Direct Tax Vista Your weekly Direct Tax recap Edn. 47 – 28th February 2023 By Vivek Jalan, Partner, Tax Connect Advisory Services LLP

 

 

1. While proper E-Mail Ids should be used by AO to serve notice, assesses should not try to evade the notices too

Rule 127 of Income Tax Rules require that for communications delivered or transmitted electronically under section 282, the e-mail address to which a notice or summons or requisition or order or any other communication may be delivered or transmitted shall be -

 

(i) email address available in the income-tax return furnished by the addressee to which the communication relates; or

(ii) the email address available in the last income-tax return furnished by the addressee; or

(iii) in the case of addressee being a company, email address of the company as available on the website of Ministry of Corporate Affairs; or

(iv) any email address made available by the addressee to the income-tax authority or any person authorised by such income-tax authority.

 

Clause 6(i) of Notification no. 2/2016 [DGIT(S)/DIT(S)-3/AST/PAPERLESS ASSESSMENT PROCEEDINGS/96/2015-16], dated 3-2-2016 provides that in case of non-delivery of email on the primary email address, the notices shall be sent to other email addresses of the assessee available with the department as mentioned in sub-rule (2) of rule 127.

 

The Bombay High Court in the case of Mrs. Chitra Supekar vs ITO in Writ Petition No. 15580 of 2022 has held that it was imperative for the AO to have checked if there was a change of address before initiating a proceeding; and that a valid service of notice under section 148 is a condition precedent lest it would be a jurisdictional error.

 

The above have to thus be complied with by the AO before service of notice. Incase a notice is issued only on the secondary email address when there was a primary email address was available, the assessee can refuse to participate in a proceeding vitiated by valid service of notice.  The secondary email address has to be used as an alternative or in such circumstances when the authority is unable to effect service of any communication on the primary address. This was again upheld by The Bombay High Court in the case of LOK DEVELOPERS Vs DEPUTY COMMISSIONER OF INCOME TAX [2023-VIL-29-BOM-DT]. However, it was held that the department will be at liberty to proceed with the assessment after issuance of fresh notice in accordance with law.

 

While the above is one aspect, the other aspect is also the decision of the same High Court in the case of Kross Television India Pvt Ltd Vs Vikhyat Chitra Production wherein it has held that the purpose of service is put the other party to notice and to give him a copy of the papers. The mode is surely irrelevant. Where an alternative mode is used, however, and service is shown to be effected, and is acknowledged, then surely it cannot be suggested that the defendants have no notice. Defendants who avoid and evade service by regular modes cannot be permitted to take advantage of that evasion.

 

To sum up and conclude that while the department should be careful in proper service of notice, the assesses should also be receptive and vigilant and not try to evade notices and communication.

 

2. Dealers of metals/stones need to streamline their inventory valuation and records, as it may lead to implications under undisclosed income scheme

The Budget 2023 has taken a major step forward by introducing the concept of inventory valuations by Cost Accountants in specific cases, as granted by Section 142(2A) of the Income Tax Act. The Finance Bill 2023 aims to amend Section 142 of the Income Tax Act relating to inquiry before assessment. The proposed amendment to Sub-section (2A) will empower Assessing Officers to request a valuation of the assessee’s inventory by a cost accountant. These amendments will take effect from April 1, 2023, and will apply to the respective assessment year and all subsequent assessment years.  

 

For dealers in precious stones/metals this has further implications as revenue may seek to invoke the provisions of section 115BE which is applicable on the income taxable under section 68, 69, 69A, 69B, 69C or 69D of the Act. However, it is to be noted in this regard that the income declared by a precious metals/stones dealer for unrecorded stock of valuables found during the course of search shall be treated as a part of the business affair of the assessee. Hence, since income declared is in the nature of business income, the same cannot be taxed under any of the Scheme of Taxation of Undisclosed Income and accordingly section 115BBE has no application.

In the case of Ragavs Diagnostic & Research Centre Pvt. Ltd. vs. ACIT in ITA No. 423/Bang/2022, the assessee was in the business of running a diagnostic centre and the only source of income was the receipts from patients which was stated to be the source for unexplained expenditure. The case was that the AO had not brought any contrary material on record to state that the source for the expenditure was other than from business income and had formed the opinion based on conjectures and surmises.  The Court held that while exercising the quasi-judicial functions, the administrative authorities had to reach satisfaction on the basis of material available and not on conjectures and surmises. The test of reasonableness had to be satisfied.

 

In the same vein, where the assessee had confirmed the identity of investment in the difference of stock which was generated from business income; during the assessment and in appeal, both the revenue authorities had not been able to bring any such contrary findings against the assessee that the source of investment on undisclosed stock which was not from business income; just because the assessee was a dealer of precious stone/metal Section 69B and consequently Section 115BBE cannot be invoked.

