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THE COMMISSIONER OF INCOME TAX v. M/S KALYANI STEELS LTD

Karnataka High Court

Feb 12, 2018

Judgment

Subsequent
References

CaseIQ

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Comprehensive Summary of the Opinion

Factual and Procedural Background

These appeals were filed by the revenue under Section 260A of the Income Tax Act, 1961, challenging orders of the Income Tax Appellate Tribunal, Bangalore Bench A in several ITA numbers (listed in the opinion) dated between 17.12.2013 and 21.02.2014. Because the substantial questions of law were identical, the appeals were heard together and disposed of by a common judgment.

The assessee is engaged in the manufacture of steel. For assessment years 2008-09, 2009-10 and 2010-11, the assessee made payments to M/s Hospet Steel Limited (HSL) towards managerial and technical services for operating and maintaining an integrated steel plant. A survey under Section 133A was conducted, after which proceedings under Sections 201(1) and 201(1A) were initiated.

The Assessing Officer held that HSL (and related entities Kalyani Steel Limited (KSL) and Mukund Limited (ML)) were independent, that HSL employed required staff and used its assets to render services, and that amounts received by HSL were accounted for in its profit & loss account and offered to tax. On that basis the Assessing Officer concluded the assessee was in default under Section 201 for not deducting TDS under Section 194J, and interest under Section 201(1A) was computed.

The assessee appealed to the Appellate Commissioner, who concluded that the payments made by the assessee to HSL were reimbursements of expenses on a cost-to-cost basis and therefore there was no liability to deduct TDS under Section 194J. Consequently, the Appellate Commissioner held Sections 201(1) and 201(1A) were not justifiable. The revenue challenged that conclusion before this Court, raising the substantial questions of law set out below.

The factual record before the authorities included a Strategic Alliance Agreement (SAA) between KSL, ML and HSL under which: (a) share capital of HSL was held equally by the assessee and ML; (b) investments in steel-making facilities by the SAA constituents were in the ratio 41.38% (assessee) : 58.62% (ML); (c) the assessee and ML agreed to reimburse HSL for expenditure incurred in administering plant operations on a cost-to-cost basis; and (d) a supplementary agreement stated that JVC (HSL) would act as conduit for the Strategic Alliance constituents and "no remuneration will be paid to JVC."

Legal Issues Presented

Whether the Appellate Authorities were correct in holding that the payments made by the assessee to M/s Hospet Steel Limited are reimbursements of expenses on a cost-to-cost basis and do not constitute an income component, and hence provisions of Section 194J of the Act are not attracted?
Whether the Appellate Authorities failed to take into consideration that the entire payment made to M/s Hospet Steel Limited was towards rendering managerial and technical services by way of operating and maintaining an integrated steel plant and therefore provisions of Section 194J of the Act are attracted, with consequent application of Section 201 of the Act?

Arguments of the Parties

Revenue's Arguments

The appellate authorities failed to consider that HSL was carrying on business independently and not as an agent of KSL and ML.
HSL employed the entire staff and manpower required for operating and maintaining the integrated steel plant, and used its assets and machineries to render services.
When examining applicability of TDS provisions, the payment must be examined with reference to the services for which payment is made; the nomenclature used by the assessee or HSL does not change applicability of the provisions.
Any amount credited as fee for professional or technical services attracts Section 194J; taxability of such amount in the hands of the recipient is not the criterion to apply Section 194J.

Assessee's Arguments

HSL acts as an agent of KSL and ML to manage the affairs of the steel plant under a Strategic Alliance Agreement (SAA).
The SAA shows the parties promoted HSL for effective functioning of all plants as one composite manufacturing unit; investments and reimbursements were governed by the SAA.
The assessee and ML reimbursed HSL for expenses incurred in performing obligations on a cost-to-cost basis (allocation of expenses according to activities and agreed ratios).
Because payments were reimbursements and did not comprise any income component in the hands of HSL, they cannot be categorized as fees for professional or technical services and Section 194J is not applicable.
The Appellate authorities correctly considered these factual and legal aspects and reached the right conclusion in favour of the assessee.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
Hyderabad Industries Ltd. v. Income Tax Officer and Another, 188 ITR 749 (Kar)	An amount which will not be included in the total income of a person cannot be considered as income for purposes of deduction of tax at source; TDS cannot be used to collect sums that are not lawfully leviable as tax under the Act.	The Court relied on this principle to support the conclusion that reimbursements (not income) paid to HSL do not attract Section 194J; therefore there was no basis for treating the assessee as an assessee-in-default for not deducting TDS.
Karnataka Power Transmission Corporation Ltd. v. Deputy Commissioner of Income-tax (TDS) Circle 16(2), Bangalore, (2016) 383 ITR 59 (Kar)	Section 194A requires that the amount be income in the hands of the payee before a deductor is obliged to deduct TDS; if the payment does not finally partake the character of income, the TDS provision is not applicable.	The Court cited this authority by analogy to underscore that TDS provisions apply only where a payment constitutes income of the payee; applying same reasoning, if no income is attributable to HSL from the reimbursements, Section 194J would not be attracted.

