ITA No. 180 of 2002 -1- IN THE HIGH COURT OF PUNJAB AND HARYANA AT CHANDIGARH ITA No. 180 of 2002 Date of Decision: 3.2.2011 Commissioner of Income-tax, Jalandhar ....Appellant. Versus M/s Hansa Agencies Pvt. Ltd. ...Respondent. CORAM:- HON'BLE MR. JUSTICE ADARSH KUMAR GOEL. HON'BLE MR. JUSTICE AJAY KUMAR MITTAL. PRESENT: Mr. Vivek Sethi, Advocate for the appellant. Mr. Pankaj Jain, D.K. Goyal, Rohit Sood and Rishabh Kapoor, Advocates for the respondent. AJAY KUMAR MITTAL, J. 1. This order shall dispose of ITA Nos. 180, 182 and 196 of 2002 as learned counsel for the parties are agreed that these involve identical questions of law. For brevity, the facts are being taken from ITA No. 180 of 2002. 2. This appeal has been preferred by the revenue under Section 260A of the Income Tax Act, 1961 (in short “the Act”) against the order dated 3.5.2002 passed by the Income Tax Appellate Tribunal, Amritsar Bench, Amritsar (hereinafter referred to as “the Tribunal”) in ITA No. 49(ASR)/1995, relating to the assessment year 1991-92, claiming the following substantial questions of law:- “1. Whether, the Tribunal is right in law in holding that interest income of Rs.3,87,498/- formed part of profits and gains of business or profession of the assessee while working out deduction under section 80HHC of the Income-tax Act, 1961? ITA No. 180 of 2002 -2- 2. Whether, the Tribunal is correct in law in ignoring the provisions of sub-sections (1) & (3) of section 80HHC while holding that provisions of clause (baa) to the Explanation to section 80HHC are not applicable earlier to asstt. year 1992-93 wherein 'Profits' were substituted for 'whole of income' w.e.f. 01.04.1989? 3. Whether, the order of Ld. Tribunal is perverse in law as it has failed to consider material and relevant facts as discussed by the A.O. and the learned Ist appellate authority?” 3. Briefly stated, the facts for adjudication as narrated in the appeal are that the assessee is engaged in the export of handicrafts and other goods and filed its return on 27.12.1991 for the assessment year 1991-92 declaring an income of Rs.1,25,550/-. The case of the assessee was taken up for scrutiny. The Assessing Officer held that the income accrued/received as interest on the deposits invested with different banks did not form part of profits earned from the business and assessed under the head “income from other sources.” The Assessing Officer restricted the deduction under Section 80HHC of the Act to the profits derived from the business of goods exported outside India by excluding the interest income of Rs.3,87,498/- assessed under the head “income from other sources” as the same had no relevancy with the income assessed under the head “Income from Profits and Gains of Business or Profession” of export business. Feeling aggrieved, the assessee filed an appeal before the Commissioner of Income Tax (Appeals) [hereinafter referred to as “the CIT(A)”] who vide ITA No. 180 of 2002 -3- order dated 25.11.1994 dismissed the appeal on the basis of order passed in the case of assessee's sister concern, i.e. M/s Suri Sons, Basti Nau, Jalandhar, wherein the interest income was treated as 'income from other sources'. On further appeal, relying upon the decision of this Court in Commissioner of Income-tax v. Isher Dass Mahajan and Sons [2002] 253 ITR 284 (P&H), the Tribunal vide order dated 3.5.2002 allowed the appeal of the assessee holding that the provisions of Clause (baa) to the Explanation to Section 80HHC of the Act would not apply to the years earlier to assessment year 1992-93 i.e. uptil assessment year 1991-92 and, therefore, interest on fixed deposits would not be excluded from profits of the business for calculating deduction under Section 80HHC of the Act. Hence, the present appeal by the revenue. 4. We have heard learned counsel for the parties. 5. The point for determination in this case is whether the interest received on fixed deposits made by the assessee by utilizing the surplus funds for earning interest would form part of business income on which deduction under Section 80HHC of the Act would be admissible to the assessee. 6. Learned counsel for the revenue submitted that the interest earned by the assessee on the fixed deposits with the bank was by way of utilization of its surplus funds which was for earning interest resulting into 'income from other sources' and, therefore, it did not qualify for deduction under Section 80HHC of the Act. Learned counsel urged that similar issue has been considered by Bombay High Court in Commissioner of Income Tax v. Ravi Ratna Exports (P) Ltd. [2000] ITA No. 180 of 2002 -4- 246 ITR 443 (Bom), Kerala High Court in Abad Enterprises v. Commissioner of Income Tax [2002] 253 ITR 319 (Ker) and G.T.N. Textiles Ltd. v. Deputy Commissioner of Income Tax (Assessment) and another [2005] 279 ITR 72 (Ker); Karnataka High Court in Kabadi Enterprises v. Income Tax Officer [2007] 290 ITR 610 (Kar) and Madras High Court in Dollar Apparels v. Income-Tax Officer [2007] 294 ITR 484 (Mad), in favour of the revenue. 