- Whether when assessee remits commission fees to foreign agents for procuring export orders under UN-sanctioned 'Oil for Food Program', any disallowance of such expenditure can be made on alleged ground that such payments were illegal kickbacks

: THE issue before the Bench is - Whether when the assessee remits commission fees to foreign agents for procuring export orders under the UN-sanctioned 'Oil for Food Program', any disallowance of such expenditure can be made on the alleged ground that such payments were illegal kickbacks. NO is the Tribunal's answer.

Facts of the case

Assessee is engaged in the business of manufacturing, processing and exports of rice and tea. Assessee exported tea to Iraq under the ‘Oil for Food Program’, as sanctioned by the United Nations. Iraq was allowed to sell a limited specified quantity of oil, and sale proceeds of the oil were to be deposited in an escrow account, out of which a major portion of the sale proceeds could be used by Iraq for meeting its purchases of goods on humanitarian grounds. Assessment was reopened on the ground that the commission to agent ‘A’ and ‘G’ were illegal payments in the nature of kick backs, which were ultimately received by the Iraqi Authorities as per a Committee report and as the amounts paid by the assessee were illegal and prohibited by the law of the land, the same could not be allowed as expenses under the Act.

CIT (A) deleted the disallowance in view of the decision of the ITAT in the case of TIL Ltd. Vs. ACIT on similar issue observing that commission was paid through the banking channels of RBI approval and it was paid pursuant to an agreement approved by the Government of India and the UN. The payment of commission was for business consideration and there was apparently no illegality in making payment of commission.

After hearing both the parties, the ITAT held that,

++ merely because the report states that the amount paid to ‘A’ were actually kickbacks to Iraqi regime, that fact per se would not render the expenditure so incurred, if otherwise deductible, as non-deductible in computation of business income, unless these payments are hit by some other disabling provisions of the Income Tax Act. Explanation to Section 37(1), which qualifies this general deduction, provides that, for the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure. It follows that any payment, which is prohibited by law, is not an admissible deduction under the scheme of the Act;

++ as far as the assessee is concerned, what is really important is the purpose for which the assessee has made the payment. The purpose for which the assessee has made the payment is evident from the appointment letter of agent. ‘A’ has confirmed that they will do all such activity on behalf of the assessee, from procurement of order to final realization of export proceeds on a fee to be charged against each export bill as raised by the assessee” and that “the fees will be mutually decided and shall not be more than 10% of the order value”. ‘A’ was a Jordanian company and therefore, the transactions between the assessee and ‘A’ were not hit by any UN sanctions either. Revenue has not pointed out any specific violation of law beyond alleging that these payments were actually kickbacks for Iraqi regime, but then so far as the character of these payments being kickback is concerned, that was between ‘A’ and Iraqi regime and these were the transactions between ‘A’ and Iraqi regime which could be termed as illegal and in violation of UN sanctions;

++ in order to invoke Explanation to Section 37(1), it is necessary that the assessee’s payment should be for a purpose which is an offence or which is prohibited by law. What the recipient of this payment does is hardly important from this perspective. The illegality has supervened at the stage at which the ‘A’ has paid the money to Iraqi regime in violation of UN sanctions against Iraq, but that that is the stage at which assessee has no control over the matter. It is not even a finding by the Committee that the exporters making payments for the ‘inland transportation fees’ or ‘after sales service’ always knew that the monies will be used for the purposes of kickbacks to the Iraqi regime;

++ the onus of demonstrating that the case of an assessee falls in a category that the person who were all along aware that the payments as after sales service fee and inland transportation fees are in the nature of kickbacks and they were thus willing parties to these illegal gratifications, is on the AO which had not been discharged at all. When the payment is made for the purposes of illegal kickbacks, these payments invite disqualification under Explanation to Section 37(1), but when the assessee makes the payments for bonafide business purposes and such payments end up being used as illegal kickbacks, Explanation to Section 37(1) will not be attracted;

++ as for the position that the payment was highly excessive vis-à-vis the local costs, even if that be so, that aspect of the matter does not affect the deductibility in the hands of the assessee either. The assessee is concerned with commercial expediency of the said payment and not with what are the actual costs incurred in rendering the services for which the payment is made. Thus, the disallowance is to be deleted.