1
IN THE HIGH COURT OF JUDICATURE AT BOMBAY
O. O. C. J.
INCOME TAX APPEAL NO.200 OF 2009
The Commissioner of Income Tax City-III,
Room No.607, 6th Floor,
Aayakar Bhavan, M.K.Road,
Mumbai-400 020. ...Appellant.
Vs.
M/s.Asian Star Co.Ltd.,
114-C, Mittal Court, Nariman Point,
Mumbai-400 021. ...Respondent.
....
Mr. Vimal Gupta with Mr.Suresh Kumar for the Appellant.
Mr.J.B. Andhyarujina, Sr.Advocate with Dr.K.Shivram i/b. Mr.A.R.
Singh and Mr.P.S.Savla for the Respondent.
.....
CORAM : DR.D.Y.CHANDRACHUD AND
J.P.DEVADHAR, JJ.
March 18/19, 2010.
ORAL JUDGMENT (PER DR.D.Y.CHANDRACHUD, J) :
The appeal by the Revenue under Section 260A of the
Income Tax Act, 1961 raises a question of law as regards the
interpretation of the provisions of Section 80HHC. The question of
law has been formulated as follows in the Memo of Appeal :
” Whether on the facts and in the circumstances of the
case and in law, the Hon’ble Tribunal was correct in
holding that net interest on fixed deposits in banks
received by the Assessee Company should be considered
for the purpose of working out the deduction u/s.80HHC
and not the gross interest?”::: Downloaded on – 09/06/2013 15:43:51 :::
2The appeal was admitted on the aforesaid question.
The facts:
2. The assessee in the present case carries on the business
of the export of cut and polished diamonds. A return of income for
Assessment Year 2003-04 was filed on 28 November 2003,
declaring a total income of Rs. 13.91 crores, after claiming a
deduction of Rs. 13.22 crores under Section 80HHC. The return
was initially processed under Section 143(1), after which the case
was selected for scrutiny under Section 143(2) by the issuance of a
notice. The assessee had debited an amount of Rs. 21.46 crores as
interest paid/payable to the profit and loss account. The assessee,
however, stated that the interest charged to the profit and loss
account was net of interest received in the amount of Rs. 3.25
crores. The assessee was called upon to explain as to why the
deduction under Section 80HHC should not be recomputed by
excluding ninety per cent of the interest received in the amount of
Rs. 3.25 crores. By its explanation, the assessee submitted that
during the year, it received interest on fixed deposits. The assessee
stated that it had borrowed monies in order to fulfill its working
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3capital requirements and the Bank had called upon it to maintain a
fixed deposit as margin money against the loans. The assessee
consequently contended that there was a direct nexus between the
deposits kept in the Bank and the amounts borrowed.
3. The Assessing Officer, while passing an order of
assessment dated 30 January 2006, found that the explanation of
the assessee could not be accepted since a plain reading of
Explanation baa to Section 80HHE would suggest that ninety per
cent of the receipts on account of brokerage, commission, interest,
rent, charges or receipts of a similar nature were liable to be
excluded while computing the profits of the business. In appeal,
the CIT (Appeals) held by his order dated 17 November 2006 that
from the Bank and fund flow statements, the assessee has
established a direct nexus between interest bearing fixed deposits
and the ‘interest charging’ borrowed funds. The CIT (Appeals)
directed the Assessing Officer to allow the netting of interest
income and interest expenses. The view of the CIT (Appeals) was
confirmed in appeal by the Income Tax Appellate Tribunal on 11
March 2008. The Tribunal held that the finding of the Appellate
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4Authority was based on the existence of a nexus between
borrowed funds and fixed deposits. The Tribunal followed its
decision in the case of Lalsons Enterprises.1
The question :
4. The question of law which has been raised in the appeal
by the Revenue relates to whether netting of interest can be
allowed for the purpose of working out a deduction under Section
80HHC. The contention of the Revenue is that for computing the
profits and gains of the business for the purposes of Section
80HHC, ninety per cent of the receipts by way of interest has to be
reduced from the profits and gains of business or profession and
the receipts that have to be reduced are the gross receipts.
Consequently, it is the submission of the Revenue that gross
receipts by way of interest cannot be netted against expenditure
which is laid out for the earning of those receipts. On the other
hand, the contention of the assessee is that Section 80HHC must
have a purposive interpretation and the reduction that is to be
applied of ninety per cent of the receipts, must relate to the
1 (2004) 89 ITD 25
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5inclusion of receipts in the profits and gains of business or
profession which is comprised both of receipts and the expenditure
which is incurred directly for the purpose of earning the receipts.
Section 80HHC:
5. Sub-section (1) of Section 80HHC provides that where
an assessee, being an Indian Company or a person residing in
India, is engaged in the business of export out of India of goods or
merchandise to which the section applies, there shall be allowed in
computing the total income of the assessee, a deduction to the
extent of profit referred to in sub-section (1B) derived by the
assessee from the export of such goods. Sub-section (1B) stipulates
the extent of the permissible deduction and the period during
which the deduction could be claimed. Sub-section (3) lays down
a formula with reference to which the profits derived by the
assessee from export have to be computed. In the present case,
clause (a) of sub-section (3) is of relevance and it provides as
follows:
“(3) For the purposes of sub-section (1), –
(a) where the export out of India is of goods or
merchandise manufactured or processed by the assessee,::: Downloaded on – 09/06/2013 15:43:51 :::
6the profits derived from such export shall be the amount
which bears to the profits of the business, the sameproportion as the export turnover in respect of such
goods bears to the total turnover of the business carriedon by the assessee.”