7. Distinguishing Isher Dass Mahajan and sons case (supra) on the basis of which the Tribunal had decided the appeal of the assessee, it was contended that there interest earned on fixed deposits was in the nature of business income as would be evident from a perusal of the following observations recorded in that case:- “A perusal of the order passed by the Tribunal shows that the assessee had earned interest on the deposit it made with Swami Motors for the purchase of car. Another part of the interest had been earned on deposits with the I.D.B.I. The Tribunal on consideration of the evidence has found that both the deposits were made for purposes which were incidental to the normal business activity of the assessee. Still further, even the interest on FDRs was relatable to the running of business as these were used for availing of the credit facilities from the bank. Nothing has been pointed out to show that these findings of fact recorded by the Tribunal, are contrary to any evidence on the file.” ITA No. 180 of 2002 -5- 8. Elaborating further, it was argued that Direct Tax Laws (Amendment) Act, 1989 effective from 1.4.1989 had substituted the words “profits” in place of “whole of the income” in Section 80HHC of the Act for calculating deduction admissible thereunder. Introduction of clause (baa) to Explanation to Section 80HHC by Finance (No.2) Act, 1991 w.e.f. 1.4.1992 was to exclude income from interest, commission, rent etc. to the extent of 90% from gross total income for arriving at business profits and determining the benefit admissible under Section 80HHC of the Act. It would, thus, mean that after 1.4.1992, 90% of interest income rebatable to business income had to be reduced from gross total income for determining profits from business as 10% expenses were allowable as deduction which might have been incurred for earning such income. Support was gathered from the judgment of the Apex Court in Commissioner of Income Tax v. K. Ravindranathan Nain [2007] 295 ITR 228 (SC) and Bombay High Court in Commissioner of Income Tax v. Bangalore Clothing Co. [2003] 260 ITR 371 (Bom). In other words, it was urged that where interest income was not business income, no change in legal position had taken place either before or after introduction of clause (baa) in Explanation to Section 80HHC of the Act. Support was also sought to be drawn from the judgment of this Court in Commissioner of Income Tax v. Nahar Exports Ltd. [2008] 296 ITR 419 (P&H). 9. On the other hand, controverting the submissions, learned counsel for the assessee on the strength of decision of this Court in Isher Dass Mahajan and Sons's case (supra) submitted that the amendment by Finance (No.2) Act, 1991 whereby Clause (baa) in ITA No. 180 of 2002 -6- Explanation to Section 80HHC was inserted was effective from 1.4.1992 and applicable to the assessment year 1992-93 onward and was indicative of legislative intent not to exclude the income from interest etc. prior thereto. According to the learned counsel, interest on deposits was also profits of the business on which benefit of Section 80HHC was available to the assessee. Supporting the order of the Tribunal, the reliance was placed on the decisions of the Bombay High Court in Commissioner of Income-Tax v. Paramount Premises (P) Ltd. [1991] 190 ITR 259 (Bom) and Commissioner of Income Tax v. Nagpur Engineering Co. Ltd. [2000] 245 ITR 806 (Bom) to substantiate his submissions. 10. We have given our thoughtful consideration to the respective submissions made by the learned counsel for the parties and find substantial merit in the submissions made by learned counsel for the revenue. 11. In order to effectively resolve the controversy raised in this appeal, the following facets of the issue require an answer:- (a) Whether interest on fixed deposits earned by the assessee would form part of profits of the business under Section 80HHC of the Act; (b) Effect of insertion of clause (baa) in Explanation to Section 80HHC by Finance (No.2) Act 1991 w.e.f. 1.4.1992. 