence Loan, 1972, claims that it is entitled to receive payment of the interest on these loans without deduction of tax at source, it will be required to furnish to the Public Debt Office a declaration as to the beneficial ownership of these securities. Where the securities are beneficially owned by the bank itself or by a non-resident constituent of the bank, the interest will be paid without deduction of tax at source. Where the securities are beneficially owned by a resident constituent of the foreign bank, the declaration should further state whether the constituent is an individual or a person other than an individual (e.g., firm, company, etc.). Where the beneficial owner, according to this declaration,is a resident individual, the interest will be paid without deduction of tax at source. Where the beneficial owner is a resident person other than an individual, tax will be deducted at source from the interest on these securities. The Public Debt Offices of the Reserve Bank of India have been informed of the position stated above.

Circular : No. 14 [F. No. 19/4/69-IT(A-II)], dated 23-4-1969.

316. Contribution to approved gratuity fund - Points connected with tax relief in respect of initial contribution under clause (v) of sub-section (1) and approval of gratuity fund

clarification 1

Treatment of initial contribution: Certain points have been raised in connection with the provisions in the Income-tax Act, 1961, relating to gratuity funds. These points and Boards comments thereon are as under :

Point No. 1: Paragraph 6 of Boards Circular No. 70(XI-3), dated 3-11-1951 (Annex) indicates the manner in which tax relief in respect of initial contribution to a gratuity fund, which has been informally approved under the aforesaid circular, should be calculated. Do these instructions continue to hold good even after the coming into force of the 1961 Act? If not, how should the initial contribution to approved gratuity funds be treated.

Comments : Section 36(1)(v) provides that any sum paid by an assessee as contribution towards an approved gratuity fund shall be allowed as a deduction in computing his business income. Rule 104 of the Income-tax Rules, 1962, provides that the amount to be allowed as a deduction on account of initial contribution shall not exceed 8¹/₃ per cent of the employees salary for each year of his past service with the employer. The aforesaid rule is effective from April 1, 1962, and is applicable to assessments for the assessment year 1962-63 and subsequent years. The instructions contained in paragraph 6 of the Boards Circular referred to hereinabove are, therefore, not applicable to assessments for the assessment year 1962-63 and earlier years.

Point No. 2: Is there any time limit for payment of initial contributions under rule 104 of the Income-tax Rules?

Comments : Rule 104 lays down that any initial contribution in respect of the past services of an employee admitted to the benefits of the fund shall not exceed 8¹/₃ per cent of the employees salary for each year of his past services with the employer. The language of the rule implies that the initial contribution has to be made in the year in which the employee is admitted to the benefits of the fund [see Clarification 2].

Point No. 3 : How should the date of approval of a gratuity fund be reckoned?

Comments : Rule 2(2) of Part C of the Fourth Schedule to the Income-tax Act, provides that the Commissioner shall communicate to the trustees of a gratuity fund the grant of approval with the date on which the approval is to take effect. Unlike in rule 78, relating to recognised provident funds, there is no provision in the rules relating to approved gratuity funds in regard to the date from which the order of approval in the case of gratuity fund should take effect. Rule 4(1) of Part C of the Fourth Schedule specifically lays down that an application for approval of a gratuity fund shall be accompanied by two copies of the accounts of the fund for the last three years for which such accounts have been made up. This provision contemplates that an application for approval may be made 3 years after the establishment of a gratuity fund. ln order that the benefits of approval for the intervening period may not be denied to bona fide gratuity funds, the Commissioners may, after considering all the relevant facts of the case, accord approval to a gratuity fund with effect from the date from which it satisfies the conditions laid down in rule 3 of Part C of the Fourth Schedule.

Circular : No. 30(XLVII-18), dated 30-11-1964.

ANNEX - CIRCULAR DATED 3-11-1951 REFERRED TO IN CLARIfiCATION

Contribution to gratuity fund constituted into irrevocable trust for the benefit of employees -Allowance thereof under the 1922 Act - 1. It has been brought to the notice of the Board that as a result of the award by industrial courts, textile mills are now compelled to pay their retiring employees gratuities at the following rates:

1. On the death of an employee while in service - One months salary for each year of service subject to a maximum of 15 months salary to be paid to the deceased employers heirs or executors or nominees.

2. On voluntary retirement or resignation of an employee - After 15 years continuous service with the employers, 15 months salary.

3. On termination of an employees service - (a) after continuous service for 10 years but less than 15 years, 3-4 of the one months salary for each year of service, (b) after 15 years continuous service, 15 months salary.

It is also understood that the above award applies not only to future employees but also to the past, present and future service of employees who are already in service.

2. Certain employers are now contemplating the creation of gratuity funds so as to make provision for the gratuities referred to above. Under the present income-tax law no amount set apart by way of reserve for gratuity (or for any other purpose) can be allowed as a deduction in computing the profits for income-tax purposes but the actual payment of gratuity can be allowed as and when paid, provided that the employer makes adequate arrangements for deduction and payment of tax from the gratuities.

3. Unlike the provisions in the Income-tax Act relating to recognition of provident funds or approval of superannuation funds, there is no provision for approving any other type of funds, but section 10(4)(c) provides that no allowance shall be made in respect of a payment to a provident or other fund established for the benefit of employees unless the employer has made effective arrangements to secure that tax shall be deducted at source from any payment made from the fund which are taxable under the head Salaries. It would, therefore, appear that the said section contemplates that contributions by employers to funds other than recognised provident funds or approved superannuation funds or provident funds to which the Provident Funds Act of 1925 applies, can be considered as an admissible deduction provided that the essential condition (but not necessarily the only condition) referred to in section 10(4)(c) is satisfied. The Board consider that if a gratuity fund is constituted into an irrevocable trust for the benefit of the employees, the contributions made to the fund, subject to the rules thereof being acceptable to the income-tax authorities, should be allowable as deduction in the employers income-tax assessment[`2] [`1].

4. The rules to be framed for such a fund must, however, incorporate the following, among other, specific provisions, namely, that

a. the benefit of the fund shall be open to only those persons who are whole-time bona fide employees of the employer, having no substantial shareholding interest;

b. the trust money shall be invested in such trusted securities as are payable both as regards capital and interest in India;

c. the gratuity shall be made payable and shall be paid only in India;

d. the trustees shall be responsible for deduction of tax from the gratuities and crediting the tax so deducted to the Government Revenue;

e. no amendment of the rules of the fund shall be made without the approval of Central Board of Revenue;

f. the contributions shall be made on a reasonable basis acceptable to the Income-tax Department, i.e., either on actuarial basis or any other basis having regard to the length of service of each employee concerned;

g. so much of the contributions as cannot properly be treated as ordinary annual contributions shall be treated by the Commissioner of Income-tax in the same manner as is adopted by the Central Board of Revenue to deal with similar contributions to an approved superannuation fund.

5. As stated above, there is no question of any formal approval of any gratuity fund as such under the law. All that the employers want, however, is that the rules of the gratuity funds being found satisfactory, the contributions made by the employers should be allowed as a deduction in computing their profits. The Board have given careful consideration to this request and have decided that if the rules of a gratuity fund, duly constituted under an irrevocable trust, satisfy the conditions laid down in para 4 above, the contributions made by the employers may be allowed as a deduction in their income-tax assessments. The rules need not to be forwarded to the Central Board of Revenue for approval.

The Commissioner concerned should, after going through the rules in each case, issue necessary instructions to the Income-tax Officer.

6[`3] [`2]. The matter of arriving at the tax relief in respect of the initial contributions will be as indicated in the illustration of the hypothetical case given below :

1. The employees in respect of whom the extraordinary contribution is made are, say, A, B and C.

2 The earliest year when any of them was in the employers service is, say, 1938.

3. The extraordinary contribution in question is, say, Rs. 9,000 made in 1943.

4. Aggregate salaries:

	1938	1939	1940	1941	1942	TOTAL
	Rs.	Rs.	Rs.	Rs.	Rs.	Rs.
A	1,000	1,000	1,000	1,000	1,000
B	Nil	1,000	1,000	1,000	1,000
C	Nil	Nil	1,000	1,000	1,000
	1,000	2,000	3,000	3,000	3,000	12,000

5. Allocation according to assessment years :

YEARS

1939-40	1940-41	1941-42	1942-43	1943-44	TOTAL
1/12 of 9,000	2/12 of 9,000	3/12 of 9,000	3/12 of 9,000	3/12 of 9,000
=750	=1,500	=2,250	=2,250	=2,250	9,000

6. Income-tax and super tax rates :

42 pies

45.5 pies

56 pies

53 pies

74 pies

7. Tax relief :

Rs.	As.	Rs.	As.	Rs.	As.	Rs.	As.	Rs.	As.	Rs.	As.
164	1	355	7	656	4	738	4	867	3	2,781	3

This relief will be allowed whole in the year of assessment in respect of the year in which such initial contribution is made.

clarification 2

RULE 104 OF INCOME-TAX RULES - INITIAL CONTRIBUTION - WHETHER CAN BE MADE IN INSTALMENTS - Rule 104 lays down that any initial contribution in respect of the past services of an employee admitted to the benefits of an approved gratuity fund shall not exceed 8¹/₃ per cent of the employees salary for each year of his past service with the employer. It has been represented to the Board that insistence, under the above rule, on the entire initial contribution being made in one year, i.e., the year in which the employee is admitted to the benefits of the fund, would result in hardship to several employers upsetting their whole business organisation and that the initial contribution may be permitted to be made in instalments. The matter has been examined by the Board and it has been decided that the initial contribution may be permitted to be made in not more than five annual instalments commencing from the year in which the employee has been admitted to the benefits of the fund[`4] [`3].

clarification 3

Application for approval- The suggestion made was that the requirement of rule 4 of Part C of the Fourth Schedule to the Income-tax Act, under which copies of the accounts of the fund for the last three years have to accompany the application for approval, should not apply in the case of newly established gratuity funds.

The Committee was informed that instructions had been issued to the Commissioners to the effect that while according approval to a gratuity fund, they might, after considering all the relevant facts of the case, accord such approval with retrospective effect from the date from which the Fund satisfied the requirements of rule 3 of Part C of the Fourth Schedule. This would ensure that, even though the fund had to wait for at least three years from its inception before applying for approval in order to satisfy the requirement of rule 4, the approval may, in deserving cases, be accorded from the date of inception of the fund.

Source : Extracts from Minutes (Item 31) of Ninth Meeting of DTAC held on 5-11-1966.

Circular : No. 15 [F. No. 40/22/69-IT(A-I)], dated 8-5-1969.

clarification 1

Circular : No. 97 [F. No. 200/29/72-IT(A-I)], dated 14-12-1972.

clarification 2

Circular : No. 44 [F. No. 275/42/70-ITJ], dated 4-8-1970.

clarification 3

Allowance for maintenance expenditure/wear and tear of conveyance Whether available where conveyance is not registered in the name of assessee

Circular : No. 10 [F. No. 12/59/69-ITCC], dated 26-3-1969.

clarification 4

Salaried taxpayers owning conveyances and using them for employment - Deduction therefor for the assessment year 1968-69

clarification 5

Purchase of books and other publications for the employment purposes/Main- tenance and use of own conveyance for employment purposes

1. **

a. the total expenditure incurred in running the conveyance during the relevant year;

b. the date of purchase, the original cost and the period for which it was in the employees use during the year; and

c. the status of the employee and the nature of duties of the employee necessitating the use of the conveyance and indicating the extent of such use for purposes of employment.

Circular : No. 23(LVIII-8), dated 9-7-1956 [relevant extracts] as corrected by Circular No. 37(LVIII-10), dated 21-9-1956.

Circular : No. 16 [F. No. 9/38/69-IT(A-II)], dated 18-9-1969.

355. Professional tax - Whether deductible as revenue expenditure

It has been represented to the Board that the professional tax is not being allowed as a revenue expenditure under section 37(1), as its deduction is not covered by the specific provisions of section 40(a)(ii).

Section 40(a)(ii) authorises disallowance of any sum paid on account of any rate or tax levied on the profits or gains of any business or profession or assessed at a proportion of, or otherwise on the basis of, any such profits and gains.

The professional tax levied by local authorities cannot normally be considered to fall within section 40(a)(ii). In order to fall in this category, it would be necessary that the rate of tax is levied on the profits or gains of the business, profession or vocation and it should be assessed at a proportion or otherwise, on the basis of such profits or gains. In other words, what the section essentially seeks to convey is to prohibit the deduction of taxes on income.

Profession taxes are levied under entry 60 of List II of the Constitution of India which speaks of taxes on professions, rates, callings and employments. Article 276 of the Constitution makes it clear that such taxes shall not be invalid on the ground that they relate to a tax on income, though the quantum of tax might to some extent depend upon the amount of income earned. Strictly speaking, a professional tax is leviable whether or not any profits or gains accrue or arise in a particular year. The payment of such tax is a necessary condition for the carrying on of business within the area of a local authority.

It would, accordingly, appear that the professional tax paid by a person carrying on a business or trade can be allowed to him as a deduction under section 37(1).

Circular : No. 17 of 1969, dated 10-6-1969.

1341. Whether annuity receivable under annuity deposit scheme is covered within the meaning of clauses (e)(iv)[`5] 1

1. Reference is invited to the clarifications contained in the Boards Circular No. 3(WT), dated 27-7-1968 [printed here as Annex] regarding the liability to wealth-tax of the value of the annuities receivable on the annuity deposits made under the relevant provisions of the Income-tax Act. On a reconsideration of the matter, the Board have decided that the annuities receivable under the annuity deposit scheme are generally non-commutable and, therefore, the value thereof should be exempted from wealth-tax under section 2(e)(iv). It is proposed to make, in this respect, a clarificatory amendment to section 5(1) with retrospective effect, by the Taxation Laws (Amendment) Act, 1970.

2. In all the pending assessments, the value of such annuities will not be added to the net wealth. Besides, as far as possible, assessments which have already been completed will be rectified suo motu by the Wealth-tax Officer, so that the commuted value of the annuity deposit, if included, in each case is deleted. Applications for such rectifications by the assessees would be accepted by the Wealth-tax Officer.