The central focus of this appeal relates to the interpretation that is
to be placed on the provisions of clause (baa) of the Explanation.
Clause baa provides as follows:
“(baa) “profits of the business” means the profits of the
business as computed under the head “Profits and gainsof business or profession” as reduced by –
(1)ninety per cent of any sum referred to in clauses
(iiia), (iiib), (iiic), (iiid) and (iiie) 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 outsideIndia.”
Hence, Clause (a) of sub-section (3) is applicable to an assessee
whose business consists of the export out of India of goods or
merchandise manufactured or processed by the assessee. In the
case of such an assessee, the profits derived from such export is the
amount which bears to the profits of the business, the same
proportion as the export turnover in respect of such goods bears to
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7the total turnover of the business carried on by the assessee. The
expression “profits of the business” which has been used in clause
(a) of sub-section (3) is defined in clause baa of the Explanation.
For the purposes of clause baa, profits of the business have to be
first computed under the head ‘profits and gains of business or
profession’. That computation must necessarily be in accordance
with the provisions of Sections 28 to 44D of the Act. Once such a
computation has been arrived at, clause baa requires a reduction to
be carried out. The reduction is to be of (i) Ninety per cent of (a)
the export incentive referred to in clauses (iiia), (iiib), (iiic), (iiid)
and (iiie) of Section 28 or (b) any receipt by way of brokerage,
commission, interest, rent, charges or any other receipt of a similar
nature included in such profits; and (ii) Profits of a branch, office,
warehouse or any other establishment of the assessee situated
outside India. The issue which falls for determination in the
present case relates to the reduction factor of ninety per cent that
is to be applied in respect of any receipts by way of brokerage,
commission, interest, rent, charges or any other receipt of a similar
nature included in such profits. As noticed earlier, it is the
contention of the Revenue that the reduction factor of ninety per
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8
cent must be applied to the gross receipts, independent of any
expenditure that may be incurred in the earning of those receipts,
while according to the assessee, the use of the words “included in
such profits” must, in particular, result in the conclusion that the
reduction factor cannot be applied in isolation only to the gross
receipts without reference to the expenditure laid out directly for
the purpose of earning those receipts. It is in this background that
it would be necessary now to advert to the rival submissions.
Submissions :
6. Counsel appearing on behalf of the Revenue submitted
firstly that Explanation baa seeks to exclude ninety per cent of : (i)
Any sum by way of export incentives referred to in clause (iiia) to
(iiie) of Section 28; (ii) Receipts by way of brokerage, commission,
interest, rent, charges or other similar receipts; and the Profits of
any branch, office, or warehouse. The submission is that
Parliament has used three different expressions, namely, “any
sums”, “receipts” and “profits”. In so far as receipts are concerned,
it has been urged that ninety per cent of whatever receipts are
received of the description mentioned in the explanation must be
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excluded. Secondly, it has been submitted that Section 80HHC is a
statutory incentive provided to exporters and the object of the
provision is not to determine real income. The underlying object of
Explanation baa was to exclude receipts which do not have a nexus
with export turnover and ninety per cent of all such receipts would
have to be excluded in computing the deduction. Thirdly, reliance
was placed on a circular issued by the Central Board of Direct
Taxes on 19 December 1991 in order to contend that no netting of
receipts with the expenditure laid out in earning the receipts is
permissible since in mandating that a reduction of ninety per cent
shall be applied, Parliament has already taken into account, the
element of common expenses that may be incurred by the assessee.
In other words, the submission was that while the entire receipts
on account of brokerage, commission, interest, rent, charges or
other similar receipts would have to be excluded since they do not
bear a nexus with export turnover, nonetheless the Legislature has
taken notice of the fact that the assessee would have incurred
certain expenses towards those receipts and had consequently
applied a reduction factor of ninety per cent.
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7. The appeal before the Court has been placed for hearing
together with a batch of appeals where similar issues arise. Since
common issues of law arise in this batch of appeals, we have, while
hearing the arguments of the Revenue in the present appeal, also
heard Counsel appearing on behalf of the Assessees in the entire
batch on the question of interpretation. Submissions have been
urged before the Court by Mr.Andhyarujina, Mr.Shivram, Mr.Irani
and Mr.Nilesh Joshi. Counsel appearing on behalf of the Assessee
submitted that (i) The words “any receipts” denote the nature and
not the quantum of the receipt; (ii) The expression, therefore,
requires the nature of the receipts to be examined; (iii) Explanation
baa refers to any receipts of a similar nature “included in such
profits”. The words “such profits” would mean profits and gains of
business or profession computed under Sections 28 to 44D; (iv)
Profits can only be arrived at after the deduction of expenditure
from income and the net effect thereof would constitute profits; (v)
Explanation baa does not use the expression “gross or net”.