12. Addressing on the first facet of the issue involved, the purpose of incorporating Section 80HHC of the Act may be noticed. A perusal of the provisions of Section 80HHC of the Act makes it clear ITA No. 180 of 2002 -7- that two essential conditions for invoking the provisions are that the assessee must be engaged in the business of export out of India of any goods or merchandise and secondly the deduction is applicable only if sale proceeds of such goods or merchandise exported out of India are receivable by the assessee in convertible foreign exchange. The legislative intent behind incorporating Section 80HHC was to allow benefit thereunder where the assessee had exported the goods outside India and had brought convertible foreign exchange in the form of sale proceeds in India. It was for the purpose to encourage person engaged in the export business for bringing the sale proceeds of goods or merchandise which had been exported out of India to strengthen the economy of the country and not for earning interest or any other income earned in Indian currency in India. 13. Sub-section (1) of Section 80HHC of the Act, inter alia, provides that subject to and in accordance with the provisions of the Section, an assessee who is engaged in the business of export is entitled to claim deduction of the profits derived by it from export, while computing its total income. The expression “derived from” assumes great significance for determining the quantum of deduction which would be admissible under Section 80HHC of the Act. The aforesaid expression was described by the Apex Court in Pandian Chemicals Ltd. v. Commissioner of Income Tax [2003] 262 ITR 278 (SC) in the following terms:- “The word “derived” has been construed as far back in 1948 by the Privy Council in CIT v. Raja Bahadur Kamakhaya Narayan Singh [1948] 16 ITR 325 when ITA No. 180 of 2002 -8- it said: “The word 'derived' is not a term of art. Its use in the definition indeed demands an enquiry into the genealogy of the product. But the enquiry should stop as soon as the effective source is discovered. In the geneological tree of the interest land indeed appears in the second degree, but the immediate and effective source is rent, which has suffered the accident of non-payment. And rent is not land within the meaning of the of the definition.” This definition was approved and reiterated in 1955 by a Constitution Bench of this court in the decision of Mrs. Bacha F. Guzdar v. CIT [1995] 27 ITR 1 at page 7. It is clear, therefore, that the word “derived from” in section 80HH of the Income-tax Act, 1961, must be understood as something which has direct or immediate nexus with the appellant's industrial undertaking. Although electricity may be required for the purposes of the industrial undertaking, the deposit required for its supply is a step removed from the business of the industrial undertaking. The derivation of profits on the deposit made with Electricity Board cannot be said to flow directly from the industrial undertaking itself.” 14. Section 80HHC(3) of the Act provides for the formula for ITA No. 180 of 2002 -9- computing deduction admissible under sub-section (1), where an assessee has both the turnovers i.e., domestic as well as export. It provides that profits derived from export shall be the amount which bears to the profits of the business, the same proportion as the export turnover in respect of such goods bears to the total turnover of the business carried on by the assessee. The formula is: Export profits = Profits of the business x Export turnover Total turnover 15. Whether interest earned on fixed deposits yields profits of the business or not has been subject matter of consideration before various courts. 16. In Ravi Ratna Exports (P) Ltd's case (supra), the Bombay High Court while considering the issue relating to admissibility of deduction under Section 80HHC of the Act where the interest income earned by the assessee from fixed deposits was income from other sources, it was held that it was not to be taken into consideration for computation of special deduction under Section 80HHC of the Act. 17. Similar issue arose before Kerala High Court in Abad Enterprises and G.T.N. Textiles Ltd's cases (supra). It was observed that as per Section 80HHC of the Act, deduction is admissible in respect of profit which is derived by the assessee from the export of goods or merchandise and such profit and gain can be said to have been derived from an activity carried on by a person only if the activity is the immediate and effective source of the profit or gain. It was recorded that the interest on bank deposits, interest on income tax refund and commission received on sale of machinery and cotton canvassing was ITA No. 180 of 2002 -10- not income from business which may entitle the assessee to deduction under Section 80HHC of the Act. 18. Karnataka High Court in Kabadi Enterprises' case (supra) was dealing with a situation where interest income was not referable to the export business. There was no nexus or link