ANNEX - CIRCULAR NO. 3(WT), DATED 27-7-1968 REFERRED TO IN CLARIFICATION

1. A question has arisen whether an individual who has made an annuity deposit under the relevant provisions of the Income-tax Act is liable to wealth-tax in respect of the value of annuity receivable by him on such deposits. The position in the matter is explained in the following paragraph :

2. A person making an annuity deposit under the Income-tax Act is entitled to receive annuities in respect of the deposit over a period of 10 years commencing after the expiry of 12 months from the date on which the deposit was made. The annuities represent annual equated instalments of the principal amount of the deposit and interest thereon. The right to receive annuities in an asset within the meaning of that term in section 2(e) of the Wealth-tax Act. The term assets as defined in that section includes property of every description, movable or immovable, subject to certain specific exceptions. One of these exceptions specified in sub-clause (iv) of section 2(e) [before amendment by the Finance Act, 1969] of the Wealth-tax Act is a right to any annuity in any case where the terms and conditions relating thereto preclude the commutation of any portion thereof into a lump sum grant. Annuities receivable in respect of annuity deposit under the Income-tax Act are not covered by this sub-clause as these annuities can be commuted in certain circumstances, as stated in the proviso to section 280D of the Income-tax Act. The value of annuities receivable in respect of the annuity deposit, as on the relevant valuation date, is , therefore, includible in the net wealth of an individual for the purposes of wealth-tax. Such value is equivalent to the amount that would be received by the individual if the outstanding annuities were to be commuted as on the relevant valuation date. The amount payable on the commutation of annuities in respect of annuity deposits is required to be calculated in accordance with the Table of commuted value of annuities set forth in Appendix II of the Annuity Deposit Scheme, 1964 and the Annuity Deposit Scheme, 1966. The table of commuted value of annuities (which is the same under both the Schemes) is reproduced below :

TABLE OF COMMUTED VALUE OF ANNUITIES

Where commutation is made	Commuted value of annuities
	Where the	Where the	Where the
	amount of	amount of	amount of
	annuity	annuity	annuity
	deposit is	deposit is	deposit is
	Rs. 10	Rs. 100	Rs. 1,000
1	2	3	4
After the expiry of 1 year but before
2 years from the date of deposit	8.75	87.50	875.00
After the expiry of 2 years but before
3 years from the date of deposit	7.85	78.50	785.05
After the expiry of 3 years but before
4 years from the date of deposit	6.72	67.19	671.91
After the expiry of 4 years but before
5 years from the date of deposit	5.58	55.75	557.50
After the expiry of 5 years but before
6 years from the date of deposit	4.44	44.40	443.99
After the expiry of 6 years but before
7 years from the date of deposit	3.34	33.38	333.81
After the expiry of 7 years but before
8 years from the date of deposit	2.30	23.00	229.96
After the expiry of 8 years but before
9 years from the date of deposit	1.36	13.63	136.25
After the expiry of 9 years but before
10 years from the date of deposit	0.57	5.75	57.46

Note : The amount of the commuted annuity will be calculated in the following manner :

1. For every unit of Rs. 1,000, if any, comprised in the amount of annuity deposit, the amount of the commuted value will be calculated at the rates specified in column 4 ;

2. For every unit of Rs. 100, if any, comprised in the amount of the annuity deposit, remaining after the calculation at (1), the amount of the commuted value will be calculated at the rates specified in column 3 ; and

3. For every unit of Rs. 10, if any, comprised in the amount of annuity deposit, remaining after the calculation at (1) and (2) the amount of the commuted value will be calculated at the rates specified in column 2.

The aggregate of the amounts calculated as at (1), (2) and (3) will be the amount of the commuted value.

Circular: No. 18 [F.No. 17/25/69-WT], dated 12-6-1969.

1412. Cases where tolerance margin of 25 per cent is exceeded because of disallowance of disputed tax liability - Whether penalty imposable for concealment of wealth

1. The Board have received representations that even in cases where the disputed income-tax and wealth-tax demands, outstanding on the valuation date, are disallowed and such disallowances account for the shortfall of the returned wealth by more than 25 per cent of the assessed wealth, some Wealth-tax Officers have been levying penalty under section 18(1)(c).

2. No doubt, under section 2(m), such disputed tax demands are not to be considered as debt deductible for computing the net wealth. But section 35(2) provides that where the disputed tax is paid within 6 months of the decision by the appellate authority, the Wealth-tax Officer shall rectify the assessment for allowing deductions to that extent. For facilitating their claims for rectification under section 35(2), assessees usually claim in their returns deduction for the entire outstanding (including the disputed tax). This is a fairly prevalent practice, which cannot be ascribed to fraudulent motives or gross or wilful neglect on the part of assessees.

3. The Board have carefully considered the matter and they are of the view that in the cases of the type mentioned in para 1, the assessees should be considered to have discharged the onus of proving that the failure to declare the correct net wealth was not due to any fraud or gross or wilful neglect on their part. No penalty under section 18(1)(c) should be levied in such cases.

4. Other instructions of the Board on the scope of the Explanation to section 18(1) may be seen in Circular No. 8-WT, dated 15-11-1968.

Circular : No. 19 [F. No. 9/20/69-IT(A-II)], dated 13-6-1969.

SECTION 37(3[`6] 1) l EXPENDITURE ON ADVERTISEMENT/
MAINTENANCE OF GUEST HOUSE/TRAVELLING

373. Expenditure on advertisement in souvenirs - Allowance thereof as admissible deduction

clarification 1

1. Reference is invited to Boards Circular No. 200, dated 28-6-1976 [Clarification 2] by which it was clarified that no distinction need be drawn between expenditure on advertisements in souvenirs and other types of advertisement.

2. A question has been raised as to whether an assessee can resort to publicity in more than one souvenir published by the same institution/organisation. Souvenirs are one of the recognised media of publicity. A businessman can advertise in more than one newspaper or magazine and also in more than one issue of the same newspaper or magazine. Expenditure on such advertisements will qualify for deduction under section 37(3) read with rule 6B of the Income-tax Rules. Similarly, if advertisements have been released in more than one souvenir published by the same organisation, deduction in respect of such publicity will be admissible provided aforesaid conditions are satisfied.

Circular : No. 203 [F. No. 204/29/76-IT(A-II)], dated 16-7-1976.

Judicial analysis

explained in - The above circular was explained and applied in ITO v. J.K. Synthetics Ltd. [1986] 18 ITD 71 (Delhi), with the following observations :

This circular issued by the CBDT makes it clear that advertisements inserted in souvenirs are recognised modes of publicity and that expenditure on such advertisements would qualify for deduction under section 37(3) of the Act, read with rule 6B of the Income-tax Rules, 1962. Here there is no dispute that the conditions of rule 6B were fully satisfied. In the circumstances there should be no objection for the allowance of this amount as a deduction. We agree with the finding given by the Commissioner (Appeals) that this amount was not a donation made to a political party in the guise of advertisement. A circular given by the CBDT is binding on the department and particularly those circulars which are beneficial to the assessees. This was the view expressed by the Supreme Court as early as in Navnit Lal C. Javeri v. K.K. Sen, AAC [1965] 56 ITR 198 later repeated in Ellerman Lines Ltd. v. CIT [1971] 82 ITR 913 and very recently in K.P. Verghese v. ITO [1981] 131 ITR 597. . . . (p. 509)

clarification 2

1. Attention is invited to Boards Circular No. 19 [F. No. 9/20/69-IT(A-II)], dated 13-6-1969 [Clarification 3] on the above subject.

2. It has been represented to the Board that expenditure on advertisements in souvenirs is expenditure incurred wholly and exclusively for the purpose of business and as such is allowable as a deduction under section 37(1). Disallowance of a part of expenditure on advertisement in souvenirs by the Income-tax Officer on the ground that it is in the nature of donation has caused hardship to the assessees and has caused avoidable litigation.

3. The Board has re-examined the question in the light of the representations made. It is clarified that no distinction need be drawn between expenditure on advertisements in souvenirs and other types of advertisements. Claims in respect of expenditure on advertisements in souvenirs may be allowed if the conditions laid down in rule 6B of the Income-tax Rules are fulfilled and there is evidence that the expenditure has been incurred.

Circular : No. 200 [F. No. 204/29/76-IT(A-II)], dated 28-6-1976[`7] 1.

Judicial analysis

Relied on in - The above circular was relied on in Century Spg. & Mfg. Co. Ltd. v. CIT [1991] 189 ITR 660 (Bom.), with the following observations :

It is brought to our notice by Mr. Mehta, learned counsel for the assessee, that the Central Board of Direct Taxes by its Circular No. 200, dated June 28, 1976, clarified that no distinction need be drawn between expenditure on advertisements in souvenirs and other types of advertisements. It was also clarified that the position would remain so even if the advertisements were released more than once in a year by the same organisation. Dr. Balasubramanian makes no submission in view of the circular cited except that the advertisements in the souvenirs did not really serve the assessees business purpose. Be that as it may, the circulars of the Board are binding on the Income-tax authorities in view of section 119 of the Income-tax Act, 1961. That being so, we have to answer the additional question No. 1 in the negative and in favour of the assessee. (p. 662)

See also CIT v. Sundaram Finance (P.) Ltd. [1985] 154 ITR 564 (Mad.).

clarification 3

1. It has been represented to the Board that expenditure incurred by businessmen on advertisements in souvenirs by trade, commerce and industry should be allowed in full in the same manner as expenditure on advertisements in newspapers since the purpose of both kinds of advertisements is identical.

2. The matter has been examined. The position, in law, is that expenditure on advertisements in souvenirs by trade, commerce and industry will be admissible in full if it can be said to have been laid out wholly and exclusively for the purpose of business. Rule 6B of the Income-tax Rules, which lays down the extent and the conditions subject to which expenditure on advertisement is to be allowed under section 37(3), does not bar the allowance of expenditure on advertisements in souvenirs, etc., in full. It is only where donations are given in the garb of advertisement expenses that the expenditure is inadmissible. Even in such cases, the donations should be considered for relief under section 80G, if the conditions mentioned in that section are fulfilled.

Circular : No. 20 [F. No. 10/11/69-IT(A-II)], dated 13-6-1969.

318. Bad debts - Whether claims of banks should be automatically allowed in their entirety in their assessments under clause (vii) of sub-section (1[`8] 1)

1. A suggestion has been made to the Board that, in the case of banks, the Income-tax Officer should give full deduction for all bad and doubtful debts actually written off in the books of the banks, without any questioning, since the banks are in a better position to decide whether any of their debts are realisable or not.

2. The above suggestion was earlier examined by the Board on representations made from the Indian Chamber of Commerce, Calcutta and the Indian Banks Association itself. It was decided that it was not possible to accept the suggestion that the bad debts claimed by banks should be automatically allowed in their entirety in the assessments of the banks. The legal position was explained at that time in the replies issued by the Board to the Indian Chamber of Commerce and to the Indian Banks Association. Copies of these letters [CBR Circular No. 27(19)-IT/49, dated 2-9-1949 and CBR Circular No. 27(19)-IT/49, dated 22-3-1950 with Annexures] are enclosed for information [Annex I and Annex II].

ANNEX I - CIRCULAR DATED 2-9-1949 REFERRED TO IN CLARIFICATION

Allowances in assessing business income - Bad and doubtful debts - Bad debts of banksWith reference to the correspondence ending with your Letter No. 2880, dated 18-8-1949*, I am directed to state that the questions whether a debt is a bad debt and when it became bad, are mainly questions of fact to be determined in case of dispute not by the assessee or by the exercise of any option on his part of declaring it bad but by the ITO (subject to appeal) upon a consideration of all relevant circumstances. When all the facts on which a public bank reached the decision that a particular debt (or a part of it) has become irrecoverable are placed before the Income-tax Officer, the Income-tax Officer might take a reasonable view of the evidence before reaching his finding. As far as the Board are aware, serious disputes between a public bank and the Income-tax Officers have not so far arisen in the matter of bad debts and they trust that the position will be maintained in future.

As regards the question of accepting audit certificate, the whole matter has been gone into by the Income-tax Investigation Commission and attention is invited to paragraph 206 of their Report.

*letter referred to in annex I

The Committee of the Chamber have been informed that while the Indian Companies Act and the Banking Companies Act lay down that the banks should write off or make provision for all doubtful or bad debts before ascertaining the net profits, the Income-tax Officers under section 10 of the 1922 Act, however, allow relief only in respect of such bad debts as in their estimate are irrecoverable to the extent of the amount written off. Doubtful debts are, therefore, automatically excluded from the relief. Further, Income-tax Officers, it is stated, insisted on the following information : (1) how old the debt is? (2) how it became bad? and (3) when it became bad?

As the Government are aware, banks generally write off bad debts from the current years revenue without touching the reserve fund and, therefore, it may not be possible to write off all bad debts in a single year. The banks continue to make provision each year and at suitable opportunity bad debts are written off. It is stated that Income-tax Officers often reject such claims either on the ground that they are premature or that they became bad in a previous year. Moreover, it is learnt that Income-tax Officers in interpreting irrecoverability are more guided by legal interpretation than facts and refuse to grant relief unless the banks can produce documentary evidence that the debts are irrecoverable or unless the debts are statute barred. It would be appreciated that it is hardly possible for the banks to get any documentary proof regarding bad debts. It is well-known that when a debt becomes unsecured or when the debtor fails to repay the debt on due date, the bank calls upon the debtor to repay the debt or in the alternative to furnish security. On the failure of the debtor to comply with the demand of the bank, the bank continues to press for payment for some time. Thereafter, verbal enquiries are made to ascertain whether the debtor concerned has any assets which the bank can follow. It is only when the bank is unable to locate any assets and the debtor refuses to offer co-operation in the matter of reduction of his indebtedness that the bank proceeds to write off the debts.

In the above circumstances, the demand of Income-tax Officers for the production of documentary evidence as regards the irrecoverability of the debt or rejection of claims on the ground that they are premature or that they became bad in previous year is hardly justifiable. The result is that while under the Indian Companies Act or under the Banking Companies Act, banks are required to write off or provide for all doubtful or bad debts, the Income-tax Act penalises the banks for doing so. In the opinion of the Committee this anomaly should be removed and the Income-tax Act should allow full relief to banks in respect of all bad and doubtful debts actually written off or in respect of which provision is made in the books of the bank. Banks being public limited companies, their books are audited by registered accountants and auditors and their officers appointed by the Board. Therefore, there is hardly any justification for placing public banks in the same category as private money-lenders. The Central Board of Revenue must be aware that even after writing off the debts as a precautionary measure, the banks continue in their attempts to realise as much of their debts as possible by constant persuasion or other methods. Whatever amounts are realised in subsequent years are taken into account as income and, therefore, the Income-tax Department does not stand to lose by allowing any premature writing off of debts.

ANNEX ii - CIRCULAR DATED 22-3-1950 REFERRED TO IN clarification

Bad debts of banks - With reference to the correspondence ending with your Letter No. 176, dated 13-3-1950*, I am directed to say that in actual practice Income-tax Officers do not go into the details of all the items of bad debts claimed by a bank. What they do is to select a few important items and call for evidence regarding the same only. For obvious reasons they cannot accept the audit certificates in all cases without satisfying themselves wherever it is considered necessary. What has been stated in para 206 of Investigation Commissions Report on the subject of auditors certificates is equally applicable to the certificates issued by directors.

Circular : No. 27(19)-IT/49, dated 22-3-1950.