However, having regard to the purpose and object of the provision
and the nature of the language used in the explanation, ninety per
cent of the receipts that is required to be excluded would have to
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11
be computed with reference to the inclusion of such receipts in the
profits and gains of business which in turn involves both the credit
and the debit sides of the profit and loss account; (vi) For the
purposes of Explanation baa, income from other sources would not
come within the purview of the explanation; Only business income
would have to be considered and interest in the nature of business
income would have to be taken into consideration; (vii) Receipts by
way of interest in Explanation baa denotes the nature of the
receipts and inclusion in ‘such profits’ would denote the quantum
of the receipts; (viii) The words which have been used by the
legislature suggest what is included in the total income or what has
gone into the computation of the total income. Consequently, both
the debit and the credit sides of the profit and loss account would
have to be considered; (ix) The words “such profits” can only mean
such profits as computed in accordance with the provisions of the
Act; (x) The words “receipt” and “income” in Explanation baa are
interchangeably used and consequently, receipts would have to be
read as income; (xi) The correct interpretation would be to take
into consideration netting and exclude all expenses which have a
direct nexus with the earning of the income; (xii) The provision
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12
being an incentive provision under Chapter VIA, it must be
beneficially construed in order to encourage exports; (xiii) The
word “profits” would denote profits in a commercial sense.
Another perspective of the submissions which have been urged on
behalf of the assessee is that the object of the exclusion contained
in Explanation baa is to sequester certain non-operational income
which does not bear a direct nexus with export income.
Consequently, the sequestration or exclusion cannot be confined
only to the credit side of the profit and loss account, but must
extend equally to the debit side subject to the rider that a clear
nexus has to be established. The Revenue, it has been urged, seeks
to exclude non-operational income on the one hand, because it has
no nexus with the export turnover while on the other hand, it
seeks to depress profits by including expenditure which has been
incurred for those very items. This, it has been submitted, would
lead to a consequence which could not have been intended by
Parliament having regard to the beneficial object underlying the
provision.
The rationale underlying the exclusion :
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8. Sub-section (3) of Section 80HHC was inserted by the
Finance Act of 1991, with effect from 1st April 1992. The principal
reason underlying the adoption of the formula in sub-section (3) of
Section 80HHC was to disallow a part of the concession when the
entire deduction claimed could not be regarded as being derived
from export. Section 80HHC had to be amended several times
since the formula had resulted in a distorted figure of export profits
where receipts such as interest, rent, commission and brokerage
which did not have a direct nexus with export turnover were
included in the profit and loss account and resultantly became a
subject of deduction. By the amendment, the position that
emerged was that receipts which do not have any element of or
nexus with export turnover would not become eligible for
deduction merely because they form part of the profit and loss
account. This aspect of the history underlying Section 80HHC, has
been elaborated upon in the judgment of Hon’ble Shri Justice
S.H.Kapadia, speaking for the Supreme Court, in CIT vs. Lakshmi
Machine Works.2
2 (2007) 290 ITR 667
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9. Explanation baa has to be read in the context of this
background underlying the exclusion of certain constituent
elements of the profit and loss account from the eligibility for
deduction under Section 80HHC. What Explanation baa
postulates is that, in computing the profits of business for the
purposes of Section 80HHC, the profits of business have to be first
computed under the head profits and gains of business or
profession, in accordance with the provisions of Sections 28 to
44D. Once that exercise is completed, those profits have to be
reduced to the extent provided by clauses (1) and (2) of
Explanation baa. Clause (1) to the explanation requires the
application of the ninety per cent deduction to two categories. The
first category consists of export incentives which are referred to in
clauses (iiia) to (iiie) of Section 28. The second category consists
of receipts by way of brokerage, commission, interest, rent, charges
or any other receipts of a similar nature included in such profits.
The importance of the second category lies in the fact that such
receipts by way of brokerage, commission, interest, rent, charges
or other receipts of a similar nature, though included in the profits
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15
and gains of business or profession, do not bear a nexus with the
export turnover. Consequently, though they are included in the
computation of profits and gains of business or profession, ninety
per cent of such receipts have to be excluded in computing the
profits of business for the purposes of Section 80HHC.
10. The reason for the exclusion is borne out by a circular
issued by the Central Board of Direct Taxes on 19 December 1991.
The circular issued by the Board noted that the existing formula
often presented a distorted figure of export profits when receipts
like interest, commission etc. which did not have an element of
turnover were included in the profit and loss account.
Consequently, a clarification had been introduced by which the
profits of business for the purposes of Section 80HHC would not
include receipts of a similar nature. However, as some
expenditure might have been incurred in earning these incomes
which in the generality of cases would be a part of common
expenditure, an ad-hoc deduction of ten per cent from such income
was provided to account for these expenses.
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16
11. Now, reading Explanation baa as it stands, the Court is
required to give a meaning to the provision consistent with the
underlying scheme, object and purpose of the statutory provision.
Parliament considered it appropriate to exclude from the purview
of the deduction under Section 80HHC, certain receipts or income
which did not have a proximate nexus with export turnover. Such
items form part of the profit and loss account and form a
constituent element in the computation of the profits or gains of
business or profession under Sections 28 to 44D. The
interpretation which we place on the provisions of Section 80HHC
and on Explanation baa must be consistent with the law laid down
by the Supreme Court.