between the income earned and the export activity of the assessee. The assessee was held not entitled to benefit of deduction in terms of Section 80HHC of the Act. 19. The plea of the revenue was accepted by the Madras High Court in Dollar Apparels case (supra), where the issue relating to interest on deposit was held not admissible to deduction under Section 80HHC of the Act with the following observations:- “In K.S. Subbiah Pillai and Co. (India) P. Ltd. v. CIT [2003] 260 ITR 304 (mad), where the issue raised was whether on a true construction of Explanation (baa) to Section 80HHC of the Act, interest, rent and commission are to be deducted from export profits or only net receipts, if any, after taking into account the payments, this court observed as follows (page 306): “Clause (baa) under the Explanation to section 80HHC defines profits of the business as computed under the head 'Profits and gains of business or profession'. The deductions to be made are from the amount of profit so computed and not from the amount computed under any other head of income of that ITA No. 180 of 2002 -11- assessee. The reference to 'such profits' in sub-clause (1) of clause (baa) can only be to the profits of the business computed under the head 'Profits and gains of business or profession'. Addition of prefix 'the' to 'profits' in clause (baa), while referring to the profits and gains of business or profession makes it clear that it is only the amounts already included in that computation which are now to be reduced to the extent of 90 per cent, if those items are included in sub-clause (1) of that definition. Interest paid and claimed as deduction in the computation of profits and gains for business, cannot be set off against interest received and computed under income from 'other sources'.” That apart, in CIT v. A.S. Nizar Ahmed and Co. [2003] 259 ITR 244 (Mad) where the claim of the assessee, which was a firm doing export business, that the interest received on its deposits with the bank should be treated as part of the income from business was negatived by the Assessing Officer, as also by the Commissioner, but was upheld by the Tribunal, on a reference, this court while answering the question in favour of the Revenue, held as follows (at page 246): “The interest paid by the assessee to the bank ITA No. 180 of 2002 -12- was, no doubt, an item of expenditure in the computation of its business income. That, however, would not justify taking the income that the assessee received by way of interest on the deposits that it had with the bank, as part of its business income when in reality it was not. The deposit made with the bank was for the convenience and benefit of the assessee with a view to derive higher interest income. It was not a deposit made pursuant to any requirement imposed by the bank at the time of sanctioning of the facilities. The bank's decision to extend the facilities was linked more to the business prospects of the assessee and the confidence the bank had in the integrity and entrepreneurial capacity of the partners of the firm who ran the business.” In the instant case, the Tribunal held that the deposits made by the assessee with the bank have no direct link to the sanctioning limit by the bank. Even assuming that the deposits were made as a pre-condition of the bank for sanctioning the limit, it cannot be considered as income from export earnings, as there is no nexus between export earnings and interest income and the interest income was earned from the deposits and not from the ITA No. 180 of 2002 -13- export business. Hence, following the ratio laid down by this court in K.S. Subbiah Pillai and Co. (India) P. Ltd. v. CIT [2003] 260 ITR 304 (Mad) and in CIT v. A.S. Nizar Ahmed and Co. [2003] 259 ITR 244 (Mad), we hold that the Tribunal was justified in deciding the issues in favour of the Revenue and we do not see any reason to interfere with the findings rendered by the Tribunal with regard to the issues raised in the questions of law referred to above earlier.” 20. Thus, answering the first aspect of the issue, it is held that income accrued/received in India by way of interest on the deposits made out of surplus funds for earning interest would be income from other sources and could not be termed as income of the assessee falling under the head 'Profits or Gains of Business or Profession' for determining profits of the business under Section 80HHC of the Act. However, an exception to the above said proposition would emanate in a situation where interest is earned on deposits made by the assessee which are essential for providing security against overdrafts or cash credit limits or to secure the letter of credits/margin money etc., where the interest income would be in the nature of business income and not income from other sources. 