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Tax Publishers Tamil Nadu State Marketing Corporation Ltd. v. UOI & Ors. [CA No. 3821 of 2020 (Arising from SLP (Civil) No. 10613/2020), dt. 25-11-2020] : 2020 TaxPub(DT) 4997 (SC) Ultra vires of section 40(a)(iib) before High Court *Facts:* Assessee a state owned marketing federation having exclusive licence to distribute liquor products was disallowed VAT/licence on liquor which was paid by the assessee. The claim of the assessee that what was a genuine business expense was being disallowed vide section 40(a)(iib) thus was violative of Article 14, 19 and 265 of the Constitution of India. The disallowance of the department was first challenged by means of a writ which was remanded to the assessing officer for fresh consideration. Based on this remand the High Court dismissed a second writ filed by the assessee where in the ultra vires of section 40(a)(iib) was claimed. On higher appeal by the assessee on the dismissal of the writ to the Apex Court. Held in favour of the assessee that the High Court cannot simply dismiss the writ citing that the case is sub-judice without hearing the ultra vires issue raised by the assessee. The Madras High Court was ordered to rehear the remanded case on ultra vires of the said section. *Editorial Note:* Reference be also made to the enclosed verdict of Odisha State Beverage Corpn. Ltd. v ACIT [ITA No. 03/CTK/2019, A.Y. 2015-16, dt. 23-11-2020] : 2020 TaxPub(DT) 4961 (Ctk-Trib) where in the purpose of section 40(a)(iib) was discussed. Unfortunately, the case went against the assessee basing its earlier year verdict. The issue of ultra vires of this section is certainly a new development worth noting. Section 40(a)(iib), as explicitly revealed from memorandum and Explanatory Notes to Finance Act, 2013, is to curb tax avoidance practices in the form of appropriation of surplus by state government undertaking to the State Government. The relevant extract of the Memorandum in this regard is produced below for sake of ready reference :-- "Disallowance of certain fee, charge, etc. in the case of State Government Undertakings. The existing provisions of section 40 specifies the amounts which shall not be deducted in computing the income chargeable under the head "Profits and gains of business or profession", The nondeductible expense under the said section also includes statutory dues like fringe benefit tax, income-tax, wealth-tax, etc. Disputes have arisen in respect of income-tax assessment of some State Government undertakings as to whether any sum paid by way of privilege fee, license fee, royalty, etc. levied or charged by the State Government exclusively on its undertakings are deductible or not for the purposes of computation of income of such undertakings. In some cases, orders have been issued to the effect that surplus arising to such undertakings shall vest with the State Government. As a result it has been claimed that such income by way of surplus is not subject to tax. It is a settled law that State Government undertakings are separate legal entities than the State and are liable to income-tax. In order to protect the tax base of State Government undertakings vis-a-vis exclusive levy of fee, charge, etc. or appropriation of amount by the State Governments from its undertakings, it is proposed to amend section 40 of the Income-tax Act to provide that any amount paid by way of fee, charge, etc., which is levied exclusively on, or any amount appropriated, directly or indirectly, from a State Government undertaking, by the State Government, shall not be allowed as deduction for the purposes of computation of income of such undertakings under the head "Profits and gains of business or profession". It is also proposed to define the expression "State Government Undertaking" for this purpose. This amendment will take effect from 1-4-2014 and will, accordingly, apply in relation to the assessment year 2014-15 and subsequent assessment years." 9. Thus, the intention is to curb tax avoidance practice. The intention is not to disallow the licensee fees, which is payable to be able to carry on the business of liquor trade, which the State Government has the power to levy under Entry No. 8, 51 and 66 of List II of Schedule VII of the Constitution of India. Accordingly, unless the intention behind making payment of license fee is proved to be a diversion of surplus for avoidance of tax base of the assessee, the disallowance under section 40(a)(iib) should not be attracted".

Tax Publishers

Tamil Nadu State Marketing Corporation Ltd. v. UOI & Ors. [CA No. 3821 of 2020 (Arising from SLP (Civil) No. 10613/2020), dt. 25-11-2020] : 2020 TaxPub(DT) 4997 (SC)

Ultra vires of section 40(a)(iib) before High Court

Facts:

Assessee a state owned marketing federation having exclusive licence to distribute liquor products was disallowed VAT/licence on liquor which was paid by the assessee. The claim of the assessee that what was a genuine business expense was being disallowed vide section 40(a)(iib) thus was violative of Article 14, 19 and 265 of the Constitution of India. The disallowance of the department was first challenged by means of a writ which was remanded to the assessing officer for fresh consideration. Based on this remand the High Court dismissed a second writ filed by the assessee where in the ultra vires of section 40(a)(iib) was claimed. On higher appeal by the assessee on the dismissal of the writ to the Apex Court.

Held in favour of the assessee that the High Court cannot simply dismiss the writ citing that the case is sub-judice without hearing the ultra vires issue raised by the assessee. The Madras High Court was ordered to rehear the remanded case on ultra vires of the said section.

Editorial Note: Reference be also made to the enclosed verdict of Odisha State Beverage Corpn. Ltd. v ACIT [ITA No. 03/CTK/2019, A.Y. 2015-16, dt. 23-11-2020] : 2020 TaxPub(DT) 4961 (Ctk-Trib) where in the purpose of section 40(a)(iib) was discussed. Unfortunately, the case went against the assessee basing its earlier year verdict. The issue of ultra vires of this section is certainly a new development worth noting.

Section 40(a)(iib), as explicitly revealed from memorandum and Explanatory Notes to Finance Act, 2013, is to curb tax avoidance practices in the form of appropriation of surplus by state government undertaking to the State Government. The relevant extract of the Memorandum in this regard is produced below for sake of ready reference :--

"Disallowance of certain fee, charge, etc. in the case of State Government Undertakings. The existing provisions of section 40 specifies the amounts which shall not be deducted in computing the income chargeable under the head "Profits and gains of business or profession", The nondeductible expense under the said section also includes statutory dues like fringe benefit tax, income-tax, wealth-tax, etc. Disputes have arisen in respect of income-tax assessment of some State Government undertakings as to whether any sum paid by way of privilege fee, license fee, royalty, etc. levied or charged by the State Government exclusively on its undertakings are deductible or not for the purposes of computation of income of such undertakings. In some cases, orders have been issued to the effect that surplus arising to such undertakings shall vest with the State Government. As a result it has been claimed that such income by way of surplus is not subject to tax. It is a settled law that State Government undertakings are separate legal entities than the State and are liable to income-tax. In order to protect the tax base of State Government undertakings vis-a-vis exclusive levy of fee, charge, etc. or appropriation of amount by the State Governments from its undertakings, it is proposed to amend section 40 of the Income-tax Act to provide that any amount paid by way of fee, charge, etc., which is levied exclusively on, or any amount appropriated, directly or indirectly, from a State Government undertaking, by the State Government, shall not be allowed as deduction for the purposes of computation of income of such undertakings under the head "Profits and gains of business or profession". It is also proposed to define the expression "State Government Undertaking" for this purpose. This amendment will take effect from 1-4-2014 and will, accordingly, apply in relation to the assessment year 2014-15 and subsequent assessment years."

9. Thus, the intention is to curb tax avoidance practice. The intention is not to disallow the licensee fees, which is payable to be able to carry on the business of liquor trade, which the State Government has the power to levy under Entry No. 8, 51 and 66 of List II of Schedule VII of the Constitution of India. Accordingly, unless the intention behind making payment of license fee is proved to be a diversion of surplus for avoidance of tax base of the assessee, the disallowance under section 40(a)(iib) should not be attracted".