12. In Commissioner of Income Tax vs.
K.Ravindranathan Nair,3 the Supreme Court held that processing
charges, though a part of gross total income constituted an item of
independent income like rent, commission and brokerage and
consequently, ninety per cent of the processing charges would have
to be reduced from gross total income to arrive at business profits.
3 (2007) 295 ITR 228
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17
As a result, the processing charges would be includible in total
turnover in the formula under Section 80HHC(3). For the purpose
of this appeal, it would be appropriate to formulate the principles
which emerge from the decision in Ravindranathan Nair. These
may be summarized as follows:
-(i) Section 80HHC is not a charging section, but a provision
by way of an incentive and its object is not to ascertain real
income;
-(ii) The expression “derived from” in Sub-section (1) of
Section 80HHC is narrower than the expression “attributable to”
and consequently, it is only profits derived from export which can
become the basis for working out the formula in Section
80HHC(3);
-(iii) As a result of the amendment brought about from 1st
April 1992 by the Finance Act of 1991, the expression “profits of
the business” stands defined to mean profits of the business as
computed under the head profits and gains of the business under
Sections 28 to 44D;
-(iv) Before allowing a deduction under Sub-section (3) of
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Section 80HHC, the gross total income of an assessee, being profits
from business, has to be arrived at in terms of clause baa of the
explanation. Business profits have to be calculated in terms of
Sections 28 to 44D alone;
-(v) The deduction has to be from the profits as understood
in the commercial sense;
-(vi) Under clause (1) of Explanation baa, ninety per cent of
any amount referred to in clauses (iiia), (iiib), (iiic), (iiid) and
(iiie) 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 has to be reduced. The expression
“included in such profits” indicates that such item which forms a
subject matter of the reduction also forms a part of gross total
income being business profits;
-(vii) Incentive profits and items like rent, commission, interest
and brokerage, though they form a part of the gross total income,
have to be excluded since they do not possess any nexus with
export turnover. The inclusion of such items in profits of the
business would result in a distortion of the figure of export profits;
-(viii) In the formula, there exist four variables namely,
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19
business profits, export turnover, total turnover and ninety per cent
of the sums referred to in Explanation baa. In the computation of
the deduction under Section 80HHC, all the four variables are
required to be taken into account;
-(ix) Section 80HHC(3) secures profits derived from the
export of eligible goods. Every receipt is not income and every
income would not necessarily include the element of export
turnover;
-(x) By Explanation baa ninety per cent of incentive profits or
receipts by way of brokerage, commission, interest, rent, charges or
any other receipts of like nature included in business profits have
to be deducted from business profits as computed under Sections
28 to 44D;
-(xi) In other words, receipts which result in an independent
income which has no nexus with export, are required to be reduced
from business profits under Explanation baa;
-(xii) Though receipts by way of brokerage, commission,
interest, rent, charges or any receipts of a similar nature form part
of the gross total income, yet for the purpose of working out the
formula and in order to avoid a distortion in arriving at export
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20
profits, Explanation baa has been inserted;
-(xiii) As a result of the insertion of Explanation baa incentive
profits and receipts which result in “independent income” have to
be excluded from the gross total income to the extent of ninety per
cent because such receipts have no nexus with the export turnover.
13. In Lakshmi Machine Works (supra), the issue before
the Supreme Court was whether excise duty and sales tax were
included in the total turnover for the purpose of working out the
formula contained in Section 80HHC(3). The Supreme Court held
that the object of the legislature in enacting Section 80HHC was to
confer benefit on profits accruing with reference to export
turnover. The Supreme Court observed that “commission, rent,
interest etc. did not involve any turnover” and “therefore, ninety
per cent of such commission, interest etc. was excluded from the
profits derived from the export.” Just as interest, commission etc.
did not emanate from export turnover, so also excise duty and sales
tax had to be excluded.
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The resultant position in law :
14. The deduction under Section 80HHC is available to an
assessee engaged in the export of goods or merchandise outside
India to the extent of the profits specified in sub-section (1B) of the
provision. Clause (a) of Sub-section (3) of Section 80HHC
provides that where the exported goods are manufactured by the
assessee, the deduction under sub-section (1) would be in
accordance with the formula stated therein. The formula is that
the profits derived from such 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. Explanation baa was
inserted by the Finance Act of 1991 with retrospective effect from
1st April 1987. Under Explanation baa, the expression “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
ninety per cent of (a) Any sums referred to in clauses (iiia), (iiib),
(iiic), (iiid) and (iiie) of Section 28; or (b) Any receipts by way of
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brokerage, commission, interest, rent, charges or any other receipt
of a similar nature included in such profits. The profits of any
branch, office, warehouse or any other establishment of the
assessee situated outside India have also to be reduced. Since
receipts by way of brokerage, commission, interest, rent, charges or
other similar receipts have no nexus with the export activity, the
legislature thought it fit, for the purpose of deduction under
Section 80HHC to exclude such items from business profits.
