Disallowance u/s 40(a)(I) of the Income Tax Act is not Applicable as per DTAA between India and Japan: Delhi HC rules in Favour of Mitsubishi Corp India [Read Order]

In a ruling in favour of Mitsubishi Corporation India P Ltd, the Delhi High Court held that disallowance under section 40(a)(i) of the Income Tax Act, 1961 is not applicable in view of the provision of Double Taxation Avoidance Agreements (DTAAs) entered into by India with Japan and the USA. The appellant/revenue challenged the order passed by the Income Tax Appellate Tribunal which was ruled in Favour of Mitsubishi Corp India, the assessee. The question was whether the ITAT fell into error in holding that Section 40(a)(i) of the Income Tax Act, 1961 cannot be applied in view of the provisions of the Double Tax Avoidance Agreement between the Indian (sic) and Japan and India and the US. Since there was a difference of opinion between the judges who comprised the division bench concerning the answers to the questions of law framed on 29.04.2014, the matter was referred to a third bench. The division bench stated the points of law on which they had differed while rendering their respective decisions on 17.11.2017. The respondent/assessee in the AY in issue entered into transactions with certain group companies, reference to whom is made hereafter. Qua the transactions executed between the respondent/assessee and its group companies, remittances were made. However, the respondent/assessee made remittances without deducting tax at source . The Assessing Officer (AO) took umbrage and disallowed the deductions claimed by the respondent/assessee. The AO ordered the disallowance under Section 40(a)(i) of the Income Tax Act, 1961 . Thus, in effect, on account of disallowances made by the AO under Section 40(a)(i) of the Act, Rs.97,89,54,176/- was added to the income of the respondent/assessee. Addition was also made on account of an adjustment of Arm’s Length Price (ALP) by the Transfer Pricing Officer (TPO), an aspect which, concededly, does not form the subject matter of the instant appeal. The record shows that the Tribunal remitted the case to the AO for reconsideration regarding the ALP issue. The AO had ordered disallowances qua payments made by the respondent/assessee concerning purchases from its seven (07) group companies. The disallowance of the expenditure incurred for purchases made was triggered as TAS had not been deducted by the respondent/assessee. The AO took recourse to the provisions of Section 40(a)(i) of the Act. Insofar as the income received by the respondent/assessee against services rendered by it for acting as an intermediary between the ultimate customer and the group companies was concerned, that was subjected to transfer pricing adjustment. This aspect is not the subject matter of the instant appeal. The Tribunal has, in fact, remitted this issue to the TPO/AO for fresh consideration. Thus, although parity had been brought about with regard to the power of the AO to deny deduction where TAS was not deducted against payments made outside India or to non-residents and residents, it was limited to certain payments. As is evident upon perusal of Clause (ia) of Section 40(a), it did not bring payments made towards purchases to resident vendors within its net. Therefore, the respondent/assessee argued that even after the amendment in Section 40(a) w.e.f. 01.04.2005, unequal treatment, i.e., discrimination, obtained with regard to payments made against purchases to resident vendors. The expenditure incurred on payments made to resident-vendors against purchases could thus, be taken into account while computing income chargeable under the head “profits and gains of business or profession”. This disparity was removed by FA 2014, albeit w.e.f. from 01.04.2015, when the ambit of disallowance was enlarged by bringing any sum payable to a resident within the four corners of Clause (ia) of Section 40(a). Since the period in issue is AY 2006-07, the amendment brought about in Section 40(a) by virtue of FA 2014 would have no relevance. The equal treatment or the non-discrimination Clause obtaining in Articles 24(3) and 26(3) of the India-Japan/India-USA DTAAs would apply with regard to the payment for purchases made by the respondent/assessee concerning the following five companies: MC (Japan); Metal One Corporation (Japan); Tubular (USA); Petro (Japan) and Miteni (Japan) The Court observed that it was not obliged to deduct TAS from payments made to MC Metal (Thailand) and Metal One (Singapore). Chargeability to tax is the paramount condition for triggering the obligation to deduct TAS. The plain language of sub-section (1) of Section 195 brings this aspect of the matter to the fore. Justice Rajiv Shakdher observed that “A person paying interest or any other sum to a nonresident is not liable to deduct tax if such sum is not chargeable to tax under the Income-tax Act. For instance, where there is no obligation on the part of the payer and no right to receive the sum by the recipient and that the payment does not arise out of any contract or obligation between the payer and the recipient but is made voluntarily, such payments cannot be regarded as income under the Income-tax Act.” Support our journalism by subscribing to Taxscan premium. Follow us on Telegram for quick updates