*letter DATED 13-3-1950 REFERRED TO IN ANNEX ii

In continuation of our Letter No. 79, dated 7-2-1950, in reply to your Letter No. 27(19) IT/49, dated 19-1-1950, we beg to state that we have now secured a copy of para 206 of the Report of the Income-tax Investigation Commission and perusal thereof shows that it refers to auditors of accounts and to certificates granted by them. In our letters, however, we have not referred to auditors and any action by them. We have referred to a certificate from the board of directors of the banking company concerned and that is, of course, a different matter.

letter DATED 7-2-1950 REFERRED TO IN ABOVe letter

I am directed to thank you for your kind reply No. 27(19)-IT/49, dated 19-1-1950. Our association has gone through it very carefully and has requested me to point out that my letter No. 670 of 20-10-1949 last was written with the sole object of requesting the Honble Central Board of Revenue to issue instructions so that the time of the Income-tax Officers as well as of public banking companies in calling for elaborate details as regards each and every irrecoverable loan written off and claimed as a deduction from taxable income under section 10(2)(xi) of the 1922 Act may not be wasted. As your aforesaid reply does not refer to this point, I invite your kind attention to the matter once again. The point for consideration is that public banking companies have a working capital running into crores of rupees and a small part of the loans has often to be written off as irrecoverable. As explained in my letter on 20-10-1949, not a rupee is ever written off without taking all possible steps to recover it and no useful purpose is served by calling for elaborate details each year as regards each loan written off. The banks themselves have to spend a good deal of their time in working out the said details and the Income-tax Officers are also obliged to do the same if they have properly to go through the voluminous details supplied. With the assessment work in heavy arrears, you will agree that such use of public time could advantageously be avoided. The assessment can also be substantially expedited if time is spent only on enquiries likely to yield good results and not on fruitless enquiries such as going through details of loans written off, especially as a public company governed by the Banking Companies Act cannot write off loans, unless they are really irrecoverable. As pointed out in our last letter under the Banking Companies Act, banking companies are required to fulfil a number of additional requirements as regards preparation of accounts and balance sheets, in which elaborate details as regards loans advanced are to be shown under as many as nine categories. As a further safeguard for revenue, our association suggested that a certificate from the board of directors certifying that the loans written off were really found to be irrecoverable should be supplied to the income-tax department and our object in writing the last as well as this letter is to request the Board to issue instructions to Income-tax Officers to accept the said certificate as sufficient proof, thus saving a good deal of their valuable time as well as that of the bank concerned. As rightly observed in your reply, no serious disputes between a public bank and the Income-tax Officers has so far arisen in the matter of bad debts. This is so because such banks never write off a loan unless it is really irrecoverable and the very fact that no disputes have arisen shows that no useful purpose will be served by requiring elaborate details by way of proofs for what is beyond dispute. In the circumstances, my Association hopes that your Board will kindly consider the suggestion made in the interest of Government revenue.

2. As regards your reference to para 206 of the Income-tax Investigation Commissions Report, I have to state that this Association is not supplied with a copy of that report. I have, therefore, to request you to kindly send me a copy of the said para.

Circular : No. 21 [F. No. 7A/40/68-IT(A-II)], dated 9-7-1969.

224. Norms and principles to be applied in assessing foreign/Indian participants in technical collaboration[`9] 1

1. It has been represented to the Board that in determining the tax liability of foreign and Indian participants in technical collaboration agreements, different norms and principles are being applied by different Income-tax Officers with the result that there is a great deal of uncertainty in the minds of the foreign parties regarding the incidence of Indian tax on the income derived by them under such agreements. A suggestion has, therefore, been made that in order to remove this uncertainty, the various tax problems arising under technical collaboration agreements may be reviewed by the Board and detailed instructions issued to the Assessing Officers so that there is uniformity as well as certainty in the matter of tax treatment.

2. It may be observed at the outset that the tax problems arising in the cases of foreign collaborations are extremely varied and diverse and the decision depends not merely upon the terms of the particular agreement but also on the nature of the technical know-how actually imparted thereunder. It is, therefore, not possible to lay down clear-cut solutions to cover all conceivable situations. Only general principles and guidelines can be indicated which should be applied in individual cases according to the facts of each case.

3. Technical know-how is a term of wide connotation and includes several kinds of technical knowledge, assistance and services. There are several ingredients constituting technical know-how such as (i) the design of the product to be manufactured, (ii) the design of the process for manufacture, (iii) the design and engineering of the plan, and (iv) the erection and commissioning of the plant, etc., etc. There are also different ways of imparting technical know-how which may be (i) through outright sale of designs, know-how, etc., (ii) by lending the services of foreign technicians, (iii) by giving technical assistance during the period of agreement, (iv) through royalty or licensing agreements, or (v) through foreign capital participation. A further important aspect is whether or not the nomenclature used in the collaboration agreement really indicates the correct nature and purpose of the payment. In such cases, the real nature and purpose of the payment has to be ascertained and taken into account.

4. Broadly speaking, the tax problems arising under technical collaboration agreements are of two kinds, viz., those relating to the admissibility of the expenditure incurred in the assessments of the Indian participant, and those relating to the taxation of the amounts in the hands of the non-resident participant. As regards the former, i.e., the admissibility of the expenditure in the hands of the Indian participant, the question would be whether the expenditure has been incurred for acquiring or bringing into existence an asset or advantage of enduring benefit to the assessees business. If so, the expenditure will have to be regarded as one on capital account. On the other hand, if the expenditure has been incurred for running the business and working it with a view to produce profits, the payment would be allowable as revenue expenditure. The question has necessarily to be examined with reference to the facts of each particular case and no general proposition can be laid down that all payments for technical know-how should be regarded as revenue payments or that they are always capital in nature.

5. A point to be remembered in this connection is that the nature of a receipt as capital or revenue in the hands of the non-resident participant is not always determinative of the nature of the outgoing in the hands of the person who pays it. If the payment is an outright payment for, say, the acquisition of a secret process formula, the benefit of which would enure permanently to the Indian participants business, there would be every justification for treating the payment in question, as of a capital nature. It may, however, well happen that the payment has been received by the foreign participant in the ordinary course of his business so that it has to be assessed as a revenue receipt in his hands. It can also happen in some cases that the receipt might be regarded as a capital receipt in the hands of the foreign participant but the payment may be regarded as revenue expenditure in the assessment of the Indian participant. However, before disallowing theexpenditure in the assessment of the Indian participant as capital expenditure, the Income-tax Officer must fully understand and comprehend the nature of the asset or enduring benefit which the assessee has acquired. If what has been acquired under the agreement is merely a licence for the user, for a limited period, of the technical knowledge of the foreign participant, together with or without the right to use the patents and trade marks of the foreign party, the payment would not bring into existence an asset of enduring advantage to the Indian participant, and should be regarded as expenditure incurred for the purpose of running the business during the period of the agreement. The payment would, therefore, be revenue in nature. The recent decision of the Supreme Court in the case of CIT v. Ciba of India Ltd. [1968] 69 ITR 692 provides clear guidance in cases of this type.

6. The first step, therefore, in dealing with foreign collaboration agreements is to analyse the terms of the agreement and ascertain the facts relating to the working or implementation of the agreement in order to find out, what rights or benefits or property have been acquired under the agreement by the Indian participant and for what consideration. In a case where the payment is made wholly or in part for a specific service or the supply of clearly defined item of technical know-how, no difficulty is likely to arise in determining the nature of the payment, i.e., whether expenditure is on capital or revenue account. It happens, however, that in several agreements, the payment of a single sum is stipulated for a variety of services, assistance and information supplied by the foreign participant. Sometimes, this payment is expressed as a percentage of sales made by the Indian undertaking. The Income-tax Officer will, therefore, have to go into the facts and determine the extent to which the payment made represents consideration for :

a. the mere use of technical knowledge and information for running the business during the period of the agreement;

b. the user of patents or trade marks; or

c. the acquisition of an asset or benefit of enduring advantage to the business.

While payments for (a) and (b) above would be allowable as revenue expenditure in the hands of the Indian participant, expenditure under (c) would be of a capital nature.

7. Where the technical know-how obtained relates to the design and engineering of the plant in India or the erection and commissioning of the plant, the payment should be treated as forming part of the cost of the machinery and plant and depreciation and development rebate should be allowed thereon.

Where, however, the technical know-how is not directly relatable to the depreciable assets and cannot be regarded as forming part of their cost, the expenditure, though treated as capital, would not be eligible for the allowance of depreciation and development rebate.

As regards technical know-how obtained in the form of drawings and designs and technical information and knowledge concerning the product to be manufactured and the process of manufacture, it will be sometimes difficult to decide whether the payment made therefor is capital or revenue expenditure. A pertinent question to be answered in this connection will be : Have the technique and knowledge obtained through the designs, drawings, etc., become the property of the Indian participant for all time to come or only for the duration of the agreement ? If it is only for the duration of the agreement, the next question is whether the agreement is for such a long period that the Indian participant might still be said to have acquired an enduring benefit for the purpose of his trade. Further, after the conclusion of the.period of the collaboration, what are the rights and benefits, if any, which would permanently accrue to the Indian participants business? These and other related questions have to be looked into in order to decide whether the expenditure is capital or revenue in nature. If as a result of this examination, it is found that no asset or advantage of a permanent or enduring character is acquired by the Indian participant, the expenditure should be treated as revenue expenditure and allowed as a deduction. It may, however, be noted in this connection that if the said expenditure, on product and process designs and drawings is treated as capital expenditure, the Indian participant will not be entitled to any depreciation or development rebate on the outlay. The amount cannot also be amortised and allowed over a period of years (unless the payment is for the acquisition of patent rights which are discussed separately) as there is at present no provision to this effect in the Income-tax Act.

As regards expenditure of a capital nature incurred after February 28, 1966 on the acquisition of patent rights or copyrights used for the purpose of business, section 35A provides that the expenditure will be allowed as a deduction in equal instalments over a period of 14 years.

8. As regards the foreign participant is tax liability also the first question would be whether the amount received for the supply of technical know-how, is a receipt on capital account or revenue account. The answer would again depend on the facts of the case. It has to be observed that the nature of the outgoing in the hands of the Indian participant will not always be determinative of the nature of the receipt in the hands of the foreign party. In the U.K., it has been held by the Courts that a receipt from the sale of know-how would be a capital receipt only where the sale of the technical know-how or the imparting of technical knowledge and information results in the transfer or parting with the property or asset or any special knowledge or skill which would ripen into a form of property and that after such transfer, the transferor is deprived of using the assetsee Moriarty v. Evans Medical Supplies Ltd. [1959] 35 ITR 707. In all other cases, where no capital asset or property is parted with and the transaction is merely a method of trading by which the recipient acquires the particular sum of money as profits and gains of that trade, the consideration received for the sale of technical know-how will be on revenue account.

9. If the amount received by the foreign participant is a revenue receipt in his hands and the amount is received by him outside India, the further questions that would arise are, whether the payment is :

a. for services rendered abroad, or

b. for services rendered in India, or

c. represents royalty.

If the amount received by the foreign participant is for services rendered entirely outside India, that sum will not be subject to tax in India, because the income will be accruing to the non-resident wholly outside India. Where the payment received is for services rendered in India, the amount will be taxable in India, subject, of course, to the deduction of legitimate expenses of a revenue nature incurred by the foreign participant for the purpose of earning such income. If the payment received is royalty, the question of allocating the income between India and outside India would not arise and the whole amount would be liable to tax in India where the patent has been exploited. Deduction will, however, be admissible against the royalty income for the cost of current services rendered in order to earn the royalty.

10. The cases where payments of each of the above categories are clearly and truly ascertainable from the terms of the agreement and with reference to all relevant facts will not present serious difficulty. But in cases where the agreement stipulates a consolidated payment or where the true character of the payment is different from that ascribed to it in the agreement difficulty would arise in the allocation of the payment for the various services rendered under the agreement. Ordinarily, a payment expressed as a percentage of the sales in India is to be treated as payment of royalty and taxed in India. When the payment is stated to be for technical know-how or services rendered abroad but is related to the sales, the Income-tax Officer will have to go into the facts of the case and determine the extent to which the payment attributed to technical services abroad represents in fact payment for (i) services abroad, (ii) services in India, and (iii) royalty or extra royalty for exploiting the know-how in India.

It is, therefore, necessary that the utmost care should be exercised by the Assessing Officers in determining the true nature of the payment when it is a consolidated figure or is expressed as a percentage of sales, by whatever terms the contracting parties may decide to call it. Allocation of the payment among the various services in India and abroad towards the royalty element, if any, included in the arrangement, has to be made objectively and after a careful appraisal of the precise terms of the collaboration agreement and the actual manner in which the terms have been implemented in practice.

11[`10] 1. With reference to cases of foreign capital participation it may be noted that where shares are allotted to a non-resident participant in the form of equity capital of an Indian concern, in consideration for transfer abroad of technical know-how or services or delivery abroad of machinery and plant, and the payment is not taxable under section 5(2)(b) as income accruing or arising or deemed to accrue or arise in India, it has been decided that no attempt should be made by the department to bring to tax the profits or gains on such transaction merely on the ground that the situs of the shares is in India. However, if any operations are effected or services are rendered in India, the income will, to that extent, accrue or arise in India and will be chargeable to tax in India. If payments of royalty are made by way of free issue of equity shares, the value thereof will of course be liable to tax. It is only those shares which are issued at the time of incorporation of the Indian company in lieu of a lump sum payment for the technical know-how delivered abroad, that will be exempt from income-tax as well as the tax on capital gains. Further, if the shares issued in consideration for technical know-how at the time of the incorporation of the Indian company are subsequently sold, the capital gains realised therefrom would be subject to tax. Preference shares allotted will be treated in the same way as equity shares in this regard.

12. In the end, a reference may be made to the provisions of section 195, particularly sub-section (2) of that section, which deserves to be more widely made use of than is being done at present. In a foreign technical collaboration, where the Indian participant who is responsible to pay a technical fee, etc., to the foreign party, considers that the whole of such sum would not be income chargeable in the hands of the recipient, he could apply to the Income-tax Officer under section 195(2) for determination of the appropriate proportion of such payment which would be taxable and in respect of which tax is to be deducted in accordance with sub-section (1). In effect, therefore, this sub-section provides for an advance ruling being given by the Income-tax Officer in the matter of the tax liability of the non-resident participant. [[`11] 1* * *]

JUDICIAL ANALYSIS

Explained in - The above circular was explained in CIT v. Union Carbide Corporation [1994] 206 ITR 402 (Cal.), with the following observations :

In any case, if the Central Board of Direct Taxes, while explaining the law, engages in a forensic exercise and wants the officers to understand its view of the provision of law as though it was declaring law as a competent judicial or quasi-judicial authority empowered to decide questions of law between contending parties, that would be of no effect and the instruction issued on that basis cannot be elevated to the status of information in its special significance in the context of section 147(b).

We have persued the circular of the Board and we find that the Board has made its own interpretation as to how the law relating to the assessability of technical service fees should be understood by the Assessing Officer. If the amount received by the foreign participant is a revenue receipt in his hands and the amount is received by him outside India, the further questions that would arise are, whether the payment is :

(i) for services rendered abroad, or

(ii) for services rendered in India, or

(iii) representing royalty.

If the amount received by the foreign participant is for services rendered entirely outside India, that sum will not be subject to tax in India, because the income will be accruing to the non-resident wholly outside India. Where the payment received is for services rendered in India, the amount will be taxable in India, subject of course, to the deduction of legitimate expenses of a revenue nature incurred by the foreign participant for the purpose of earning such income. If the payment received is royalty, the question of allocating the income between India and outside India would not arise and the whole amount would be liable to tax in India where the patent has been exploited. Deduction will, however, be admissible against the royalty income for the cost of current services rendered in order to earn the royalty.

It is not that the circular merely draws the attention of the Assessing Officers to existing judge-made law in the form of judicial decision or proclamation in the shape of decisions coming from quasi-judicial authority competent to decide questions of law between contending parties.

The opinion of the Board can be information for the purpose of the relevant section only where it expresses the opinion while performing its appellate function...... (pp. 411-412)

FINANCE ACT, 1969 - CIRCULAR NO. 22, DATED 17-7-1969

Circular : No. 23 [F. No. 7A/38/69-IT(A-II)], dated 23-7-1969.

SECTION 9 l INCOME DEEMED TO ACCRUE OR ARISE IN INDIA[CORRESPONDING TO SECTION 42 OF THE 1922 ACT

39. Income accruing or arising through or from business connection in India - Non-residents - Liability to tax under clause (i) of sub-section (1)

CLARIFICATION 1

1. Section 9 provides, inter alia, that income accruing or arising, directly or indirectly, through or from any business connection in India, shall be deemed to be income accruing or arising in India and, hence, where the person entitled to such income is a non-resident, it will be includible in his total income. Clarifications [`12] 1issued in the past by the Board on the scope of the provisions of section 42 of the 1922 Act and their applicability in certain types of cases are hereby consolidated and restated for the information and convenience of the public.