Parliament was, however, conscious of the fact that the
expenditure incurred in earning the items which were liable to be
excluded had already gone into the computation of business
profits. This was because the computation of business profits
under Chapter IV is made by amalgamating the receipts as well as
the expenditure incurred in carrying on the business. Since the
expenditure incurred in earning the income by way of interest,
brokerage, commission, rent, charges or other similar receipts had
also gone into the computation of business profits, Parliament
thought it fit to exclude only ninety per cent of the receipts
received by the assessee in order to ensure that the expenditure
which is incurred by the assessee in earning the receipts which has
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gone into the computation of the business profits is taken care of.
15. The reason why Parliament confined the reduction factor
to ninety per cent of the receipts is stated in the Memorandum
explaining the provisions of the Finance Bill of 1991. In so far as it
is relevant, the Memorandum states thus:
“The existing formula may also give 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.
It is, therefore, proposed to clarify 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 receipt of a similarnature. As some expenditure might be incurred in
earning these incomes, which in the generality of cases ispart of common expenses, it is proposed to provide ad
hoc 10 per cent deduction from such incomes to account
for these expenses.”
Parliament, therefore, confined the reduction to the extent of
ninety per cent of the income earned through such receipts since it
was cognizant of the fact that the assessee would have incurred
some expenditure in earning those incomes. Parliament provided
an ad-hoc deduction of ten per cent from such incomes to account
for the expenses incurred in earning the receipts. The explanatory
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statement which is contained in the Memorandum explaining the
provisions of the Finance Bill of 1991 has also been reflected in the
explanatory circular issued by the Central Board of Direct Taxes on
19 December 1991 (Circular No.621). The distortion of the profits
that would take place by excluding the receipts received by the
assessee which were unrelated to export turnover and not the
expenditure incurred by the assessee in earning those receipts was
factored in by Parliament by excluding only ninety per cent of the
receipts received by the assessee. In a given case, the expenditure
incurred by the assessee in earning the receipts, which is to be
excluded, may be more than ten per cent or less than ten per cent.
Parliament, however, thought it fit to adopt a uniform formula
envisaging a reduction of ninety per cent to make due allowance
for the expenditure which would have been incurred by the
assessee in earning the receipts. Parliament regarded the element
of expenditure computed at ten per cent of the receipts to be a
reasonable parameter of what would have been expended by the
assessee. It is in this background that in Explanation baa,
Parliament has thought it fit to exclude ninety per cent of the
receipts received by the assessee which have no nexus with the
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export activity. Ordinarily, the sums, receipts and profits set out in
clause baa would have been required to be excluded completely
from the profits of the business, being unrelated to export turnover.
Yet, since the expenditure incurred in earning such sums, receipts
and profits has already been taken into account on the debit side,
in computing profits of the business, it is only ninety per cent of
these sums, receipts and profits referred to therein which would
have to be excluded from the profits of the business in order to off
set the expenditure taken into account while computing the
business profits. In other words, the distortion in the profits of
business that would take place by excluding only the sums, receipts
and profits from the credit side, but not the expenditure from the
debit side, is off set by excluding only ninety per cent of such sums,
receipts and profits to represent the expenditure incurred on
earning them. As stated earlier, it may well be that the actual
expenditure incurred in a case may be more or less than the
statutory factor of ten per cent enacted by Parliament, but in order
to simplify the application of the law, Parliament treated a uniform
expenditure computed at ten per cent to be applicable in order to
ensure that there is no distortion of profits by exclusion of income
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which is not relatable to export profits.
Distributors Baroda :
16. In Distributors (Baroda) P. Ltd. vs. Union of India,4
what was in issue before the Supreme Court was the deduction
provided for in Section 80M. Section 80M provided that where the
gross total income of an assessee, being a company includes any
income by way of dividends received from a domestic company, in
computing the total income of the assessee, there shall be allowed
a deduction from such income by way of dividends of a certain
amount. The extent of the deduction varied between sixty to
eighty per cent. The Supreme Court observed that ‘income by
way of dividend from a domestic company included in the gross
total income’ would be the income computed in accordance with
the provisions of the Act, that is after deducting interest on monies
borrowed for earning such income. While interpreting the words
“included in the gross total income” and, emphasizing words “a
deduction from such income by way of dividend”, the Supreme
Court held thus:
4 (1985) 155 ITR 120
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27
“Now, when in computing the total income of the
assessee, a deduction has to be made from “such income
by way of dividends, it is elementary that “such income
by way of dividends” from which deduction has to be
made must be part of gross total income. It is difficult to
see how the language of this part of sub -s.(1) of s. 80M
can possibly fit in if “such income by way of dividends”
were interpreted to mean the full amount of dividend
received by the assessee. The full amount of dividend
received by the assessee would not be included in the
gross total income. What would be included would only
be the amount of dividend as computed in accordance
with the provisions of the Act. If that be so, it is difficult
to appreciate how for the purpose of computing the total
income from the gross total income, any deduction
should be required to be made from the full amount of
the dividend. The deduction required to be made for
computing the total income from the gross total income
can only be from the amount of dividend computed in
accordance with the provisions of the Act which would
be forming part of the gross total income.”