 

However, the critical provision to be taken note of is the amendment in Section 142(3) which states the “The assessee shall, except where the assessment is made under section 144, be given an opportunity of being heard in respect of any material gathered on the basis of any inquiry under sub-section (2) or any audit under sub-section (2A) and proposed to be utilised for the purposes of the assessment.” Hence, any other incriminating material which has been found during the inventory valuation may be used for the purposes of the assessment. Dealers in precious stones/metals thus need to streamline their inventory valuation and records.

 

3. Now trust Audit Report has changes galore too…in the same vein as ITR-7

The entire eco-system of taxation of trusts is going through a significant change and Audit should not be left behind. CBDT vide notification No.07/2023, made significant changes in format of trust audit report in Form 10B which are discussed as under. Also, Rule 16CC applicable for form of audit report prescribed under 10^th proviso to section 10(23C) and Rule 17B applicable for audit report in the case of charitable or religious trusts is also amended.

 

Details of books of accounts maintained by the trust needs to be submitted. This includes the details of the nature of books of accounts, whether maintained in computer system, whether maintained at registered office, if maintained at any other place, details of such place and intimation to AO about the decision and whether the books of accounts have been audited. This is apropos the amendment made vide Finance Act 2022 wherein the provision was invoked requiring trusts to maintain books of accounts.

 

Details of filing of form 10BD including amount of donation reported and not reported in Form 10BD and donation not required to be reported, needs to be submitted.

 

Various details of voluntary contributions received during the year needs to be submitted. The amount reported here should reconcile with Form 10BD. Details of foreign contribution out of voluntary contribution, Voluntary contribution forming part of the corpus, Details of anonymous donation taxable @30% under section 115BBC and Details of income applied outside India should be reported now.

 

Application of income is now to be tracked in ITR-7 and reported in Form 10B. Amount not actually paid during the year, amount actually paid during the year but not claimed as application of income in earlier previous year, amount invested or deposited back to corpus which was applied during the previous year and not claimed as application during that previous year, repayment of loan or borrowing during the previous year which was earlier applied and not claimed as application of income during that previous year. Amount to be disallowed from application being donation to other trusts towards corpus, donation to other trusts not having same objects, donation to any unregistered trust, application outside India, application beyond trust objects, any other disallowance, amount deemed to have been applied and amount accumulated. Application out of income of earlier previous year or out of corpus and borrowed fund; Bifurcation of application of income into object wise application of income, payment made in excess of Rs.50 Lakh, application of income for revenue and capital; Details of application resulting in payment or credit in excess of Rs.50 Lakh during the year to a single person; Details of receipt and repayment of loan as per provisions of section 29SS and 269T and 269ST.

 

Details of transactions with specified persons referred to in section 13(3) and 13(2) need to be reported in detail. Details of TDS deducted or TCS collected by the trust has to be now reported. This makes tracking of receipts easier: Details of receipts on which TDS is deducted under section 194C, 194J, 194H or 194Q including name and TAN of deductor, category of income/receipt, income incidental to the attainment of objects and whether separate books of accounts have been maintained.

 

On the issue of objects, which is in specific focus, especially after the Hon’ble Apex Courts decisions in the case of ASSISTANT COMMISSIONER OF INCOME TAX (EXEMPTIONS) Vs AHMEDABAD URBAN DEVELOPMENT AUTHORITY [2022-VIL-24-SC-DT]:  Details of objects including type of object and details of modification; If there is modification in objects of the trust, whether application for registration has been made within 30 days from the said adoption or modification and details of such registration; Details of activity conducted for advancement of any other object of general public utility, out of which details of activity conducted or services rendered in the nature of or trade, commerce or business, percentage of receipt from such activity and whether is undertaken in the course of actual carrying out of such advancement of any other object of general public utility, amount of project wise receipt from such activity; Details of business undertaking as referred to in section 11(4) including nature of business undertaking and income from such business undertaking; Details of profits and gains of business as referred to in seventh proviso to section 10(23C) or section 11(4A) including nature of business, whether it is incidental to attainment of objects of the trust and profits and gains from such business during the year.

 

These significant changes in the Audit report of trusts alongwith changes in ITR-7 as well as the impact of landmark Apex Court’s judgements make it crucial for trusts to start the compliances process soon.

 

4. Claim of expenditure needs to be examined and Reasons for disallowance should be recorded for a disallowance to be legally tenable

In a situation where the assessee has a mixed fund (made up partly of interest free funds and partly of interest -bearing funds) and payment is made out of that mixed fund, the investment must be considered to have been made out of the interest free fund. In other words, In respect of payment made out of mixed fund, it is the assessee who has such right of appropriation and also the right to assert from what part of the fund a particular investment is made and it may not be permissible for the Revenue to make an estimation of a proportionate figure.