2. What constitutes business connection - The expression business connection admits of no precise definition. The import and connotation of this expression has been explained by the Supreme Court in their judgment in CIT v. R.D. Aggarwal & Co. [1965] 56 ITR 20. The question whether a non-resident has a business connection in India from or through which income, profits or gains can be said to accrue or arise to him within the meaning of section 9 has to be determined on the facts of each case. However, some illustrative instances of a non-resident having business connection in India, are given below :

o Maintaining a branch office in India for the purchase or sale of goods or transacting other business.

o Appointing an agent in India for the systematic and regular purchase of raw materials or other commodities, or for sale of the non-residents goods, or for other business purposes.

o Erecting a factory in India, where the raw produce purchased locally is worked into a form suitable for export abroad.

o Forming a local subsidiary company to sell the products of the non-resident parent company.

o Having financial association between a resident and a non-resident company.

3. The following clarifications would be found useful in deciding questions regarding the applicability of the provisions of section 9 in certain specific situations :

(1) NON-RESIDENT EXPORTER SELLING GOODS FROM ABROAD TO INDIAN IMPORTER [`13] 2- (i) No liability will arise on accrual basis to the non-resident on the profits made by him where the transactions of sale between the two parties are on a principal-to-principal basis. In all cases, the real relationship between the parties has to be looked into on the basis of agreement existing between them, but where

(a) the purchases made by the resident are outright on his own account,

(b) the transactions between the resident and the non-resident are made at arms length and at prices which would be normally chargeable to other customers,

(c) the non-resident exercises no control over the business of the resident and sales are made by the latter on his own account, or

(d) the payment to the non-resident is made on delivery of documents and is not dependent in any way on the sales to be effected by the resident,

it can be inferred that the transactions are on the basis of principal-to-principal.

(ii) A question may arise in the above type of cases whether there is any liability of the non-resident under section 5(1)(a) on the basis of receipt of sale proceeds including the profit in India. If the non-resident makes over the shipping documents to a bank in his own country which discounts the documents and sends them for collection to the bankers in India, who present the sight or usance draft to the resident importer and deliver the documents to him against payment or acceptance by the latter, the non-resident will not be liable to tax on the profit arising out of the sales on receipt basis. Even if the shipping documents are not discounted in the foreign country, but are handed over in India against payment or acceptance, no portion of the profits will be chargeable to tax under the Income-tax Act, if this is the only operation carried on in India on behalf of the non-resident.

(2) NON-RESIDENT COMPANY SELLING GOODS FROM ABROAD TO ITS INDIAN SUBSIDIARY - (i) A question may arise whether the dealings between a non-resident parent company and its Indian subsidiary can at all be regarded as on a principal-to-principal basis since the former would be in a position to exercise control over the affairs of the latter. In such a case, if the transactions are actually on a principal-to-principal basis and are at arms length and the subsidiary company functions and carries on business on its own, instead of functioning as an agent of the parent company, the mere fact that the Indian company is a subsidiary of the non-resident company will not be considered a valid ground for invoking section 9 for assessing the non-resident.

(ii[`14] 1) Where a non-resident parent company sells goods to its Indian subsidiary, the income from the transaction will not be deemed to accrue or arise in India under section 9, provided that (a) the contracts to sell are made outside India, (b) the sales are made on a principal-to-principal basis and at arms length, and (c) the subsidiary does not act as an agent of the parent company. The mere existence of a business connection arising out of the parent-subsidiary relationship will not give rise to an assessment, nor will the fact that the parent company might exercise control over the affairs of the subsidiary.

(3) (3) SALE OF PLANT AND MACHINERY TO AN INDIAN IMPORTER ON INSTALMENT BASIS - Where the transaction of sale and purchase is on a principlal-to-principal basis and the exporter and the importer have no other business connection, the fact that the exporter allows the importer to pay for the plant and machinery instalments will not, by itself, render the exporter liable to tax on the ground that the income is deemed to arise to him in India. The Indian importer will not, in such a case, be treated as an agent of the exporter for the purposes of assessment.

(4) FOREIGN AGENTS OF INDIAN EXPORTERS - A foreign agent of Indian exporter operates in his own country and no part of his income arises in India. His commission is usually remitted directly to him and is, therefore, not received by him or on his behalf in India. Such an agent is not liable to income-tax in India on the commission[`15] 1.

(5[`16] 2) NON-RESIDENT PERSON PURCHASING GOODS IN INDIA - A non-resident will not be liable to tax in India on any income attributable to operations confined to purchase of goods in India for export, even though the non-resident has an office or an agency in India for this purpose. Where a resident person acts in the ordinary course of his business in making purchases for a non-resident party, he would not normally be regarded as an agent of the non-resident under section 163. But, where the resident person is closely connected with the non-resident purchaser and the course of business between them is so arranged that the resident person gets no profits or less than the ordinary profits which might be expected to arise in that business, the Income-tax Officer is empowered to determine the amount of profits which may reasonably be deemed to have been derived by the resident person from that business and include such amount in the total income of the resident person.

(6) SALES BY A NON-RESIDENT TO INDIAN CUSTOMERS EITHER DIRECTLY OR THROUGH AGENTS - (a) Where a non-resident allows an Indian customer facilities of extended credit for payment, there would be no assessment merely for this reason provided that(i) the contracts to sell were made outside India; and (ii) the sales were made on a principal-to-principal basis.

(b) Where a non-resident has an agent in India and makes sales directly to Indian customers, section 9 of the Act will not be invoked, even if the resident pays his agent an overriding commission on all sales to India, provided that (i) the agent neither performs nor undertakes to perform any service directly or indirectly in respect of these direct sales and the making of these sales can, in no way, be attributed to the existence of the agency or to any trading advantage or benefit accruing to the principal from the agency; (ii) the contracts to sell are made outside India; and (iii) the sales are made on a principal-to-principal basis.

(c) Where a non-residents sales to Indian customers are secured through the services of an agent in India, the assessment in India of the income arising out of the transaction will be limited to the amount of profit which is attributable to the agents services, provided that (i) the non-resident principals business activities in India are wholly channelled through his agent, (ii) the contracts to sell are made outside India, and (iii) the sales are made on a principal-to-principal basis. In the assessment of the amount of profits, allowance will be made for the expenses incurred, including the agents commission, in making the sales. If the agents commission fully represents the value of the profit attributable to his service; it should prima facie extinguish the assessment.

(d) Where a non-resident principals business activities in India are not wholly channelled through his agent in India, the assessment in India will be on the sum total of the amount of profit attributable to his agents activities in India and the amount of profit attributable to his own activities in India, less the expenses incurred in making the sales.

(7) EXTENT OF THE PROFIT ASSESSABLE UNDER SECTION 9 - Section 9 does not seek to bring into the tax net the profits of a non-resident which cannot reasonably be attributed to operations carried out in India. Even if there be a business connection in India, the whole of the profit accruing or arising from the business connection is not deemed to accrue or arise in India. It is only that portion of the profit which can reasonably be attributed to the operations of the business carried out in India, which is liable to income-tax.

To constitute a business connection, some continuity of relationship, between the person in India who helps to make the profits and the person outside India who receives or realises the profits, is necessary. Where all what has happened is that a few transactions of purchases of raw materials have taken place in India and the manufacture and sale of goods have taken place outside India, the profits arising from such sales cannot be considered to have arisen out of a business connection in India. Where, however, there is a regular agency established in India for the purchase of the entire raw materials required for the purpose of manufacture and sale abroad and the agent is chosen by reason of his skill, reputation and experience in the line of trade, it can be said that there is a business connection in India so that a portion of the profits attributable to the purchase of raw materials in India can be apportioned under Explanation (a) to section 9(1)(i[`17] 1). [The taxability of such portion of the profits will, however, be subject to the exemption provided in clause (b) of the Explanation to section 9(1)(j).]

Judicial analysis

Distinguished in - The above circular was distinguished on facts in Performing Rights Society Ltd. v. CIT [1977] 106 ITR 11 (SC), with the following observations :

Mr. Dutt relied upon a circular of the Central Board of Direct Taxes being Circular No. 23/F, 1969, dated 23rd July, 1969, regarding liability to tax on income accruing or arising to a non-resident under section 9 of the Act. Mr. Dutt contended that this circular has statutory force under section 119 of the Act. For our present purpose, however, we are not required to consider whether the circular has any statutory force or not because the circular relates to income accruing or arising through or from business connection in India. Paragraph 7 of the said circular is as follows :

This circular, therefore, contemplates a situation quite different from that in the present case. (pp. 17-18)

Applied in - The above circular was referred to and applied in CIT v. Gulf Oil (Great Britain) Ltd. [1977] 108 ITR 874 (Bom.), with the following observations :

. . . . However, Mr. Joshi was fair enough to invite our attention to a circular bearing No. 23 of 1969, dated July 23, 1969, issued by the Central Board of Direct Taxes, where certain clarifications have been issued by the Board on the scope of provisions of section 42 (section 9 of the Income-tax Act, 1961), and their applicability in certain types of cases and he fairly conceded that the question raised in the instant reference may have to be considered having regard to the guidelines or clarifications that have been issued by the Board in the said circular. Paragraph 2 of the circular runs thus :

Having regard to this illustrative instance, which has been given in paragraph 2 of the aforesaid circular, it is quite clear that in the instant case the business connection could be said to have been established, inasmuch as the Indian subsidiary company which is a hundred per cent subsidiary owned by the non-resident company has been formed to effect sales of the products of non-resident company . . . .

In this view of the matter, it seems to us clear that in view of the illustrative instances and guidelines furnished by the Board under its aforesaid circular, there is no scope for applying the provisions of section 42(3) of the Act . . . .

CLARIFICATION 2

1. Attention is invited to para 3(7) of Boards Public Circular No. 23, dated 23-7-1969 [Clarification 1] , wherein it has been stated as follows :

. . . where, however, there is a regular agency established in India for the purchase of the entire raw materials required for the purpose of manufacture and sale abroad and the agent is chosen by reason of his skill, reputation and experience in the line of trade, it can be said that there is a business connection in India so that a portion of the profits attributable to the purchase of raw materials in India can be apportioned under Explanation (a) to section 9(1)(i).

2. The above sentence may convey the impression that a non-resident is liable to be taxed on a portion of the profits attributable to the purchase of raw materials required for the purposes of manufacture and sale abroad, if the purchases are made in India through a regular agency established in India for this purpose. By virtue of clause (b) of the Explanation to section 9(1)(i), the correct legal position is that in the case of a non-resident, no income shall be deemed to accrue or arise in India through or from operations which are confined to purchase of goods in India for the purpose of export. Accordingly, the mere existence of an agency established by a non-resident in India will not be sufficient to make the non-resident liable to tax, if the sole function of the agency is to purchase goods for export. This legal position has also been explained in para 3(5) of the Boards Public Circular cited above.

3. To remove any possible misunderstanding of the legal position, the following sentence may be added at the end of para 3(7) of the said circular:

The taxability of such portion of the profits will, however, be subject to the exemption provided in clause (b) of the Explanation to section 9(1)(i).

Circular : No. 163 [F. No. 488/23/73-FTD], dated 29-5-1975.

Circular: No. 24 [F. No. 6/22/68-IT(A-I)], dated 23-7-1969.

728. Whether production of motion pictures amounts to manufacture or processing of goods within the meaning of section 101(4)(a)

1. The question whether production of cinematographic films, i.e., motion pictures, would amount to manufacture or processing of goods within the meaning of section 104(4)(a) has been considered by the Board. The Board are advised that a cinema film suitable for exhibition is entirely different from the raw unexposed film which is loaded into the camera in a studio.

2. It has, therefore, been decided by the Board that the production of cinematograph films would amount to the manufacture or processing of goods within the meaning of section 104(4)(a).

Judicial Analysis

Explained in - In CIT v. D.K. Kondke [1991] 192 ITR 128 (Bom.), the above circular was explained with the following observations :

. . . By the said Boards circular, it was notified by the Board that the production of cinematograph films amounted to manufacture or processing of goods within the meaning of section 104(4)(a) of the Income-tax Act, 1961. It was also stated in the said circular that, in the opinion of the Board, a cinematograph film suitable for exhibition was entirely different from the raw unexposed film which was loaded into the camera in a studio.....

If the production of a cinematograph film amounts to manufacture of an article or goods within the meaning of section 104(4)(a) as it then stood, it follows that the said activity must be treated as an industrial undertaking within the purview of section 80J of the Income-tax Act, 1961.....(pp. 130-131)

Annex Circular No. 25, dated 25-7-1969 referred to in clarification

1214. Circular dated 25-7-1969 granting stay of recovery of tax under sub-section (7) to assessees having income in Pakistan which cannot be brought into India stands withdrawn

1. Reference is invited to the Boards Circular No. 25 issued under its F. No. 9/20/68-IT(A-II), dated 25-7-1969 [Annex]. Para 2(a) of the said circular relating to sub-section (7) of section 220 reads as under :

The Income-tax Officers ask the assessees to pay tax on their Indian income at the rate applicable to the total income which includes income arising in Pakistan. Thus, if the Indian income is Rs. 10,000 and the Pakistan income is Rs. 1,00,000, the assessee is required to pay several times more tax than what he would have been required to pay had there been no income at all in Pakistan. The tax demanded by the Income-tax Officer is, thus, disproportionate to the assessees ability to pay having regard to his income in India. Under the circumstances, the Board have decided that assessees having income in Pakistan which cannot be brought into India, should be asked to pay tax only on the Indian income by treating it as the total income for the purposes of the Income-tax Act. The balance of the tax should be stayed by the Income-tax Officer under section 220(7).

2. In the case of A.C. Paul v. TRO [1979] 117 ITR 412, the Madras High Court had occasion to interpret sub-section (7) of section 220 as also to examine the scope and the correctness of the portion of the Boards Circular extracted in the preceding paragraph. The observations of the High Court thereon are reproduced below :

We have no hesitation whatever in concluding that the method to be adopted is by finding out the average rate of tax applicable on the total income determined by the assessing authorities [i.e., the tax finally determined after and appeals and references, if any, for the concerned years are disposed of] by dividing the total tax so imposed by the total income. That average rate will have to be applied to the Indian income and the tax that can be collected will be the tax so calculated on the Indian income. There is no case before us that that has not been the method adopted in determining and demanding the tax due on the Indian income. So there can be no complaint that the amount claimed as due from the assessee was not the amount that can be claimed in accordance with the provision in section 220(7). We shall now turn to the second aspect.... We have already extracted the relevant and the emphatic part of that circular and we should repeat the words of that part. It is stated there that the tax on the Indian income must be determined by treating the Indian income as the total income of the assessee and only that amount of tax should be recovered from the assessee. We are constrained to say that this direction by the Central Board of Direct Taxes is a direction diametrically opposed to the statutory provision, a direction which we are unable to support on the basis of any provision under the Act or Rules and we fail to understand how the Board issued such a circular. Even so, we are not called upon to quash that circular and we cannot quash that circular because that circular in no manner can be said to have caused any grievance to the petitioner excepting perhaps the disappointment that what the assessees, if they had income in Pakistan, would have got, he did not get. Such a disappointment we cannot treat as grievance for the purpose of article 226 of the Constitution.

