Commission paid to directors’ relatives is disallowed without them having expertise : Orissa High Court
Fact and Issue of the case
The assessee is engaged in the business of manufacturing and sale of P.P. woven sacks meant for packing fertilizer and cement etc. The assessee filed its return of income for the AY in question on 10th September, 2010 declaring a total income of Rs.1,47,09,311/-. The return was picked up for scrutiny and the statutory notice was sent along with a questionnaire to the Appellant by the Assessing Officer (AO).
While examining the claims of the Appellant, the AO raised a query regarding payment of commission to the tune of Rs.53,49,790/- and asked the Appellant to justify it. The explanation offered by the assessee was that it had obtained an export order for supply of Iron Ore Fines (IOF). The supply was time bound and had to be made within a short span of time. Since the materials could not be gathered by the Directors of the Company themselves, they engaged their relatives for procurement of quality Iron Ore Fines. For this, commission was paid to each of them. It was claimed that the commission was entirely paid through banking channels after deducting Tax at Source (TDS). Each of the commission agents had disclosed the said commission amount in their respective returns and paid tax thereon. It was accordingly claimed that no adverse inference should be drawn against the Appellant. In the assessment order dated 8th March 2013, the AO partly allowed the commission expenses to the tune of Rs.23,41,245/- and disallowed Rs.30,08,545/- which was then added to the returned income of the Appellant.
The assessee then went in appeal before the Commissioner of Income Tax (Appeals) [CIT(A)]. By an order dated 20th October 2014, CIT (A) dismissed the appeal. It was observed that the persons to whom the commission was paid were Directors of the appellant or the relatives of such Directors. The letters of confirmation from them could easily be collected and therefore, was not accepted by the CIT (A). Thereafter, the Appellant went before the ITAT, which perused in great detail the actual payments of commission made. It was noted that the gross turnover of the Assessee was Rs.5278.63 lakhs and, therefore, the commission paid worked out to 1.35% thereof. It is further noticed that before the CIT(A), the Appellant had admitted that of the 7 individuals to whom the commission had been paid, 3 were Directors of the Company and 4 were relatives of the Directors. The Appellant had failed to bring on record their expertise to render services and also what services had in fact been rendered to enhance the business of the Appellant. Merely because TDS had been deducted, would not justify allowing the entire amount as claimed towards commission. Accordingly, the appeal was dismissed.
Observation of the court
The court has considered the above submission. At the outset, it requires to be noticed that the supply of IOF was not the line of business of the Appellant. It was no doubt required to make the supply, pursuant to an export order, in a short span of time. Nevertheless, claiming that each of the seven persons to whom the commission was paid actually had the expertise to help the Appellant procuring the IOF from different sources appears to be stretching things a bit too far. It is not a sheer coincidence that three of the seven persons to whom commission was paid happened to be Directors of the Appellant and the remaining four were relatives of such Directors. Particularly, with the Appellant not being able to demonstrate their special expertise in procuring IOF from the markets in India, the AO appears to be justified in disallowing the commission insofar as it was paid to the said seven persons. The AO has been objective on the issue. It is not as if the entire amount claimed by the Assessee as payment towards commission was disallowed. Of the sum of Rs.53,49,790/- claimed, the AO in fact allowed the payment of a commission of Rs.23,41,245/- to two entities.
The decision in J.K. Woollen Manufacturing (supra) appears to have turned on its own facts. The question there was the test of commercial expediency. In other words, whether the payment made to the General Manager of the company as commission was an expenditure wholly and exclusively for the purpose of the business? It was concluded that the reasonableness of the expenditure had to be adjudged from the point of view of the businessman and not the Income Tax Department. In the circumstances, the entire amount paid to the General Manager as commission was allowed as expenditure.
In the present case, all the persons to whom commission was paid were either Directors of the Company or their relatives. None of them is shown to have any expertise in procuring IOF from the Indian markets for enabling the Appellant to meet the purchase order placed on it for IOF. The amounts paid as commission were also not insubstantial. In the facts of the case, it cannot be said that the AO’s decision to disallow part of the payment towards commission was unreasonably arrived at. The test of commercial expediency was indeed applied. Even from the point of view of a businessman, it does appear to this Court that the commission amount which was disallowed by the AO cannot be said to be for the purpose of business of the Appellant.
The Court ruled in favour of the Department and against the Assessee, stating that the commission was paid were either Directors of the Company or their relatives and none of them is were having any expertise in procuring IOF from the Indian markets, also the amounts paid as commission were also not insubstantial.