The Hindu Business Line : By indirections find out directions

It is enacted in the laws of Venice, Portia informs Shylock in The Merchant of Venice, that if it be proved against an alien that by direct or indirect attempts he seeks the life of any citizen, “the party ‘gainst the which he doth contrive shall seize one half his goods; the other half comes to the privy coffer of the state; and the offender’s life lies in the mercy of the duke only, ‘gainst all other voice.”

While one may wonder if taxes too aren’t similarly seizing in nature, this story is about how the taxman made direct attempts to fight, right at the apex court, on an ‘indirect’ issue.

Hero Exports, Ludhiana, had filed its returns computing export profits, net of expenses both direct and indirect. The taxman took the view that the profits were overstated, owing to a lower amount of indirect expenses.

“Why should poor beauty indirectly seek roses of shadow, since his rose is true? Why should he live, now nature bankrupt is, beggar’d of blood to blush through lively veins?” sings the Bard, in a sonnet. Why would an assessee show a higher profit, you may ask?

The doubt is valid in normal situations, but not when we are dealing with export sops, as in the current case involving Section 80HHC of the Income-Tax Act, 1961. “Smaller the figure of direct and indirect costs, the larger is the profits derived from the export and, consequently, larger is the deduction under Section 80HHC,” as it stood at the relevant time, explains the text of the Supreme Court judgment dated November 20.

The text has an easy-to-understand example, with assumed figures (see table). In simple, the data show that FOB (free on board) value of exports is Rs 6,50,000, and direct cost, Rs 5,00,000, and ‘proportionate’ indirect costs, Rs 34,000.

Elementary arithmetic show the export profit to be Rs 1,16,000, but the Department questioned the ‘proportionate’ treatment and slapped the entire indirect costs of Rs 50,000 in the working, to arrive at a profit of Rs 1,00,000.

Only indirect costs that are “attributable to such export” can be deducted from export turnover, argued Hero Exports’ counsel, S. Ganesh. There were two incomes, namely, incentives income and income from export sales, while there was one common pool of expenses, he explained. “Every receipt has a corresponding expense,” urged Ganesh.

In response, Vikas Singh, Additional Solicitor-General, arguing for the Department, said that the ratio for allocation of costs between export turnover and total turnover applied only in cases where the taxpayer is engaged in the business of exports and also in the business of making domestic sales.

“There is no justification for excluding indirect costs, if any, incurred for earning export incentives, commission, etc.,” he added.

“The assessee in the present case is a 100 per cent exporter and, therefore, the entire expenses, both direct and indirect, can be only in respect of export turnover.”

After studying the definitions in the Act, and listening to the arguments, Justices S. H. Kapadia and B. Sudershan Reddy of the Supreme Court observed that it was not the case of the Department that the assessee could have earned Rs 1,60,000 without incurring any expenditure.

Yet the Department was denying the proportionate deduction from Rs 50,000 on account of strict interpretation of the words ‘indirect cost’.

The above stand of the Department is a fallacy, said the court. “The Department has failed to notice the words ‘attributable to exports’.” The word ‘attributable’ indicates apportionment.

If allocation of expenses were to be done on actual basis, it would not only be very difficult but in some cases actual apportionment may not be in the interest even of the Department, cautions the text of the judgment.

“The concept of allocation is meant to reduce the incentive. However, when ‘allocation’ has to be balanced with the ‘principle of attribution’, the object is to reduce the incentive and not to eliminate it.”

A direct message for the taxman. As much as from Isabella, in Measure For Measure: ‘To speak so indirectly I am loath: I would say the truth.’ Or, more philosophically, “By indirections find directions out,” as Lord Polonius says in Hamlet.

Tailpiece

“I gave an iPod to the officer…”

“What did he say?”

“uGo!”

D. MURALI

http://Detaxification.blogspot.com

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