3. It has been decided by the Board that there is no justification for giving a concession which is not warranted by law. Accordingly, para 2(a) of Circular No. 25 [F. No. 9/20/68-IT(A-II)], dated 25-7-1969 [Annex] is withdrawn with immediate effect and the said circular will stand modified to that extent.

4. The contents of this circular may please be brought to the notice of all concerned. Existing cases where taxes relating to Pakistan income have been stayed under section 220(7) may also be reviewed and necessary action taken in the light of this circular.

Circular : No. 251 [F. No. 403/56/77-ITCC], dated 29-1-1979.

1. Instances have come to the notice of the Board where Indian nationals, having income in Pakistan were put to considerable hardship in their assessment proceedings in India. After the 1965 hostilities between India and Pakistan, the assessees having income in Pakistan, are finding it almost impossible to repatriate their Pakistan income to India.

2. The hardships faced by such assessees are generally of the following types :

1. The Income-tax Officers ask the assessees to pay tax on their Indian income at the rate applicable to the total income which includes income arising in Pakistan. Thus, if the Indian income is Rs. 10,000 and the Pakistan income is Rs.1 lakh, the assessee is required to pay several times more tax than what he would have been required to pay had there been no income at all in Pakistan. The tax demanded by the Income-tax Officer is, thus, disproportionate to the assessees ability to pay having regard to his income in India.

Under the circumstances, the Board have decided that assessees having income in Pakistan which cannot be brought into India, should be asked to pay tax only on the Indian income by treating it as the total income for the purposes of the Income-tax Act.The balance of the tax should be stayed by the Income-tax Officer under section 220(7).

2. In some cases, it has been found that the tax on the Pakistan income was kept in abeyance for a period of only one year and thereafter the recovery proceedings were started even though the Pakistan income had not yet been brought into India. Thus, the provisions of section 220(7) were not applied properly.

3. It has also been seen in some cases that when the assessees having income in Pakistan expressed their inability to produce the assessment orders passed in their cases by the Pakistan income-tax authorities, the Income-tax Officers made assessments which prima facie appears to be rather harsh and unrealistic. The Board disapprove of the tendency to pitch up the assessments in such cases.

It is, therefore, desired that the assessment of the Pakistan income should be made on the basis of the audited profit and loss account and balance sheets duly certified by the chartered accountants but even when these statements are not available, the estimates should be fair and reasonable.

Circular : No. 26 [F. No. 10/59/69-IT(A-II)], dated 6-8-1969.

277. Development rebate allowed on assets sold to Government - Whether not liable to be withdrawn even if vendor credits to profit and loss account reserve which he had originally created

clarification 1

1. In para 1.45 of their 100th Report (1969-70), the Public Accounts Committee have observed as follows :

The Government are yet to clarify to the public whether a party would forfeit the development rebate when the entire assets are sold to Government and the development rebate reserve cannot stand as such in his books. The Committee trust that Government will take suitable action at an early date.

2. Section 34(3)(a) provides, inter alia, that development rebate shall be allowed only if in addition to certain other requirements, an amount equal to 75 per cent of the development rebate to be actually allowed is to be debited to the profit and loss account and credited to a reserve account. The reserve so credited is not to be utilised for a period of 8 years either for distribution by way of dividends or profits or for remittance outside India, as profits or for creation of any asset outside India. When an assessee sells his entire assets to the Government, the development rebate reserve created on such assets cannot stand as such in his books. The development rebate reserve account would then be closed by transfer to the capital account of the proprietor. If the sale takes place within 8 years of the previous year when the development rebate was created and the reserve is credited to the proprietors capital account, it would amount to utilisation of the reserve for distribution by way of profit to the proprietor under section 34(3)(a)(i).

Circular : No. 40 [F. No. 10/59/69-IT(A-II)], dated 11-5-1970.

clarification 2

1. There is an impression that the development rebate allowed in respect of an asset sold to the Government will not be withdrawn even if the vendor credits to the profit & loss account the reserve which he had originally created to qualify for the grant of the rebate. This is wrong as clarified below.

2. Section 34(3)(a) provides, inter alia, that development rebate shall be allowed only if in addition to certain other requirements, the following two conditions are also satisfied :

1. An amount equal to 75 per cent of the development rebate to be actually allowed is debited to the profit & loss account and credited to a reserve account. The reserve so created is not to be utilised for a period of 8 years either for distribution by way of dividends or profits, for remittance outside India as profits, or for creation of any asset outside India; and

2. The machinery or plant in respect of which development rebate has been allowed is not to be sold or otherwise transferred for a period of 8 years.

3. Under proviso to section 34(3)(b), the transfer or sale of the asset will not be penalised in certain circumstances. However, while claiming protection under this proviso in respect of the development rebate already allowed on the ground that the condition should not be enforced, the assessee cannot claim that the first condition too, namely, that the amount of the development rebate reserve should not be utilised for the distribution of dividends or profits, should also not be enforced. Even if the asset is not sold or transferred at all but continues to remain with the original owner, he, too, would forfeit the development rebate allowance in the event of a violation of the first condition. Merely because the violation of the second condition is condoned in certain circumstances by virtue of the proviso to section 34(3)(b), it does not follow that, in those cases, the violation of the first condition also stands condoned. Thus, if this condition is violated, the development rebate already allowed to the assessee will have to be withdrawn.

Circular : No. 27 [F. No. 1(252)/69-TPL], dated 16-8-1969.

SECTIONS 35B AND 35C [`18] 1-2l export markets development
ALLOWANCE/AGRICULTURAL DEVELOPMENT ALLOWANCE

293. Weighted deduction for export markets development allowance/agricultural development allowance under sections 35B and 35C, respectively - Whether circumstances in which, and the conditions subject to which, expenditure incurred indirectly will count therefor

1. The Finance Act, 1968 made provisions in sections 35B and 35C, respectively, for the grant of export markets development allowance and agricultural development allowance in computing the profits and gains from business. Under section 35B, an assessee, being a domestic company or a resident non-corporate person, who incurs expenditure under specified heads for development of export markets for Indian goods on a long-term basis, is entitled to a weighted deduction of a sum equal to one and one-half times[`19] 3the amount of the qualifying expenditure in computation of his business profits. Under section 35C, a company [`20] 4engaged in any agro-based industry, which incurs expenditure in the provision of agricultural inputs and extension services of the specified categories to independent farmers, cultivators or producers in India of the products of agriculture, animal husbandry or dairy or poultry farming, is entitled to a deduction of a sum equal to one and one-half times the amount of the qualifying expenditure in the computation of its business profits[`21] 5. [The details of these provisions have been explained in paragraphs 42-46 and 54-59 of the Boards Circular No. 6-P of 1968, dated 6-7-1968]. The weighted deduction under both these sections is available not only with reference to the qualifying expenditure incurred directly by the assessee but also with reference to such expenditure incurred indirectly by him. In the case of the export markets development allowance, expenditure incurred by the assessee in association with any other person also qualifies for the allowance. In the case of agricultural development allowance, expenditure incurred through an association or body approved in this behalf by the prescribed authority, also qualifies for the allowance.

2. A question has been raised as to the circumstances in which, and the conditions, if any, subject to which, expenditure incurred by an assessee indirectly, as stated above, will count for the weighted deduction contemplated under sections 35B and 35C. This is particularly important in the case of expenditure incurred by export houses for development of export markets on behalf of their constituents, or by associations, such as IJMA, providing agricultural inputs and extension services to jute growers with a view to improving the productivity and quality of jute. While it is not possible to lay down any general rule in this regard which would be applicable in all situations, it may be stated that individual members of constituents of an association or body, which undertakes export markets development or agricultural development on behalf of or for the benefit of its members, will qualify for the weighted deduction under section 35B or 35C with reference to their share in the expenditure incurred by the association or body, provided

a. the expenditure falls under one or more of the several qualifying categories specified in the respective sections and the rules, if any, framed thereunder;

b. where the expenditure incurred by the association or body includes any expenditure on activities other than those which fall under the specified heads, such expenditure is isolated; and

c. the net amount of expenditure incurred by the association or body under the specified heads [i.e., after excluding the expenditure referred to in (b) above, and after taking credit for any grant or subsidy received by it from the Government or any other source for carrying on the said activities] is apportioned among the members of the association or body on a rational basis and recovered from them.

To facilitate verification, it is necessary that proper accounts are maintained in respect of expenditure incurred by an association or body with reference to which the allowance under section 35B or 35C is claimed by its members or constituents.

3. It is to be noted that the weighted deduction under section 35C by way of agricultural development allowance for expenditure incurred by an assessee under specified heads through an association or body is available only if such association or body has been approved in this behalf by the prescribed authority. The authorities which are to grant approval in such cases will be notified [`22] 1shortly in the Income-tax Rules, 1962.

JUDICIAL ANALYSIS

The above circular was applied in ITO v. Kamani Engg. Corporation Ltd. [1989] 79 CTR (Bom. - Trib.) 82, with the following observations :

. . . If one goes through the provisions of section 35B, it would be clear that to be eligible for weighted deduction under section 35B, it is not necessary that the expenses should be directly incurred by the assessee. Even where the expenses are incurred through another party, the same would be eligible for weighted deduction. The matter has also been clarified by the CBDT vide Circular No. 27 dt. 16th Aug., 1987. In these circumstances, we are of the view that the CIT(A) was justified in allowing weighted deduction on the above three items... . (p. 90).

In Gokuldas Exports v. CIT [1993] 67 Taxman 219 (Kar.), it was held that while discussing the provisions of sections 35B and 35C of the Act, the Board observes that to avail the benefit of these provisions it is necessary that the expenditure falls under one or more of the several qualifying categories specified in the respective sections and the rules, if any, framed thereunder. This sentence clearly brings out the scheme of section 35B(1)(b). The expenditure may fall under one or more of the sub-clauses, is a fact recognised even by the Board.

Circular : No. 28 [F. No. 8/8/69-IT(A-I)], dated 20-8-1969.

213. Fresh loan raised to repay original loan taken for constructing/ buying property - Whether interest payable on second loan would also be admissible as a deduction under clause (vi) of sub-section (1)

1. Section 24(1)(vi) provides that where the property has been acquired, constructed, repaired, renewed or reconstructed with borrowed capital, the amount of any interest payable on such capital shall be allowed as an admissible deduction in the computation of income from the said property.

2. A question has been raised whether in a case where a fresh loan has been raised to repay the original loan taken for the above purpose, the interest payable in respect of the second loan would also be admissible as a deduction under section 24(1)(vi).

3. The matter has been considered by the Board and it has been decided that if the second borrowing has really been used merely to repay the original loan and this fact is proved to the satisfaction of the Income-tax Officer, the interest paid on the second loan would also be allowed as a deduction under section 24(1)(vi).

Circular : No. 29 [F. No. 20/22/69-IT(A-I)], dated 23-8-1968.

165[`23] 1. Application of income to charitable purposes and restriction of accumulation of trust income in terms of sub-sections (1) and (2) as they stood between 1-4-1962 to 31-3-1971 (prior to the amendments made by the Finance Act, 1970) - Taxability of income under sub-sections (1) and (2) - Legal position on issues pertaining thereto explained.

CLARIFICATION 1

1. Attention is invited to the Boards Circular Nos. 5-P(LXX-6) of 1968 and 12-P(LXX-7) of 1968 [Clarification 2] which had been duly endorsed to all Chambers of Commerce. References are still being received from the public seeking clarifications regarding the taxability of income under the provisions of sections 11(1) and 11(2).

2. The legal position is clarified as under :

u Under section 11(1)(a), a trust claiming exemption is allowed to accumulate 25 per cent of its income or Rs. 10,000, whichever is higher. Thus, if a trust accumulates a larger income than the limits prescribed for exemption, what would be chargeable to tax is the excess over the exempted limit, and not the entire accumulation including the exempted portion.

u Section 11(2), however, provides that if the conditions laid down in the sub-section are satisfied, restrictions as regards accumulation or setting apart of income shall not apply for the period during which the conditions prescribed therein remain satisfied. To avoid taxation under section 11(1)(a), investment in Government securities as prescribed in section 11(2), has to be made, not only in respect of excess amount which is chargeable under section 11(1)(a) but of the entire unspent balance including the exempted portion.

u Subsequently, if it is found that the provisions of section 11(2) have been violated and the income has been applied to purposes other than charitable or religious, or the amounts cease to be accumulated or set apart, the entire accumulation covered by section 11(2) will be subjected to tax under section 11(3).

3. Thus, while under section 11(1)(a), the tax will be levied in the year to which the income relates, under section 11(3) the income would be chargeable in the year in which the amounts cease to be accumulated for the specific purpose mentioned. Thus, when the amounts are taxed under section 11(3), the benefit which would have been available to a trust in respect of 25 per cent of its income or Rs. 10,000 under section 11(1)(a) would also be lost.

CLARIFICATION 2

Attention is invited to the Boards Circular No. 5-P(LXX-6), dated 19-6-1968 (Clarification 3), on the above mentioned subject.

It has been brought to the Boards notice that para 5 of the above circular creates the impression that where a trust accumulates more than 25 per cent of its income, only the excess over 25 per cent will be taxable under section 11(1). It is hereby clarified that the correct position in this regard is that if a trust desires to accumulate income in excess of the limits laid down in section 11(1), the conditions specified in section 11(2) have to be fulfilled in respect of the entire accumulation and not merely in respect of the accumulation in excess of 25 per cent of the income. Further, if the trust does not comply with the conditions laid down in section 12(2), the amount which becomes liable to assessment under section 11(3) is the entire income accumulated and not merely the income accumulated in excess of the limits specified in section 11(1). In other words, such an assessee loses benefit of the accumulation permitted under section 11(1).

Circular : No. 12-P [LXX-7 of 1968], dated 26-11-1968.

Judicial analysis

The above circular was quoted and relied on, in M.CT.M. Chidambaram Chettiar Foundation v. ITO [1991] 39 TTJ (Mad.) 82, 87.

Note : The above view cannot be construed as correct, in view of the preponderant judicial view expressed in the cases of CIT v. C.M. Kothari Charitable Trust [1984] 149 ITR 573 (Mad.); CIT v. H.H. Marthanda Varma Elayaraja of Travancore Trust [1981] 129 ITR 191 (Ker.); Mohanlal Hargovinddas Public Charitable Trust v. CIT [1980] 122 ITR 130 (MP); CIT v. Shri Krishen Chand Charitable Trust [1975] 98 ITR 387 (J & K) and CIT v. Trustees of Bhat Family Research Foundation [1990] 185 ITR 532 (Bom.) and Addl. CIT v. A.L.N. Rao Charitable Trust [1976] 103 ITR 44 (Kar.), which has since been approved by the Supreme Court in the case of Addl. CIT v. A.L.N. Rao Charitable Trust [1995] 216 ITR 697 (SC).

clarification 3

1. In Boards Circular No. 2-P(LXX-5), dated 15-5-1963, it was explained that a religious or charitable trust, claiming exemption under section 11(1), must spend at least 75 per cent of its total income for religious or charitable purposes. In other words, it was not permitted to accumulate more than 25 per cent of its total income. The question has been reconsidered by the Board and the correct legal position is explained below.

2. Section 11(1) provides that subject to the provisions of sections 60 to 63, the following income shall not be included in the total income of the previous year. . . . The reference in clause (a) is invariably to Income and not to total income. The expression total income has been specifically defined in section 2(45) as the total amount of income computed in the manner laid down in this Act. It would, accordingly, be incorrect to assign to the word income, used in section 11(1)(a), the same meaning as has been specifically assigned to the expression total income vide section 2(45).