Court's Reasoning and Analysis

The Court began by examining Section 194J of the Income Tax Act, observing that the provision requires deduction of tax at source at the rate of ten percent "on income comprised therein" where sums are paid as fees for professional or technical services. The Court emphasized that the "relevant factor is income comprised" and that to attract Section 194J there must be income in the payment.

The Court referred to the definition of income in Section 2(24) and concluded that reimbursement of expenses incurred by HSL on a cost-to-cost basis cannot be categorized as income under Section 2(24). The Court also invoked Section 190, which treats deduction at source as a mechanism for collecting tax on income that is otherwise chargeable, reinforcing that TDS applies to "such income" and not to payments devoid of an income component.

Applying those statutory principles to the facts, the Court accepted the factual findings of the appellate authorities that payments from KSL and ML to HSL were reimbursements and not fees for technical services. Because these payments did not reflect income in HSL's books (no income embedded in the payments), Section 194J did not get attracted. The Court characterized the Assessing Officer's approach—requiring deduction irrespective of whether the payments included an income element—as contrary to the explicit language of Section 194J.

The Court further supported its reasoning by reliance on the Hyderabad Industries decision (which holds that amounts not includible in total income cannot be treated as income for TDS) and by analogy to Karnataka Power Transmission Corporation (which held that TDS under Section 194A applies only where the payment finally partakes the character of income). The Court also noted CBDT Circular No. 715 dated 03.08.1995 which it said clarifies that reimbursement cannot be subjected to TDS deduction out of the bill amount; the Assessing Officer's view was described as contrary to the intent of that circular.

On the cumulative basis of statutory interpretation (Section 194J and Section 190), factual findings about the nature of payments (reimbursement on cost-to-cost basis), the cited precedents, and the CBDT circular, the Court concluded that the assessee fell outside the scope of Section 194J read with Section 200 for the relevant assessment years and that consequently Sections 201 and 201(1A) were not attracted.

Holding and Implications

Appeals dismissed.

Direct effect on the parties:

The substantial questions of law were answered against the revenue and in favour of the assessee.
The Court held that the payments made by the assessee to HSL were reimbursements on a cost-to-cost basis and did not constitute income in the hands of HSL for the relevant assessment years; therefore Section 194J did not apply and the assessee could not be treated as an assessee-in-default under Sections 201 and 201(1A) for failure to deduct TDS.

The opinion applies existing statutory interpretation and precedents to the facts; it does not purport to lay down a novel legal principle or to set a new precedent beyond those applications stated.

Bench: Two Judges (signatures indicated in the opinion).

Show all summary ...

These appeals are filed by the revenue under Section 260A of the Income Tax Act, 1961 (the Act for short) challenging the order of the Income Tax Appellate Tribunal, Bangalore Bench A (the Tribunal for short) in ITA Nos.861/Bang/2011 dated 18.12.2012, 1041/Bang/2013 dated 21.02.2014, 862/Bang/2011 dated 18.12.2012, 859/Bang/2011 dated 18.12.2012, 1040/Bang/2013 dated 17.12.2013 and 860/Bang/2011 dated 18.12.2012 respectively.

2. Since the substantial questions of law raised in these appeals are identical, the same are heard together and disposed of by this common judgment.

3. The assessee is engaged in the business of manufacture of steel. During the assessment year 2008- 09, 2009-10 and 2010-11 the assessee has made payment to M/s Hospet Steel Limited (HSL for short) towards managerial and technical services rendered by way of operating and maintaining an integrated steel : 7 : plant. Survey under Section 133A of the Act was conducted. Subsequent to survey, proceedings under Section 201(1) and Section 201(1A) of the Act were initiated. Orders under Sections 201(1) and 201(1A) of the Act were passed holding that, HSL and M/s Kalyani Steel Limited (KSL for short) and M/s Mukund Limited (ML for short) are independent entities. HSL is a service company and managed an integrated steel plant for KSL and ML. The required labour and staff for the services has been employed by HSL. HSL has used its assets and machineries for rendering the agreed services. The amounts received towards service charges has been accounted in the P & L account of HSL and the same is offered to tax. Hence, the Assessing Officer held that, assessee is in default under Section 201 for not deducting TDS under Section 194J of the Act and consequently, interest under Section 201(1A) of the Act was computed. Being aggrieved by the same, appeal was preferred by the assessee/respondent before the Appellate Commissioner. The Appellate Commissioner : 8 : arrived at a conclusion that the payment made by the assessee to HSL is reimbursement of expenses and there was no liability to deduct TDS under Section 194J of the Act and hence, Section 201(1) and 201(1A) of the Act are not justifiable. Being aggrieved by the same, revenue has preferred these appeals raising following substantial questions of law:

i) Whether the Appellate Authorities were correct in holding that, the payments made by the assessee to M/s Hospet Steel Limited are reimbursement of expenses on cost to cost basis and does not constitute income component, hence, provisions of Section 194J of the Act are not attracted? ii) Whether the Appellate Authorities failed to take into consideration that, entire payment made to M/s Hospet Steel Limited was towards rendering of managerial and technical services by way of operating and maintaining an integrated steel plant and the provisions of Section 194J of the Act are attracted, consequently, Section 201 of the Act is attracted? : 9 :

4. Learned counsel Sri.Y.V.Raviraj appearing for the revenue would contend that, both appellate authorities failed to take into consideration that HSL is carrying on business independently and not as an agent of KSL and ML. The entire staff and manpower required for operating and maintaining the integrated steel plant for rendering services were employed by HSL. Both the appellate authorities have failed to take into consideration that, while examining the applicability of the TDS provisions, the payment should be examined with reference to the services for which payment is made. The nomenclature given by the assessee or HSL does not change the applicability of the provisions. Any amount credited towards fee for professional or technical services attracts the provisions of Section 194J of the Act. Taxability or otherwise of the said amount in the hands of the recipient is not the requirement of Section to be looked into while applying the said provisions. : 10 :

5. Learned counsel Sri.Chythanya K.K. appearing for the assessee submitted that HSL acts as an agent of KSL and ML to manage the affairs of the steel plant. Strategic Alliance Agreement (SAA) entered into between KSL and ML with HSL indicates that both companies installed their plants in close by and in pursuance of the said SAA, the assessee along with ML promoted HSL for effective functioning of all the plants as one composite manufacturing unit and accordingly, the assessee had installed iron making and steel rolling facilities and ML had installed steel making facilities with the following terms namely:

(i) the share capital of HSL was held by the assessee and ML in equal proportion and the investment in the said steel making facilities have been made by SAA constituents in the ratio of 41.38% (the assesse): 58.62% (by ML).

(ii) the assessee and ML have agreed to reimburse HSL the expenditure incurred on behalf of the assessee and ML in course of administering the plant operations on cost : 11 : to cost basis, i.e., all the expenses for hot metal making and steel rolling activities were allocated to the assessee and the expenses incurred for steel making activities to ML;

(iii) all other common expenses and corporate expenses except the provision for gratuity and leave encashment to staff etc., were recovered from SAA constituents in the ratio of 41.38% and 58.62% as agreed upon; It has been subscribed under the caption C.Payments to JVC in the SAA as under: The parties agree and undertake to pay the JVC in advance a sum of Rs.20.00 million in the products sharing ratio or such other sum as may be agreed from time to time to facilitate the operation of the plants. All costs and expenses incurred by JVC shall be reimbursed by the parties in the products sharing ratio. The parties also agree to pay to JVC service charges as may be agreed upon between the parties and the JVC. : 12 : In the supplementary agreement (dated 10.08.1999) to SAA dated 16.05.1998, sub-para 2. 2(c) of Chapter 2 on Page 24 of the Principal Agreement was substituted by the following paragraph: It is agreed by and between the parties to this Agreement that JVC is an outcome of the Strategic Alliance between the parties and will only be acting as conduit pipe for and on behalf of the Strategic Alliance constituents and no remuneration will be paid to JVC.

6. In terms of the aforesaid, share capital of HSL was held by the assessee and ML in equal proportion and the investment in the said steel making facilities has been made by SAA constituents in the ratio of 41.38 and 58.62 by the assessee and ML respectively. As per the terms of SAA, the assessee and ML have reimbursed the expenses incurred by HSL in performance of its obligations. The said payment did not comprise of any income component in the hands of HSL. It is only the reimbursement of such expenses incurred by HSL, the : 13 : same cannot be categorized as fees towards professional and technical services. Thus, it was argued that, there being no income in the hands of HSL, Section 194J of the Act is not applicable. This factual aspect as well as legal aspects were rightly considered by the appellate authorities while arriving at a decision. Hence, the substantial questions of law raised by the revenue deserves to be answered in favour of the assessee rejecting the appeals.