17. The principle which has been laid down by the Supreme
Court in the context of Section 80M was sought to be extrapolated
by Counsel appearing on behalf of the Assessees in the present
case, in their submission, in relation to the correct interpretation of
Explanation baa to Section 80HHC. Now, undoubtedly, as already
noted earlier, Explanation baa provides first for the computation of
the profits of the business which are defined to mean the profits
and gains of business or profession as reduced under clauses (1)
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28
and (2). For the purpose of clause (1) of Explanation baa, the
words “included in such profits” would clearly evince the intent of
Parliament that such receipts ought to have formed a part of the
profits and gains of business or profession as computed in
accordance with the provisions of Sections 28 to 44D. The
distinguishing aspect of Explanation baa is that the profits of the
business as computed under the head of profits and gains of
business or profession are subject to a reduction factor of ninety
per cent. The rationale for the exclusion which has been provided
for by Parliament in Explanation baa is that items which are
unrelated to export turnover have to be excluded in computing the
profits of business. Including items which are unrelated to export
turnover in computing the profits of business would result in a
distortion of the formula which is to be applied in construing the
provisions of Section 80HHC. The reason for exclusion, therefore,
is that in computing the profits of business items which are
unrelated to export turnover must be excluded because the basis of
Section 80HHC is to provide an incentive for export. The extent of
the exclusion which is statutorily mandated by Parliament is ninety
per cent of the total receipts. Though the entire quantum of
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29
receipts unrelated to export turnover would ordinarily have to be
excluded, the extent of the exclusion has been confined to ninety
per cent. This is because the expenditure which is incurred by the
assessee in earning these receipts would have gone into the
computation of the profits and gains of business or profession and
a distortion would be caused if the entirety of the income
generated from the receipts alone were to be excluded. It is in
order to obviate such a distortion that Parliament mandated that
ninety per cent of the receipts would be excluded. Consequently,
while the principle which has been laid down by the Supreme
Court in Distributors (Baroda) must illuminate the interpretation
of the words “included in such profits”, the Court cannot, at the
same time, be unmindful of the reduction which is postulated by
explanation baa, the extent of the reduction and the rationale for
effecting the reduction.
Decisions of the High Courts :
18. Several High Courts had occasion to deal with the
provisions of Section 80HHC including explanation baa. The
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30
Madras High Court considered the interpretation of Section 80HHC
in K.S.Subbiah Pillai & Co.(India) Pvt.Ltd. vs. CIT.5 The
questions of law which were referred to the High Court were as
follows :
“1. Whether on a true construction of the Explanation
(baa) to Section 80HHC of the Income-tax Act, 1961,
interest, rent and commission are to be deducted from
export profits or only net receipts, if any, after takinginto account the payments?
-2. Whether on a true construction of the Explanation
(baa) to section 80HHC of the Income-tax Act all the net
receipts by way of interest, rent and commission shouldbe aggregated before deduction and only the net
balance, if any, should be deducted from export profits?”
The High Court held that the second question of law did not arise
on the order of the Tribunal and only the first question was
required to be addressed. Dealing with the first question,
Mr.Justice R.Jayasimha Babu, speaking for the Division Bench held
as follows:
The clause does not refer to net interest. It refers, inter
alia, to the interest included in the profits and gains of
the business or profession. .. 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 of5 (2003) 260 ITR 304
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31prefix “the” to “profits” in clause (baa), while referring to
the profits and gains of business or profession makes itclear that it is only the amounts already included in that
computation which are now to be reduced to the extentof 90 per cent., if those items are included in sub-clause
(1) of that definition.”
The High Court held that interest paid and claimed as a deduction
in the computation of profits and gains for business could not be
set off against interest received and paid under income from other
sources. The judgment in Subbiah Pillai was followed by another
Division Bench in CIT vs. V.Chinnapandi.6 In the case before the
Madras High Court, the assessee had paid interest of Rs.9.24 lakhs
and had received interest of Rs.2.65 lakhs and the net interest of
Rs.6.59 lakhs came to be debited. The Assessing Officer held that
under Section 80HHC, ninety per cent of the receipts had to be
excluded and consequently the deduction was confined to ninety
per cent of the income of Rs.2.65 lakhs received on account of
interest. The order of the Assessing Officer was confirmed by the
Appellate Authority. The Income Tax Tribunal, however, held that
the net figure of interest was Rs.6.59 lakhs which was not a receipt
and hence, there was no question of removing any amount while
6 (2006) 282 ITR 389
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32
computing the deduction under Section 80HHC. The Division
Bench of the Madras High Court held that “on a plain reading of
the provision”, it was clear that what the provision stipulates is that
the profits of business would be the profits as computed under the
head of profits and gains of business or profession. While
computing such profits under the head of profits and gains of
business or profession, if any receipts by way of brokerage,
commission, interest, rent, charges or a receipt of a similar nature
was included in such profits that would have to be reduced by
ninety per cent from the profits so computed. The Division Bench
held that no reference to net interest is mentioned in Explanation
baa and what had to be seen is only the nature of the receipts as
contemplated by the clause. Once the receipt of interest was
known, ninety per cent of it would have to be reduced from the
profits without deducting any amount. The Division Bench held as
follows:
“No expenditure or any other deduction is permissible
from the receipt of interest income. Section 80HHC
stipulates a deduction in respect of export profits.