 

The provision u/s 14(2) does not empower the AO to apply Rule 8D straightaway without considering the correctness of the assessee’s claim in respect of expenditure incurred in relation to the exempt income. Incase the AO has neither examined the claim in respect of expenditure incurred in relation to exempt income of the assessee nor has recorded any satisfaction with regard to the correctness of assessee’s claim with reference to the books of account, the disallowance made by applying the Rule 8D shall not only be considered as against the statutory mandate but contrary to the legal principles laid down. The same was held in the case of PR. COMMISSIONER OF INCOME-TAX Vs GODREJ & BOYCE MFG. CO. LTD. [2023-VIL-30-BOM-DT].

 

5. ESOP expenditure and their allowability in Income Tax

The cost of ESOPs to the Company is the difference between the market value of shares as computed under the guidelines of SEBI and the value at which these shares are issued to the employees. The dispute lies in the contention of the Department that no expenditure has been incurred by the company at the time of issuance of shares under the ESOP scheme and the expenditure has not crystallised till the date on which the employee exercises the option and hence any expenditure debited during the vesting period remains contingent in nature. Another contention of the department is that the expenses are capital in nature. The contention of the assessee is that the liability had crystallised at the time of issuance of shares itself and only the quantification remained pending at the time of exercise of such option by the assessee. Further, as the object of issuing such share at a lower price is nowhere directly connected with the earning of income but when the company undertakes to issue shares to its employees at a discounted premium at a future date the primary object of this exercise is not to raise the share capital but to earn profit by securing the consistent and concentrated efforts of dedicated employees during the vesting period, such discount is construed, both by the employees and the company, as nothing but a part of package of remuneration, a substitute for giving direct incentive in cash for availing of the services of the employees.

 

The issue has been discussed at length by the Karnataka High Court in the case of Biocon Ltd. [2020] 121 taxmann.com 351 (Karnataka), wherein the facts were that assessee floated Employees Stock Option Plans (ESOP) and provided shares to its employees at a discount discount. There was difference between grant price to employees and market price as on date of grant of ESOPs. The ESOPs were vested in employee over a period of four years. The deduction of discount on ESOP over vesting period was in accordance with accounting in books of account, which had been prepared in accordance with SEBI Guidelines. The Karnataka High Court held that on exercise of option by an employee, actual amount of benefit that had to be determined was only a quantification of liability, which would take place at a future date. The Court further held that the discount on issue of ESOPs was not a contingent liability but was an ascertained liability. Accordingly, issuance of shares at a discount would be an expenditure incurred for purposes of section 37(1) as primary object of aforesaid exercise was not to waste capital but to earn profits by securing consistent services of employees and therefore, same could not be construed as short receipt of capital. Thus, discount on issue of ESOP was allowable deduction under section 37(1) of the Act.

 

The Delhi High Court in the case of PVR Ltd. [2022] 145 taxmann.com 331 (Delhi) has held that difference between price at which stock options were offered to employees of assessee-company under ESOP and ESPS and prevailing market price of stock on date of grant of such options was allowable as revenue expenditure.

 

The Madras High Court in the case of PVP Ventures Ltd [2012] 23 taxmann.com 286 (Mad.) held that where assessee allotted shares to its employees under Employees Staff Option Plan and Employee Staff Purchase Scheme Guidelines, 1999, difference between market value of shares and value at which shares were allotted was allowable as revenue expenditure.

 

The Delhi High Court in the case of New Delhi Television Ltd. [2018] 99 taxmann.com 401 (Delhi) has held that Expenditure arising on account of 'Employees' Stock Option Plan (ESOP) is an ascertained liability and hence allowable under section 37(1) of the Act.

 

In the case of Cera Sanitaryware Ltd[2016] 68 taxmann.com 433 (Ahmedabad - Trib.), the Ahmedabad ITAT held that Employees' stock option scheme expense is allowable as deduction u/s 37 of the Act.

 

On the basis of the above decisions, a similar stand has been taken in the case of THE DCIT, CIRCLE Vs M/S. ASTRAL POLYTECHNIK LTD [2023-VIL-236-ITAT-AHM]

 

(The author is a CA, LL.M & LL.B and Partner at Tax Connect Advisory Services LLP. The views expressed are personal. The author is The Lead - Indirect Tax Core Group of CII- ER and The Chairman of The Fiscal Affairs Committee of The Bengal Chamber of Commerce. He has Authored more than 15 books on varied aspects of Direct and Indirect Taxation. E-mail - vivek.jalan@taxconnect.co.in)