3. In the case of a business undertaking, held under trust, its income will be the income as shown in the accounts of the undertaking. Under section 11(4), any income of the business undertaking determined by the ITO, in accordance with the provisions of the Act, which is in excess of the income as shown in its accounts, is to be deemed to have been applied to purposes other than charitable or religious, and hence it will be charged to tax under sub-section (3). As only the income disclosed in the account will be eligible for exemption under section 11(1), the permitted accumulation of 25 per cent will also be calculated with reference to this income.

4. Where the trust derives income from house property interest on securities, capital gains, or other sources, the word income should be understood in its commercial sense, i.e., book income, after adding back any appropriations or applications thereof towards the purposes of the trust or otherwise, and also after adding back any debits made for capital expenditure incurred for the purposes of the trust or otherwise. It should be noted, in this connection, that the amounts so added back will become chargeable to tax under section 11(3) to the extent that they represent outgoings for purposes other than those of the trust. The amounts spent or applied for the purposes of the trust from out of the income, computed in the aforesaid manner, should be not less than 75 per cent of the latter, if the trust is to get the full benefit of the exemption under section 11(1).

5. To sum up the business income of the trust, as disclosed by the accounts plus its other income computed as above, will be the income of the trust for the purposes of section 11(1). Further, the trust must spend at least 75 per cent of this income and not accumulate more than 25 per cent thereof. The excess accumulation, if any, will become taxable under section 11(1).

Circular : No. 5-P(LXX-6) of 1968, dated 19-6-1968.

Judicial analysis

Explained in - The above circular was explained in CIT v. Programme for Community Organi-sation [1997] 228 ITR 620 (Ker.), with the following observations :

Reading of the circular dated June 19, 1968, it would be a condition by way of a clarification. The circular relates to the subject in the context.

It contains instructions regarding income required to be applied for charitable purposes. Even the Board of Revenue has understood that it would be incorrect to assign to the word income used in section 11(1)(a) of the Act, the same situation of understanding as is available from the expression total income which is used in section 2(45) of the Act. It is specified that in the case of a business undertaking held under a trust, its income disclosed by the account will be eligible for exemption under section 11(1) and the permitted accumulation of 25 per cent will also be calculated with reference to this income.

Learned senior tax counsel submitted that the last paragraph of the circular makes out a different situation and, therefore, the circular as a whole will have to be read and taken into consideration in the context.... (pp. 623-624)

The above paragraph, if fully read, does not alter the situation in any way. As seen from the above, when the trust derives income, it says that the word income should be understood in its commercial sense, i.e., book income. In other words, the Department requires its officer to understand the income of the trust with reference to the book income, after adding back the items stated therein. It is thereafter that we see that whatever may be the position, the amount spent or applied for the purposes, it is clarified, should not be less than 75 per cent of the latter if the trust is to get the full benefit of the exemption under section 11(1). In our judgment, the statutory provision makes it abundantly clear that in regard to a trust which is entitled to get the full benefit of exemption of section 11(1) of the Act, its income with reference to the head under consideration would have to be understood only at 75 per cent thereof, leaving 25 per cent altogether at that stage itself. In this sense of the situation, the Central Board of Revenue also has understood the situation in the context of the statutory language of section 11(1)(a) of the Act and not otherwise. This means that when the situation is established that the trust is entitled to the full benefit of exemption under section 11(1), the said trust is to get the benefit of 25 per cent and this 25 per cent has to be understood as that of the income of the trust under the relevant head of section 11(1)(a) of the Act. (pp. 624-625)

Explained in - In CIT v. Jayashree Charity Trust [1986] 159 ITR 280 (Cal.), it was observed that this circular makes it clear that the word income in section 11(1)(a) must be understood in a commercial sense. The entire income of the trust, in the commercial sense, has been spent for the purpose of charity. There is no reason to deny the benefit of exemption granted by section 11 to that portion of the income which has been taken away by deduction at source on the ground that the amount has not been spent or accumulated for the purpose of charity.

clarification 4

It was clarified that section 11(1)(a) required that where income derived from property held under trust was accumulated for future application to charitable purposes in India, the extent of such accumulation should not exceed 25 per cent of the income from the property or Rs. 10,000, whichever is higher. Thus, where a charitable trust donated, for charitable purposes, not out of its income but out of its corpus, movable or immovable property, equivalent to, or more in value than 75 per cent of the trust income for the year, the trust could not be regarded to have satisfied the requirement of section 11(1)(a).

Source : Relevant extracts from official minutes of twelfth meeting of Direct Taxes Advisory Committee (Central) held in New Delhi on 17-8-1968.

clarification 5

1. There appears to be certain amount of misconception in the minds of some Income-tax Officers regarding the provisions against the accumulation of income in excess of 25 per cent, contained in section 11(1). It may be clarified that the provisions in section 11(1), prohibiting accumulation of income in excess of 25 per cent, apply only to the income derived from property held under trust, but such restrictions are not applicable to capital receipts. The donations received by a charitable trust from the members of the public, being capital receipts, cannot be regarded as income of the trust. Accordingly, the donations received by the trust should be excluded from the income of the trust for the purpose of calculating the accumulation limit of 25 per cent except in cases covered by section 12(2).

2. The above position will also be clear from section 12(2), which specifically provides that contributions made to a charitable trust by another trust, to which the provisions of section 11 apply, should, in the hands of the trustee, be deemed to be income derived from property for the purposes of section 11. Such contributions should, of course, be included in the total income of the receiving trust for the purpose of applying the limit of 25 per cent under section 11(1).

Letter : F. No. 20/10/67-IT(A-I), dated 1-5-1967.

Judicial Analysis

Explained in - R.B. Shreeram Religious & Charitable Trust v. CIT [1998] 99 Taxman 318 (SC) with the observation that the CBDT Circular No. 20/10/67-IT(A-I), dated 1-5-1967 deals with the application of section 11(1). It does not deal with section 12. The Board Circular, therefore, must be read only as interpreting section 11(1) and not as interpreting section 12(1) which was not the subject-matter of the Board Circular.

clarification 6

1. Under section 11(2), if a trust wants to accumulate income beyond the limit specified in clause (a) or clause (b) of section 11(1), it has to give a notice to the Income-tax Officer concerned in Form No. 10 prescribed under rule 17 of the Rules.

2. According to para 2 of the said Form, the accumulated money has to be invested in specified securities before the expiry of one month commencing from the end of the relevant previous year and according to para 3 thereof, copies of the annual accounts of the trust along with details of investment and utilisation, if any, of the money so accumulated, have to be furnished to the Income-tax Officer before April 30, every year.

3. It is hereby clarified that as far as proceedings for the assessment year 1962-63 are concerned, the first requirement referred to in the previous paragraph will be regarded as having been fulfilled if the accumulated money is invested in the specified securities before September 30, 1962. Similarly,the second requirement referred to in the previous paragraph shall be regarded as having been fulfilled if copies of the relevant accounts along with details of investment and utilisation of the accumulated money are furnished to the Income-tax Officer concerned before September 30, 1962.

Circular : No. 17(LXX-4), dated 2-6-1962.

Circular : No. 30 [F. No. 9/80/69-IT(A-II)], dated 4-10-1969.

326. Amortisation of cost of production/cost of acquiring distribution rights of films - Assessments of film producers/distributors - General guidelines for allowance thereof[`24] 1

clarification 1

1. Attention is invited to Boards Circular No. 92, dated l8-9-1972 [Clarification 2], modifying its earlier circulars issued on the above subject.

2. The Board has re-examined the question relating to the amortisation of the cost of production of feature films in the assessments of film producers and distributors. A study of the results of the business earnings of the feature films has revealed that it is not always possible to know the final receipts of any particular film in the first year. Therefore, it would be appropriate to make the assessments on a provisional basis in the first instance by allowing proportionate deduction in respect of cost of production and cost of acquiring distribution rights on an estimated basis. On determination of the final results on the expiry of the exploitation period, the income/loss can be adjusted under section 154 by revising the figure of allowance in respect of cost of production and acquisition of distribution rights in the proportion of the earnings spread over the period of exploitation.

3. By way of a general guideline, in the case of producers the entire cost of production can be allowed in the year of release if the picture was fully exploited in that year. For example, if all the territories have been sold by way of outright sale in the year of release the entire cost of production will be allowed in computing the income of the year of release to the producer. In the case of pictures sold on minimum guarantee (M.G.) basis, if the entire collections have come in the year of release, the full cost of production will similarly be allowed in the year of release, as it can be said that the picture was fully exploited in that year. In cases where all the territories have not been sold either on M.G. basis or on outright sale basis, the picture cannot be said to have been exploited fully in that year and, therefore, the entire cost cannot be allowed in the year of release. For this purpose, the most reliable factor to be taken into account for finding out whether the picture has been fully exploited or not is the actual collection from the film. As the figures of actual collection are not likely to be known in the first year of release, the assessments may be made on a provisional basis in the first year by adopting the actual receipts and allowing a part of cost of production also on an estimated basis taking into consideration future estimated receipts subject to final adjustment after the period of exploitation is over.

4. Three examples are given below by way of illustration of the above guidelines. In these examples, it has been presumed that the period of exploitation runs to 18 months. However, this period has to be determined by the Income-tax Officers with reference to facts of each individual case :

EXAMPLE I
Cost of production		Rs. 50 lakhs
Month of release		September 1970
Accounting year of the assessee for 1971-72 assessment		31-3-1971
- Realisations up to 31-3-1971 (6 months)		Rs. 45 lakhs
- Realisations from 1-4-1971 to 31-3-1972 (12 months)		Rs. 30 lakhs
- Cost to be allowed for the 1971-72 assessment
	Rs. 50 lakhs Rs. 45 lakhs	i.e., Rs. 30 lakhs
	Rs. 75 lakhs
- Cost to be allowed for the 1972-73 assessment		Rs. 20 lakhs
example ii
Cost of production		Rs. 50 lakhs
Month of release		September 1970
Accounting year of the assessment for 1971-72 assessment		31-3-1971
- Realisations up to 31-3-1971		Rs. 27 lakhs
- Realisations from 1-4-1971 to 31-3-1972		Rs. 18 lakhs
		Total	Rs. 45 lakhs
Cost to be allowed in the 1971-72 assessment
	Rs. 50 lakhs - Rs. 27 lakhs	i.e., Rs. 30 lakhs
	Rs. 45 lakhs
Cost to be allowed in the 1972-73 assessment		Rs. 20 lakhs
example iii
Cost of production		Rs. 50 lakhs
Month of release		September 1970
Accounting year of the assessee for 1971-72 assessment		31-3-1971
Realisations up to 31-3-1971		Rs. 40 lakhs
Realisations from 1-4-1971 to 31-3-1972		Nil

In this case, the entire cost will be allowed in the 1971-72 assessment since the entire realisations during the 18-month period were effected before March 31, 1971 itself.

5. In the case of distributors, the entire cost of acquiring the distribution rights may be allowed on the basis of collections during the period of exploitation of the film. As the period of exploitation is likely to exceed one year, the assessment for the first year may be framed provisionally by allowing a part of the cost of distribution rights on an estimated basis against the actual receipts in the year under consideration. The final adjustment in the case of the producer will be made after the exploitation period under section 154. However, if a distributor produces evidence to the satisfaction of the Income-tax Officer that a particular picture has failed at the box office in the year of release itself and there is no possibility of further collection in the following years, the entire cost of acquisition of distribution rights may be allowed in the first year itself.

6. All pending assessments may be regulated in accordance with the guidelines spelt out in this circular. In case where the assessments were completed in accordance with the instructions contained in Boards Circular No. 92 and the appeals are pending either before the Appellate Assistant Commissioner or the Appellate Tribunal, the Department may agree to such assessment being set aside to be reframed on the basis of the guidelines laid down in this circular and the concerned assessees have agreed to the adoption of such a course of action.

Circular : No. 154 [F. No. 201/5/71-IT(A-II)], dated 5-12-1974.

Judicial Analysis

The above circular was referred to, along with earlier circulars, and applied in CIT v. Dosseni Films [1995] 80 Taxman 223 (Cal.), with the following observations :

. . .Therefore, two things emerged from the above clarifications, namely :

(1) that the Circular No. 92, dated 18-9-1972 was to be modified in the manner laid down in the Circular dated 5-12-1974, and

(2) that modification was for pending assessments.

In other words, the assessments which had been completed could not be brought within the ambit of the Circular dated 5-12-1974. Therefore, the Tribunal by relying on the Circular dated 5-12-1974 and Circular dated 18-9-1972 had obviously committed an error. (pp. 225-226).

clarification 2

1. Attention is invited to Boards Circular No. 4 (XI-3)D, dated 9-4-1959, as modified by Circular No. 30, dated 4-10-1969 [Clarifications 3 and 4] on the above subject.

2. The Board has reconsidered the question relating to the amortisation of the cost of production of a feature film. The effective life of a feature film depends on many factors, the most important among them being the market value of the stars acting in the films, which in turn is reflected in the cost of production.

On the basis of cost of production, the feature films can be categorised into three classes :

Class	Cost of production including cost of positives and advertisement expenses incurred by the producer
A	Rs. 35 lakhs and above.
B	Between Rs. 10 to 35 lakhs.
C	Below Rs. 10 lakhs.

3. Normally feature films are disposed of by a producer either under the minimum guarantee formula or by way of outright sale. Under the minimum guarantee system a minimum amount is guaranteed to be paid to the producer by the distributor. In addition, a right to participate in the overflow is also retained by the producer. Overflow represents the amount which is arrived at after the distributor has recouped the minimum guaranteed amount and his commission. In the case of outright sale, the producer transfers all his rights of exploitation of the feature film to the distributor for a lump sum consideration.

4. An actual case study of the films in A class was undertaken. Feature films produced with the cost of production of Rs. 35 lakhs and above were found to have a run of more than 2 years. The Board has, therefore, decided to revive the amortisation formula for such films under which the value of the film will be depreciated by 60 per cent in the first year, 25 per cent in the second year and 15per cent in the third year on time basis as elucidated in Boards Circular dated 9-4-1959 referred to in para 1. The percentages are not to be deviated from and are to be followed in allowing cost of amortisation of A class feature films.

5. The effective life of feature films in B and C categories was found to be normally of one year. It has, therefore, been decided by the Board that the entire cost of production may be allowed in the very first year of production if the film was released in the first half of the accounting year. In case the film was released in the later half of the accounting year, the value of the film should be taken at 50 per cent of the cost of production at the end of that accounting year and the balance 50 per cent should be adjusted in the second year.

6. The Board has also decided that the cost of acquiring distribution rights should be treated in the hands of the distributor in the same way as the cost of production is treated in the hands of the film producer, the rates of the allowance and the manner being as indicated in paras 4 and 5 above.

7. If the producer sells the film outright for all the territories, the entire cost of production should be allowed as a deduction in the year of the sale irrespective of the category to which the film belongs. If the distributor after having acquired the film by way of outright purchase sells the film outright to another person in the first or subsequent years, he would be assessable on the profits made on that transaction by allowing the deduction for the price which he had paid to acquire the exploitation rights.