7. Heard the learned counsel appearing for the parties and perused the material on record.

8. In order to answer the substantial questions of law raised by the revenue, it is apt to refer to Section 194J of the Act, the relevant provision reads thus: 194J- Fees for professional or technical services. (1) Any person, not being an individual or a Hindu undivided family, who is responsible for paying to a resident any sum by way of - (a) xxxxx (b) fees for technical services, : 14 : (ba) xxxxx (c) xxxxx (d) xxxxx shall, at the time of credit of such sum to the account of the payee or at the time of payment thereof in cash or by issue of a cheque or draft or by any other mode, whichever is earlier, deduct an amount equal to (ten) per cent of such sum as income-tax on income comprised therein:

9. A reading of this provision discloses that, an amount equal to ten percent of such sum as income-tax has to be deducted on income comprised therein, by a person not being an individual or a HUF, who is responsible for paying a resident any sum towards fees for technical services as per Clause (b) of Section 194J(1) of the Act, the relevant factor is income comprised. To attract this provision, there must be an income comprised therein. Section 2(24) of the Act defines the income. The reimbursement of expenses incurred by HSL cannot be categorized as income under Section 2(24) of the Act. : 15 :

10. Section 190 of the Act provides for deduction at source and advance payment. The said provision reads thus:

190. (1) Notwithstanding that the regular assessment in respect of any income is to be made in a later assessment year, the tax on such income shall be payable by deduction (or collection) at source or by advance payment (or by payment under sub- section (1A) of Section 192), as the case may be, in accordance with the provisions of this Chapter. (2) Nothing in this section shall prejudice the charge of tax on such income under the provisions of sub-section (1) of section 4.

11. This provision makes it clear that deduction at source shall be on such income not otherwise. The primary factor to attract Section 194J is the ingredient of income comprised therein. If no income is reflected in the balance sheet and P & L account of HSL towards the reimbursement charges paid on cost to cost basis by : 16 : KSL and ML, it ceases to have the character of income. As such, the assessee cannot be treated as the assessee in default in not deducting tax at source under Section 194J of the Act. The arguments of the revenue that the fees paid by the assessee is towards technical services is imaginary one not established with substantial material.

12. The Assessing Officer proceeded to pass the orders under Sections 201 and 201(1A) of the Act on the footing that the assessee was required to deduct tax from the payments made to the HSL irrespective of the fact that the said payments include element of income or not. This approach of the Assessing Officer is contrary to Section 194J of the Act, which in unequivocal terms describes deduction of income tax on income comprised therein.

13. It is trite that, if there is no income embedded in a payment, then TDS provisions would not apply as TDS is only an alternative method of collection of taxes. It is beneficial to refer to the judgment of this Court in the : 17 : case of Hyderabad Industries Ltd., Vs Income Tax Officer and Another 188 ITR 749 (kar), wherein it is held that, an amount which will not be included in the total income of a person cannot be considered as income for the purpose of deduction of tax at source at all. The purpose of deduction of tax at source is not to collect a sum which is not a tax levied under the Act, it is to facilitate the collection of tax lawfully leviable under the Act. In view of the factual finding of the appellate authorities that the payment made by KSL and ML to HSL for various expenses incurred would be a reimbursement and not a fee for technical services, Section 194J of the Act is not attracted.

14. The CBDT in the circular number 715 dated 03.08.1995 has clarified that the reimbursement cannot be deducted out of the bill amount for the purpose of TDS. The Assessing Officers view is against the intent of the said circular. : 18 :

15. This Court in Karnataka Power Transmission Corporation Ltd., Vs. Deputy Commissioner of Income-tax (TDS) Circle 16(2), Bangalore reported in (2016) 383 ITR 59 (Kar) while considering the applicability of Section 194A of the Act has observed that, Section 194A of the Act mandates the tax deductor to deduct income tax on any income by way of interest other than income by way of interest on securities. The phrase any income and income tax thereon if read harmoniously, it would indicate that the interest which finally partakes the character of income, alone is liable for deduction of the income tax on that income by way of interest. If the said interest is not finally considered to be an income of the deductee, as per reversal entries of the provision, Section 194A(1) of the Act would not be made applicable. In other words, if no income is attributable to the payee, there is no liability to deduct tax at source in the hands of the tax deductor.

16. Under the circumstances, the assessee falls outside the scope of Section 194J r/w Section 200 of : 19 : the Act during the relevant assessment years. Consequently, the provisions of Sections 201 and 201(1A) of the Act are not attracted. We do not find any material irregularity or infirmity in the orders passed by the appellate authorities. For the aforesaid reasons, we answer substantial questions of law against the revenue and in favour of the assessee. Accordingly, the appeals stand dismissed. [Sd/-] JUDGE [Sd/-] JUDGE MBS/-