21. Taking up second facet of the issue involved herein, it may be noticed that the Direct Tax Laws (Amendment) Act, 1989 effective from 1.4.1989, inter alia, substituted the word “profits” for “whole of the income” in sub-sections (1) and (1A) of Section 80HHC of the Act and in clause (a) of sub-section (4A), the word “profits” was substituted for ITA No. 180 of 2002 -14- “income”. The ambit and scope of the amendment was explained by the Central Board of Direct Taxes (CBDT) vide its circular No. 559 dated 4th May, 1990: (1990) 184 ITR (st.) 110. Sub-clause (I) of Clause 10.7 relevant for the purposes of present appeal reads thus:- “10.7 Amendments of section 80HHC to rationalise the provisions of the section and to remove certain anomalies.- Section 80HHC of the Income-tax Act, after its amendment by the Finance Act, 1988, provides for 100% deduction in respect of the export profits. The Amending Act, 1989, has made certain amendments to this section, which are discussed below:- (i) Under the old provisions of sub-section (1) of the section, where the assessee was engaged in the business of export of any goods or merchandise, he was allowed, in computing his total income, a deduction of the “whole of the income” derived by the assessee from such exports. Similarly, in sub- section (1A), which allows deduction in the case of supporting manufacturers, and sub-section (4A), which requires the supporting manufacturer to furnish, with his return of income, the report of a chartered accountant certifying that the deduction has been correctly claimed, the deduction was to be computed and allowed on the basis of “income” of the supporting manufacturer derived on the sale of ITA No. 180 of 2002 -15- goods or merchandise to the Export House or the Trading House. The wordings of sub-sections (1), (1A) and (4A), according to which deductions was computed on the basis of “income” from the export activity, created confusion, as under the Income-tax Act as well as under accountancy principles income from business or profession is normally referred to as “profits”. Even sub-sections (3) and (3A) of section 80HHC itself provide for determination of export “profits” of the exporter or the supporting manufacturer and not export “income” for the purposes of deduction under the section. Therefore, to rationalise the provisions of section 80HHC and to remove the confusion, the words “whole of the income” used in sub-sections (1) and (1A) and the word “income” used in sub-section (4A) of the section have been substituted the word “profits” in each case.” 22. From the above reading of the amendment brought about, it is clear that the legislature unambiguously had sought to exclude all such receipts which had no nexus with the export activity from the calculation of business profits for determination of admissible deduction under Section 80HHC of the Act. 23. Further, clause (baa) in the Explanation to Section 80HHC of the Act was inserted by Finance (No.2) Act, 1991 w.e.f. 1.4.1992. ITA No. 180 of 2002 -16- The expression “profits of the business” stood defined by insertion of clause (baa) in Explanation to Section 80HHC by Finance (No.2) Act, 1991 w.e.f. 1.4.1992 which was as under:- “(baa) “profits of the business” means the profits of the business as computed under the head “Profits and gains of business or profession” as reduced by- (1) ninety per cent of any sum referred to in clauses (iiia), (iiib) and (iiic) of section 28 or of any receipts by way of brokerage, commission, interest, rent, charges or any other receipt of a similar nature included in such profits; and (2) the profits of any branch, office, warehouse or any other establishment of the assessee situate outside India.” 24. The scope and effect of this clause was explained by CBDT by issuing circular No. 621 dated 19.12.1991: (1992) 195 ITR (St) 154. Clauses 32.10 and 32.11 described the reason for such insertion in the following terms:- “32.10 The existing formula often gives a distorted figure of export profits when receipts like interest, commission, etc., which do not have an element of turnover are included in the profit and loss account. 32.11 It has, therefore, been clarified that “profits of the business” for the purpose of section 80HHC will not include receipts by way of brokerage, commission, interest, rent, charges or any other ITA No. 180 of 2002 -17- receipt of a similar nature. As some expenditure might be incurred in earning these incomes, which in the generality of cases is part of common expenses, ad hoc 10 per cent deduction from such incomes is provided to