8. In cases where the producer or the distributor disposes of the exploitation rights of an A class film on mixed basis, i.e., some territories on minimum guarantee and others on outright sale, the deduction for the cost of production should be effected in the same proportion as the amount of outright sale bears to total receipts. The remaining balance of the cost of production should be amortised on lines indicated in para 4 above. If, for example, the cost of production of an A class film is Rs. 40 lakhs and the exploitation lights for three territories are disposed of for Rs. 20 lakhs on minimum guarantee basis, and the remaining territories for Rs. 25 lakhs by way of outright sale, the cost of production should be amortised on the following basis :

Cost of production	Rs. 40 lakhs
Minimum guaranteed amount	Rs. 20 lakhs
Outright sale	Rs. 25 lakhs
	Rs. 45 lakhs
25 : 45 = X : 40 =	Rs. 22, 22,222

Therefore, the outright deduction from the cost of Rs. 40 lakhs would be Rs. 22,22,222. The balance amount i.e., Rs. 40 lakhs less Rs. 22,22,222, should be amortised on time basis as indicated in para 4.

9. Boards circulars referred to in para 1 above stand modified to the extent indicated above.

Circular : No. 92 [F. No. 201/5/71-IT (A-II)], dated 18-9-1972[`25] 1.

judicial analysis

Explained in - The abovesaid Circular was explained in CIT v. Jyothi Pictures [1988] 169 ITR 412 (AP), with the following observations :

. . . There can be little dispute about the proposition that Circular No. 92, dated September 18,1972, does undoubtedly apply to the assessment year 1973-74. Indeed, it was issued even during the currency of the assessees accounting year relevant to the said assessment year. This is not even a case where the accounting year adopted by the assessee was over by the date of issuance of the revised circular (Circular No. 92). We are, therefore, unable to see why the revised circular can be said to be not applicable to the accounting year relevant to the assessment year concerned herein. . . . (p. 415)

. . . The relevance of the accounting year followed by the particular assessee cannot be taken as relevant. What is relevant is the assessment year, and if the circular was in force on the first day of the assessment year, it would apply to that assessment year. . . . (p. 416)

Explained in - In CIT v. Sankarapandia Asari & Sons [1987] 165 ITR 616 (Mad.), it was observed as under :

What is contended by learned counsel for the Revenue is that when the Board has prescribed that amortisation in full may be permitted where the film is released in the first half of the accounting year and amortisation at half the rate would be permissible if the film is released in the other half year, the circular purports to grant a concession and the assessee cannot claim amortisation on any other basis. Now, the circular by the Board would be in the nature of an ad hoc direction to the Income-tax Officer. That circular has no statutory basis. . . . (p. 619)

clarification 3

1. Attention is invited to Boards Circular No. 4 (XI-3) D, dated 9-4-1959 [Clarification 4] on the above subject.

2. The film producers have represented to the Board that a cinema film no longer has an effective life of about 3 years as was presumed by the Income-tax Department when devising the formula for the amortisation of the cost of the films spelt cut in the circular mentioned above.

3. The matter has been carefully considered by the Board. In view of the changed situation regarding the minimum guarantee system operating in the film industry at present, it is perhaps inappropriate to resort to the inflexible rule in every case of amortisation of the cost of the film over a period of 3 years. The Board also agree that the effective and earning life of the large majority of the present-day cinema films seldom exceeds one year.

4. It has, accordingly, been decided that if the producer of a film does not wish to write off the cost of the film in his books in the manner indicated in Boards circular mentioned above, then he may be permitted to write off the entire cost in the year in which the picture is released. On his doing so, the entire cost of the film will be allowed as an admissible deduction in the year in which the picture is released and the cost of the film is written off in the books.

5. Boards Circular No. 4 (XI-3) D, dated 9-4-1959 is modified to the extent indicated above.

judicial analysis

commented upon - The abovesaid circular was commented upon in CIT v. N.T. Ramarao (HUF) [1987] 163 ITR 453 (AP), with the following observations :

. . . We are of the view that the circular that was in force during the year of assessment is the circular that should be applied while granting deductions under the relevant provisions of the Income-tax Act. The 1969 circular (see Circular No. 30) was admittedly in force during the relevant assessment years corresponding to January 1, 1970 to December 31, 1970 and January 1, 1971 to December 31, 1971. The revised circulars were issued only in September, 1972 (see Circular No. 92) and later in 1974. These circulars which were issued subsequent to the relevant period cannot be applied to a period anterior thereto. In this view, we are fortified by a Full Bench decision of the Kerala High Court in CIT v. B.M Edward, India Sea Foods [1979] 119 ITR 334. . . . (p. 456).

See also CIT v. Prasad Productions (P.) Ltd. [1989] 179 ITR 147 (Mad.).

Explained in - The above circular was explained and applied in Shakti Raj Films Distributors v. CIT [1995] 213 ITR 20 (Bom.) with the observation that Circular dated October 4, 1969 would be applicable to the assessment of the assessee for the assessment year 1972-73. This circular evidently was a beneficial circular. It gave an option to the assessee to write off the cost of the film in its books either in the manner indicated in the circular dated April 9, 1959, or to write off the entire cost in the year in which the picture was released. It stated in clear and unambiguous language that on his doing so, the entire cost of the film would be allowed is an admissible deduction in the year in which the picture was released and the cost of the film was written off. The circular conferred a valuable right on the assessee in the matter of computation of his income for the purpose of assessment and levy of income-tax. The assessee, on fulfilment of the condition set out therein, was entitled to claim deduction of the entire cost of the film in the year of release and the Income-tax Officer was bound to allow the same. Modifications of the above circular during the pendency of the assessment were not relevant. Such assessment for the assessment year 1972-73 had to be completed by following the circular dated October 4, 1969.

clarification 4

1. Attention is invited to Boards Circular No. 1-D, dated 4-1-1951 [Clarification 5] on the above subject.

2. For paragraph 2 of the above circular, the following shall be substituted :

While it will not be right and may lead to tax evasion if the percentages mentioned in the standard formula are applied irrespective of the point of time a film is purchased or released for exhibition in a particular year, the Board feel that insistence on allowance of these percentages strictly on time-basis alone may not be fair in several cases and that, therefore, it would be desirable to also take into account the figures of collections in a particular period for determining the percentage of amortisation for that period. The Board, therefore, direct that amortisation in cases of films which conform to the norm of the three-year life should be worked out in the manner indicated in the following example :

The accounting year of a film producer is the year ended December 31, 1954 and a film produced during that year was released for public exhibition on October 1, 1954. The collections were as under :

1954 :	From l-10-1954 to 31-12-1954	Rs. 9,50,000 Total for twelve months:
1955 :	From 1-1-1955 to 30-9-1955	Rs.16,00,000 Rs. 25,50,000
	From l-10-1955 to 31-12-1955	Rs. 1,90,000 Total for twelve months:
1956 :	From 1-1-1956 to 30-9-1956	Rs. 4,75,000 Rs. 6,65,000
	From l-10-1956 to 31-12-1956	Rs. 1,50,000 Total for twelve months:
1957 :	From 1-1-1957 to 30-9-1957	Rs. 2,50,000 Rs. 4,00,000

The allowance for amortisation should be as follows :

Accounting year	Assessment year	Rate of amortisation
1954	1955-56	60 9,50,000/25,50,000 = 22.3% approximately
1955	1956-57	60 16,00,000/25,50,000 + 37.7% approximately
		plus
		25 1,90,00,000/6,65,000 + 7% approximately
1956	1957-58	25 4,75,000/6,65,000 + 18% approximately
		plus
		15 1,50,000/4,00,000 + 5.6% approximately
1957	1958-59	15 2,50,000/4,00,000 + 9.4% approximately

Circular : No. 4(XI-3) D [F. No. 45A/200/54-IT], dated 9-4-1959[`26] 1.

clarification 5

1. Attention is invited to Boards demi-official letter R. Dis. No. 178-IT/37, dated 13-5-1937 [Clarification 6]. On representations made by the film industry, the Board wish to make it clear that the general or standard formula regarding amortisation of the cost of production of a film, at 60 per cent in the first year, 25 per cent in the second year and 15 per cent in the third year should not be treated as inflexible and that it may be varied in favour of the assessee if he is able to prove by adducing appropriate evidence that the earning capacity of the film was extinguished much earlier than over the period presumed in the above formula. If, for example, an assessee is able to prove that the film had no real life beyond the first year and there were no receipts in respect thereof in the next year, the entire cost of the film should be allowed in the first year.

[2[`27] 2. It should, however, be carefully noted that the percentages mentioned in the standard formula are percentages to be allowed strictly on time-basis, for any other method may open the way for tax evasion. A person may purchase a film towards the end of the year and claim to be allowed 60 per cent of the amounts in that very year. With a view to safeguarding against such possibilities the rates of 60 per cent, 25 per cent and 15 per cent should be treated as rates per annum. If, for example, the accounting year of a film producer is the year ended December 31, 1947 and film produced during that year came to be exhibited on October 1, 1947, the allowance for amortisation should be as follows:

Accounting year	Assessment year	Rate of amortisation
1947	1948-49	15% ( of 60%)
1948	1949-50	45% ( of 60%); 6% ( of 25%)
1949	1950-51	18% ( of 25%); 3% (% of 15%)
1950	1951-52	11% ( of 15%)].

3. The Board have also decided that the cost of acquiring distribution rights should be treated in the hands of the distributor in the same way as the cost of production is treated in the hands of the film producer, the rates of allowance and the manner of their application being as indicated in paragraph 2 above.

Circular : No. 1-D [C. No. 9(48)-IT/48], dated 4-1-1951.

judicial analysis

Explained in - In CIT v. Modern Theatres Ltd. [1963] 50 ITR 548 (Mad.), the above letter was explained with the following observations :

The proper interpretation and effect of those two circulars can be briefly summarised thus. A film is a stock-in-trade. Its value is to be brought in and dealt with in the trading account. Under the normal accountancy principles and commercial practice the closing book value of any stock-in-trade on hand at the end of accounting year is either the actual cost or market value whichever is the lower. By market value is understood the selling price in the open market at the date of the valuation. But in regard to a film neither of these two things would be practicable. If the actual cost is adopted the assessee gets no deduction or allowance. The market value of any film cannot be ascertained with ease or certainty and such value cannot be fixed without controversy or speculation. So a rough and ready method is prescribed. For the first year it is 40%; the second year 15%; and the third year nil. This is not a rule of thumb or any hard and fast rule. It may vary, be more or less in each year, depending upon the popularity of the film amongst the public at large. The greater the public fascination and the greater the income, the larger the depletion of the life of the film. The amortisation rate is on the time basis. An assessee cannot release a picture on the date prior to the last day of the accounting year and claim 60% amortisation. A year is taken as 365 or 366 days and if the film is released 183 days before the expiry of the accounting year amortisation that would he allowed is 183/365 of 60%, that is, 30%. (pp. 562-563)

clarification 6

After consulting the Commissioners, I have come to the conclusion that films in the hands of their producers and of their purchaser should be treated as stock-in-trade. In arriving at the closing stock valuation the assessees figure should be accepted if it appears reasonable. In this connection, it should be borne in mind that since our rates are on a sliding scale and losses are not allowed to be carried forward, an assessee may be tempted to manipulate this figure. As a general rule the greatest deterioration in the value of a film takes place in the first year. Vachha suggests that a film may be valued at 40 per cent of its cost after one year, 15 per cent after two years and thereafter at nothing. Bown suggests a figure of about 30 per cent of cost after one year, 10 per cent after two years and 5 per cent after three years. The Income-tax Officer will have to decide for himself what figures to adopt in each case since the life of a film is subject to great variations.

Where films are hired for a lum sum for a period of years, the same basis should be adopted. Where they are hired for annual payments, the hire paid will be treated as expenditure of the year in which it is paid.

Letter : No. RD No. 178-IT/37, dated 13-5-1937.

Circular : No. 31 [F. No. 77/69-IT(A-I)], dated 25-10-1969.

SECTION 80RR l PROFESSIONAL INCOME FROM FOREIGN SOURCES IN CERTAIN CASES

609. Whether termartistincludes photographers and TV cameramen for the purposes of deduction under the section

1. Section 80RR was inserted through the Finance Act, 1969, and will have effect from April 1, 1970. Under this section, a resident individual, being an author, playwright, artist, musician or actor who derives income, in exercise of his profession, from foreign sources and receives such income in India and brings it into the country in foreign exchange in accordance with the Foreign Exchange Regulation Act, 1947, is entitled to deduct 25 per cent of the income so received or brought, in the computation of his total income.

2. In this connection, the Board had occasion to examine whether the term artist includes photographers and TV news-film cameramen. It has been decided that photographers and TV cameramen can be regarded as artistes for the purpose of section 80RR.

Judicial analysis

Referred to - In Prem Prakash v. ITO [1992] 42 ITD 130 (Delhi - Trib.).

ANNEX II - CIRCULAR NO. 32, DATED 29-10-1969[`28] 2

ANNEX II - CIRCULAR NO. 32, DATED 29-10-1969[`29] 2

378. Limit on allowance in respect of benefit, amenity or perquisite under clause (c[`30] 1)(iii)/clause (a)(v[`31] 2) - Reimbursement of certain expenses/pay-ments whether form part of perquisite to be restricted to one-fifth of salary

1. Under section 40(c)(iii), any expenditure incurred by a company after February 29, 1964, which results directly in the provision of any benefit or amenity or perquisite, whether convertible into money or not, to an employee (including any sum paid by the company in respect of any obligation which but for such payment would have been payable by such employee) would be admissible as a deduction in computing the companys income, only to the extent of one-fifth of the amount of salary payable to the employee. Section 40(c)(iii) was replaced by section 40(a)(v[`32] 2) with effect from assessment year 1969-70 and was applicable to all assessee-employers, not restricted to companies only.

2. The question for consideration is whether the benefits given to the employees in the form of provision of medical facilities or reimbursement of medical expenses, electricity, gas, gardener, rent-free accommodation, motorcar and bonus or commission should form part of the salary or whether they fall in the category of perquisite, amenity or benefit. For the purpose of section 40(c)(iii)/40(a)(v), the term salary has to be taken as per the definition given in rule 2(h) of Part A of the Fourth Schedule. According to the definition, the term salary includes dearness allowance if the terms of employment so provide but excludes all other allowances and perquisites.

3. All payments in the form of benefits or amenities such as reimbursement of medical expenses, provision of electricity, water, gas at the residence of employees, payment of club bills of employees, provision of domestic servants, gardeners, etc., would be part of perquisite which would be restricted to one-fifth in the assessment of the employer. The list of perquisites given above is only illustrative and by no means exhaustive.

4. As regards the payment of bonus, the Board are advised that the payment of bonus will be treated as salary in the following types of cases :

a. payment of bonus made under a service agreement between the employer and the employee ;

b. bonus paid pursuant to requirement of the Payment of Bonus Act, 1965; in such a case the service agreement may be treated to have been modified to that extent;

c. where the bonus is paid in accordance with the decision of a trade association which is binding on its members; and

d. bonus paid under an award by a Labour Tribunal where the award is binding on the employer and the employees.

If the bonus is paid gratuitously without there being any legal or contractual obligation, the payment is in the nature of a perquisite and has, among other perquisites, to be linked to one-fifth of the salary for allowance under section 40(c)(iii)/40(a)(v).

As regards payment of commission to the employees the question whether it form part of salary or perquisite has to be decided on the facts of each case. If the terms and conditions of service are such that commission is paid not as a bounty or benefit but is paid as part and parcel of the remuneration for services rendered by the employee, such payment may partake of the nature of salary rather than as a benefit or perquisite. If, however, on the terms and conditions of service either there is no obligation for the employer to pay the commission or it is a matter purely in the discretion of the employer, such payment should be treated as a benefit by way of addition to salary rather than in lieu of salary.