Instead of enjoining the Assessing Officer to compute
such export profits from out of the consolidated amount
of the assessee, which may involve income by way of
interest, rent, commission etc., the Legislature has::: Downloaded on – 09/06/2013 15:43:51 :::
33provided a simple procedure under which 90 per cent of
the receipts such as interest, rent, commission,brokerage, etc., shall be excluded as profits not
attributable to exports. The intention is, therefore, clearthat there should be no attempt to deduct any
expenditure from the receipts, however, related, such
expenditure may be to the receipts. It is in this view of
the matter that the expression “receipt by way of” hasbeen used in the section and not “income” of that
nature.”
The same view has been taken by a Division Bench of the Punjab
and Haryana High Court in Rani Paliwal vs. CIT.7 In that case,
the total interest received by the assessee during the relevant
Assessment Year was Rs.6.33 lakhs while the total interest paid was
Rs.4.12 lakhs. The Assessing Officer was of the view that ninety
per cent of the receipts on account of interest in the amount of Rs.
6.33 lakhs was liable to be deducted from the profits of the
business for the purposes of deduction under Section 80HHC. The
CIT (Appeals) however, took the view that the interest would have
to be netted. The Income Tax Appellate Tribunal, on appeal,
confirmed the view of the Assessing Officer by holding that ninety
per cent of the interest that was deductible for the claim under
Section 80HHC was from the gross interest received by the assessee
7 (2004) 268 ITR 220
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34
and that the amount of the interest paid by the assessee could not
be deducted therefrom. The Division Bench held that “a plain
reading of clause baa of Explanation to Section 80HHC .. makes
this aspect quite clear” and the Tribunal was right in disallowing
the claim of the assessee. A subsequent decision of the Punjab and
Haryana High Court in CIT vs. Liberty Footwears,8 also adopts
the same position.
19. Reliance is, however, sought to be placed on behalf of
the assessee upon the judgment of a Division Bench of the Delhi
High Court in CIT vs. Shri Ram Honda Power Equip.9 One of the
issues which came up for decision in the appeal was whether the
expression “interest” in Explanation baa connotes net interest as
gross income less expenditure incurred by the assessee for earning
such income. The Delhi High Court held that the judgment of the
Supreme Court in Distributors (Baroda) (supra) would fully cover
the question as to whether the deduction which is to be effected
under Explanation baa was of the entire interest received or of the
interest less the expenditure incurred by the assessee for earning
8 (2006) 287 ITR 279
9 (2007) 289 ITR 475
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35
such income. Observing that the words used in Section 80HHC
were similar to those in Section 80M, the Delhi High Court held
thus:
“The expression “by way of” which qualified the word
“income” in section 80M is similar to the words “receiptsby way of” occurring in the Explanation (baa) of section
80HHC of the Act. Further the words “included in such
profits” occurs in both the provisions. Just as in
Distributors (Baroda) [1985] 155 ITR 120 (SC) where itwas explained by the Hon’ble Supreme Court that the
words “such” profits can only be understood as“computed in accordance with the provisions of the Act”,
we are of the view that similar words in clause (baa)
should partake of the same meaning. Applying the ratioof Distributors (Baroda) [1985] 155 ITR 120 (SC), we
hold that the legislative intent in using the word
“interest” in clause (baa) to the Explanation in section
80HHC is indicative of “net interest”, i.e., gross interestless the expenditure incurred by the assessee in earning
such interest.”
The Delhi High Court was of the view that where the plain or
literal interpretation of a statute would produce an unintended or
absurd result, the literal construction should not be adopted.
According to the Delhi High Court, the words “included any such
profits” was a clear pointer to the fact that only net interest would
be includible in arriving at the business profit. The Delhi High
Court also held that unless netting were to be permitted, it would
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36
not be in ‘sync’ with the entire section. The contention of the
assessee was that if the deduction of ninety per cent is of gross
interest itself, the amounts spent in earning such interest will
remain on the debit side of the profit and loss account and will
depress the profits to that extent. This submission was accepted
with the observation that the idea of Section 80HHC was to ensure
that the exporter gets benefit from the profits derived from export
and not to depress the profits further. Hence, according to the
High Court, it can only be net interest which can be included in
the profits and if netting were not to be permitted, the result
would be that the profits of the exporter would be depressed by an
item that is expenditure incurred on earning interest which does
not form part of the profits at all.