[These [`33] 1instructions are issued in supersession of the Boards Circular No. 62 [F. No. 13A/ 103/69-IT (A-II)], dated 29-6-1971 [Annex I] and in modification of the Boards Circular No. 32 [F. No. 10/93/68-IT (A-II)], dated 29-10-1969 [Annex II] and may please be brought to the notice of all the Income-tax Officers working in your charge.]

Circular : No. 80 [F. No. 13A/103/69-IT(A-II)], dated 4-3-1972[`34] 2.

Judicial analysis

See CIT v. Indian Engg. and Commercial Corporation (P.) Ltd. [1993] 201 ITR 723 (SC).

ANNEX I - CIRCULAR NO. 62, DATED 29-6-1971

Reference is invited to Circular No. 32 issued by the Board on 29-10-1969 [printed here as Annex II] and Departmental Circular No. 30-D(LVIII-34), dated 7-11-1966. [printed here as Annex III]

The Board are advised that the instructions contained therein are not in conformity with the provisions of law.

Accordingly, Circular No. 32, dated 29-10-1969 [`35] 1and Departmental Circular No. 30-D of 1966, dated 7-11-1966 are hereby withdrawn with immediate effect.

The above instructions may please be brought to the notice of the assessing officers without delay.

1. Reference is invited to Departmental Circular No. 30-D of 1966 [printed here as Annex III] issued by the Board on November 7,1966.

2. Under section 40(c)(iii), now section 40(a)(v), any expenditure which results, directly or indirectly, in the provision of any benefit or amenity or perquisite, whether convertible into money or not, to an employee (including any sum paid by the assessee in respect of any obligation which but for such payment would have been payable by such employee) shall be admissible as a deduction in the computation of the assessee-companys total income only to the extent of one-fifth of the amount of the salary payable to the employee.

3. A question has been raised whether bonus or commission paid to the employee should also be included in the value of any benefit or amenity or perquisite for the purpose of limiting the deduction to one-fifth of the salary as explained above.

4. The matter has been examined and it has been decided that salary, dearness allowance, bonus, commission or any other cash allowance payable to the employee in terms of his contract of service, would be regarded as salary under section 17(3) (ii) and not as benefit or amenity for the purposes of section 40(c)(iii)/40(a)(v). Further, only those cash payments would be covered by the expression perquisites, amenities and benefits which are paid to the employee voluntarily and gratuitously and not in terms of the specific provisions of his contract of employment. In other words, the employee concerned should not have been in a position to enforce the payment of these amounts in a court of law.

Judicial analysis

Relied on in - The above circular was relied on in CIT v. Vickers Sperry of India Ltd. [1993] 201 ITR 637 (Bom.), with the following observations :

. . . We find that the Tribunal gave its finding on the basis of the circular of the Central Board of Direct Taxes bearing No. F. No. 10/93/68-IT(A-II) dated October 29, 1969. The Tribunal, following the decision of the Supreme Court in the case of Navnit Lal C. Javeri v. K.K. Sen, AAC of I.T [1965] 56 ITR 198, held that the circular of the Board was binding on the departmental authorities under the Act and, following the same, allowed relief to the assessee.

There is no dispute before us that the circular of the Board covers the controversy. According to that, the amount in question cannot be disallowed. That being so, in our opinion, the Tribunal was right in holding that the departmental authorities were bound by the circular of the Board and to act accordingly. We do not see any error in the decision of the Tribunal in that regard. (p. 639)

ANNEX III - CIRCULAR NO. 30-D (LVIII-34), DATED 7-11-1966

1. Under section 40(c)(iii), any expenditure incurred by a company after February 29, 1964, which results directly or indirectly in the provision of any benefit or amenity or perquisite, whether convertible into money or not, to an employee (including any sum paid by the company in respect of any obligation which but for such payment would have been payable by such employee) shall be admissible as a deduction in computing the companys income only to the extent of one-fifth of the amount of salary payable to the employee for any period of his employment after the aforesaid date. A question has been raised whether monetary payments made by a company to its employees by way of reimbursement of medical expenses, commission and bonus should be included in the value of any benefit or amenity or perquisite for the purpose of limiting the deduction thereof to one-fifth of the salary as per the above section.

2. So far as the reimbursement of medical expenses is concerned, it will clearly be a benefit or amenity or perquisite to be included in the value of perquisites for the purpose of limiting the permissible deduction to one-fifth of the salary. As regards payment by way of commission and bonus, however, the question of including these payments as benefit, amenity or perquisite will depend upon the facts of each case. Where bonus and commission are paid as a part of the employees regular salary as agreed to between the company and the employee in terms of his contract of service, they should be treated as part of the employees remuneration and not as perquisites. For example, if an employee is appointed on a fixed monthly remuneration of Rs. 1,000 plus a commission of 1 per cent on sales, the commission being part of his remuneration, will not be a benefit, amenity or perquisite but will be regarded as remuneration. In such cases, the bonus or commission paid will not be included in the quantum of perquisites for the purpose of limiting the amount to one-fifth of the salary under section 40(c)(iii), but, on the other hand, where commission or bonus is paid, not as a part of the regular remuneration agreed to beforehand, but voluntarily and gratuitously and the, payment is of casual nature, then it will have to be regarded as a perquisite for the purposes of section 40(c)(iii).

3. It may be noted, however, that the term salary for the purposes of section 40(c)(iii) has been defined by Explanation 2 thereof and means salary as defined in rule 2(h) in Part A of the Fourth Schedule. Under this definition, salary includes dearness allowance if the terms of the employment so provide, but excludes all other allowances and perquisites.

The definition of salary in section 17(1) is not, therefore, applicable for the purposes of section 40(c)(iii).

Circular : No 33 [F. No. 9/50/69-IT (A-II) ], dated 29-12-1969.

section 40a l expenses or payments not deductible

379. Disallowance of expenditure for which payment exceeding Rs. 2,500 [`36] 1is made otherwise than by crossed cheque/bank draft under sub-section (3), read with rule 6DD of the Income-tax Rules - Scope and operation of the sub-section explained

clarification 1

1. The Ministry of Finance have received enquiries from various trade associations and members of the public about the operation of the new provision in section 40A(3) for the disallowance of expenditure in business and professions for which a payment exceeding Rs. 2,500 [`37] 1is made otherwise than by a crossed cheque or bank draft.

2. The above provision applies to payments made on or after April 1, 1969. Certain categories of payments have been excluded from its operation. These exclusions have already been notified by the Central Board of Direct Taxes in the Gazette of India, Extraordinary, dated 14-2-1969 [`38] 2and the Gazette of India, Extraordinary, dated 25-3-1969. Broadly, the following categories of payments have been excluded from the operation of the above provisions :

u Payments which under contracts entered into before April 1, 1969, have to be made in cash

u Payments by book adjustment by the taxpayer in the account of the payee against money due to the taxpayer for any goods supplied or services rendered by him to the payee

u Payments made in villages and towns having no banking facilities, to persons ordinarily residing or carrying on business or profession in any such village or town

u Payments made to cultivators, growers or producers for purchase of agricultural or forest produce, animal husbandry products including hides and skins, products of dairy or poultry farming, products of horticulture or epiculture[`39] 3, [fish or fish products] and products of any cottage industry run without the aid of power

u Payments made to the Reserve Bank of India, State Bank of India, other banking institutions, including co-operative banks and land mortgage banks, primary credit societies, including agricultural credit societies, Life Insurance Corporation, Unit Trust of India and specified financial institution

u Certain categories of payments made through the banking system, e.g., letters of credit, mail or telegraphic transfers, book adjustments and bills of exchange made payable only to a bank

u Payments of terminal benefits, e.g., gratuity, retrenchment compensation, etc., to low-paid employees or to members of their families

u A residuary exception is also provided in respect of payments which could not be made by crossed bank cheque or draft due to exceptional and unavoidable circumstances, provided the taxpayer furnishes evidence as to the genuineness of the payment and the identity of the payee.

3. The points on which enquiries have been made, and clarifications in the matter are given below :

Question 1 : Does the requirement of making payments over Rs. 2,500 by cheque or draft apply also to payments made for purchase of goods for the business?

Answer : Yes, the provisions apply to all categories of expenditure involving payments for goods or services, which is deductible in computing the taxable income.

Question 2 : Does the requirement apply also to loan transactions?

Answer : No, because advancing of loans or repayment the principal amount of the loan do not constitute expenditure deductible in computing the taxable income. However, interest payments in amounts exceeding Rs. 2,500 at a time are required to be made by crossed bank cheques or drafts, as interest is a deductible expenditure.

Question 3 : Does the requirement apply to payments made by commission agents (arhatias) for goods received by them for sale on commission or on consignment basis ?

Answer : No, this is because such a payment is not an expenditure deductible in computing the taxable income of the commission agent (arhatiya). For the same reason, the requirement does not also apply to advance payments made by the commission agent to the party concerned against supply of goods. However, where a commission agent (arhatiya) purchases goods on his own account, and not on commission basis, the requirement will apply in that case.

Question 4: Does the requirement apply to payments made for goods purchased on credit?

Answer : Yes, if the payment is made in an amount exceeding Rs. 2,500 at a time.

Question 5: What categories of hundi payments are excluded from the operation of the requirement in section 40A(3)?

Answer : Hundi transactions entered into in connection with the advancing of loans or the repaying of loans are outside the scope of the provisions because such transactions do not constitute expenditure deductible in computing the taxable incomevide answer 2 above.

Payments for goods or services made by a bill of exchange (hundi) where the hundi is made payable only to a bank, have been specifically excluded from the operation of section 40A(3) under the Notification in the Gazette of India, Extraordinary, dated 14-2-1969.

Question 6 : Are payments made to the grower or producer of agricultural products excluded from the operation of section 40A(3) even where these have been subjected to some processing by him?

Answer : Yes, payments made to the grower or producer of agricultural or forest produce, produce of animal husbandry, dairy or poultry farming, etc., have been specifically excluded from the requirement in section 40A(3) by the Gazette Notification, dated 14-2-1969, read with the corrigenda published in the Gazette of March 25,1969.

Thus, payments made to a grower or producer of kapas ginned by him or to a grower of paddy which has been converted by him into rice, are excluded from this provision.

Question 7 : Are payments, made in towns having banking facilities, for purchase of goods from villager whose village does not have banking facilities, excluded from the requirement in section 40A(3)?

Answer : No, because in such a case, the payment is made in a town having banking facilities. If the payment is made to the villager in the village in which he is residing and where there are no banking facilities, the requirement in section 40A(3) will not apply.

Press Note : Dated 2-5-1969, issued by Ministry of Finance.

clarification 2

A further relaxation has been made in the provision in the Income-tax Rules requiring payments for business expenses exceeding Rs. 2,500 [`40] 1to be made by crossed cheques or drafts.

The relaxation cover payments in cash in excess of Rs. 2,500¹made with a view to avoid difficulty to the payee or where it was not practicable to pay in cheque or draft [rule 6DD(j[`41] 2)]. The availability of this benefit depends upon the nature of transaction as well as the need for its expeditious settlement. The assessee making such payments is, however, required to satisfy the Income-tax Officer about the genuineness of the payment and the identity of the payee.

Background -The Income-tax Act contains a provision in section 40A(3)which requires that payments for business expenditure in amounts exceeding
Rs. 2,500 [G42] 1should be made by crossed bank cheque or draft in order to qualify for deduction in computing the taxable profits. With a view to avoiding genuine hardship to taxpayers, particularly in the rural areas, certain exceptions were notified under rule 6DD by virtue of which payment in a sum exceeding Rs. 2,500¹ may be made otherwise than by a crossed cheque drawn on a bank or a crossed bank draft in certain circumstances.

These exceptions cover, inter alia, payments made for purchases of agricultural or forest produce, cottage industry products, etc., from the producers of such products; payments made in villages or towns having no banking facility to any person carrying on business or profession in any such village or town; payments made through the banking system, that is, in the form of letter of credit arrangements, telegraphic transfers, adjustments in accounts, or bills of exchange made payable only to a bank; and payments by way of gratuity, retrenchment compensation or other terminal benefits to low-paid employees of the business or profession.

There is also a residuary exception under clause (j) of rule 6DD which provides that the provision for the disallowance of the expenditure might not be applied if the assessee (i) establishes that the payment could not be made by crossed bank cheque or draft due to exceptional or unavoidable circumstances, and (ii) also furnishes evidence to the satisfaction of the Income-tax Officer as to the genuineness of the payment and the identity of the payee.

After considering representations from various quarters that the existing exceptions were not helpful in preventing disallowance of substantial payments for purchases of commodities on the ground that these were made in cash in amounts exceeding Rs. 2,500, the Central Board of Direct Taxes have now liberalised this residuary clause (j) of rule 6DD so as to avoid disallowance of such payments in genuine cases.

Press Note : Dated 19-11-1970, issued by Ministry of Finance.

clarification 3

1. The Board had occasion to deal with several representations from various chambers of commerce, trade associations and businessmen regarding the scope of provisions of section 40A(3) and rule 6DD. Since many of the points raised therein are of an important nature, the clarifications given thereon are summarised below.

2. The provisions of section 40A(3) would apply in computing the income under the heads Profits and gains of business or profession and Income from other sources as per section 58(2). All payments in excess of Rs. 2,500 at one time whether for goods or services obtained for cash or credit, which are deductible in computing the income, have to be made by crossed cheque or bank draft. Thus, the price of goods purchased for resale or use in manufacturing process or payments for services will be covered by the provisions of section 40A(3). However, the section will not apply to repayment of loans or payment towards the purchase price of capital assets such as plant and machinery not for resale.

3. A large portion of trade in agricultural commodities is channelled through the institution of arhatias. While the payments made to the cultivators or growers of agricultural produce are specifically excluded from the purview of section 40A(3) by clause (f) of rule 6DD, the payments made to the arhatiya for purchases made from him are not so exempted. It is contended that the arhatiy is not in a position to pay the cultivators in cash until the cheques are encashed and this procedure involves severe hardship. However, this difficulty can be met by obtaining the advances from the purchasers, which should of course conform to requirements of section 40A(3). The extension of the exemption to the purchases would defeat the objective of the provisions.

4. So far as payments made to the railways on account of freight charges or for booking of wagons, and payment of sales tax, excise duty, are concerned, clause (b) of rule 6DD specifically exempts such payments from the purview of section 40A(3) if, under the rules framed by the Government, these are required to be made in legal tender.

Circular : No 34 [F. No. 13A/92/69-IT(A-II)], dated 5-3-1970.

clarification 4

Section 40A(3) requires that if any payment in a sum exceeding Rs. 2,500 [`43] 1in respect of an expenditure incurred after March 31, 1969 is made otherwise than by a crossed cheque drawn on a bank or by a crossed bank draft, such expenditure shall not be allowed as a deduction. It has now been represented to the Board that the entries in bank pass book do not specifically indicate whether the payment made is by a bearer or crossed cheque. The cheques after their encashment are retained by the bank and cannot be produced before the assessing authorities to prove that the payments have been made by crossed cheques.

2. The difficulty pointed out has been considered by the Board in consultation with the Department of Banking and it has been decided that the banks may now return the paid cheques to their constituents after obtaining a formal undertaking from them to the effect that they shall retain the returned paid cheques for a period of eight years and produce them before the Income-tax Officer whenever called upon to do so.

clarification 1

YEARS

Rate of amortisation

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judicial analysis