20. Having given a careful consideration to the judgment of
the Delhi High Court, we are not inclined to follow the view for a
number of reasons. The substratum of the judgment of the
Delhi High Court proceeds on the basis that the question as to
whether netting should be permissible stands concluded by the
judgment of the Supreme Court in Distributors (Baroda). In
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37
Distributors (Baroda), while considering the provisions of Section
80M, the Supreme Court interpreted the words “where the gross
total income of the assessee being a company included any income
by way of dividend received” and the words which provided that in
computing the total income of the assessee “a deduction from such
income by way of dividend” shall be allowed to the extent specified
in the provision. While applying the ratio of the judgment in
Distributors (Baroda), we have observed that the expression
“receipts of a similar nature included in such profits” in
Explanation baa to Section 80HHC must refer to receipts which
form a part of the computation under the head of profits and gains
of business or profession under Sections 28 to 44D of the Income
Tax Act, 1961. The expression “such profits” therefore, following
the rationale in Distributors Baroda, must refer to the
computation of profits and gains of business or profession in
accordance with the aforesaid provisions of the Act. But, the
similarity between the provisions of Sections 80HHC and 80M
which is relied upon in the judgment of the Delhi High Court
would miss the comprehensive position as it obtains under Section
80HHC. The similarity of the provisions should not result into an
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38
assumption that the provisions are identical, when they are not.
Section 80 HHC is a provision which is intended to provide an
incentive for export. Parliament, therefore, expressed a legislative
intent to exclude items which were unrelated to export turnover
from the computation of the deduction and the application of the
formula. While excluding such items which are unrelated to
export for the purposes of Section 80HHC, Parliament has taken
due note of the fact that the exporter assessee would have incurred
some expenditure in earning the receipts. The expenditure would
have gone into the computation of profits and gains of business or
profession since the computation of business profits under
Chapter IV of the Act is made by amalgamating the receipts as well
as expenditure incurred in carrying on the business. Parliament,
however, legislated that in order to remove a cause for distortion,
the reduction to be effected of receipts such as brokerage,
commission, and interest should be confined to ninety per cent of
those receipts. In providing a simplified formula in these terms,
Parliament evidently adopted a fair and reasonable statutory basis
of what may be regarded as expenditure incurred for the earning of
the receipts. Once Parliament has legislated both in regard to the
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39
nature of the exclusion and the extent of the exclusion, it would
not be open to the Court to order otherwise by rewriting the
legislative provision. The task of interpretation is to find out the
true intent of a legislative provision. Undoubtedly, in dealing with
a provision by way of an incentive, the Court must adopt a broad
and liberal interpretation which would advance the purpose. While
doing so, the Court is duty bound to iron out the creases but, it is
clearly not open to the Court to legislate by substituting a formula
or provision other than what has been legislated by Parliament.
The Delhi High Court, with respect, has not adequately emphasised
the entire rationale for confining the deduction only to the extent
of ninety per cent of the excludible receipts. While the judgment of
the Delhi High Court referred to the C.B.D.T. Circular dated 19
December 1991, as noted earlier, we have also adverted to the
Memorandum explaining the clauses of the Finance Bill of 1991.
The Memorandum can be relied upon as a legitimate instrument of
statutory interpretation and to shed light upon the provisions of
Explanation baa.
21. Before concluding, it would be necessary to note that the
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40
Delhi High Court affirmed the judgment of a Special Bench of
Income Tax Appellate Tribunal in the case of Lalsons. The
Tribunal in the course of its decision, adverted to the deduction of
ten per cent allowed by Parliament in Explanation baa while
legislating that only ninety per cent of the receipts unrelated to
export turnover would be excluded from the profits of business.
The Tribunal, observed that the allowance of ten per cent had
been made by Parliament only for meeting common expenses,
according to Circular 621 dated 19 December 1991 of the C.B.D.T.
In Lalsons, the Tribunal observed that in addition to such common
expenses, there may be other expenses which have a direct bearing
on excludible receipts. The Tribunal held that if such receipts were
to be taken out of the business profits on the footing that they had
no connection with the business profits or turnover, it would only
be reasonable to hold that expenditure having nexus with such
receipts should also be taken out of the business profits on the
same footing. The Tribunal noted that the use of the word
“receipts” would not refer to gross receipts because the legislature
had not used the words “gross” nor “net”. We are affirmatively of
the view that in its discussion on the issue of netting, the Tribunal
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41
in its Special Bench decision in Lalsons has transgressed the
limitations on the exercise of judicial power. The Tribunal has in
effect, legislated by providing a deduction on the ground of
expenses other than in the terms which have been allowed by
Parliament. That is impermissible. In the present case, it is
necessary to emphasize that the question before the Court relates
to the deduction under Section 80HHC. An assessee may well be
entitled to a deduction in respect of the expenditure laid out wholly
and exclusively for the purpose of business in the computation of
the profits and gains of business or profession. However, for the
purposes of computing the deduction under Section 80HHC, the
provisions which have been enacted by Parliament would have to
be complied. A deduction in excess of what is mandated by
Parliament cannot be allowed on the theory that it is an incentive
provision intended to encourage export. The extent of the
deduction and the conditions subject to which the deduction
should be granted, are matters for Parliament to legislate upon.
Parliament having legislated, it would not be open to the Court to
deviate from the provisions which have been enacted in Section
80HHC.
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22. In the circumstances, we allow the appeal by holding
that the Tribunal was not justified in coming to the conclusion that
the net interest on fixed deposits in the Bank received by the
assessee should be considered for the purposes of working out the
deduction under Section 80HHC and not the gross interest. The
question of law would accordingly stand answered in the aforesaid
terms in favour of the Revenue and against the assessee. There
shall be no order as to costs.
( Dr.D.Y.Chandrachud, J.)
( J.P.Devadhar, J.)
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