FAQ on Tax Audit

General issues

Is it correct to say that Tax Auditor of non-corporate entities appointed under section 44AB is not responsible for detecting frauds committed by employees?

In Frankston and Hastings Corporation v. Cohen [1960] 102 C.L.R. 607, Fullagar J of the High Court of Australia held as under:

 ♦  "The main objects of any audit are : (a) To certify to the correctness of the financial position as to shown in the Balance sheet, and the accompanying revenue statements, (b) The detection of errors, (c) The detection of fraud.

 ♦  The detection of fraud is generally regarded as being of primary importance.

 ♦  A regular audit is one generally accepted means for preventing and discovering frauds by

employees

.

 ♦  When the Act says that the auditor shall audit the accounts, it is just as much concerned with protecting the municipality and the council from fraud."

In view of the above, it cannot be said that tax auditor owes no duty to detect frauds committed by employees. His duty in this regard shall as per the Standards of Auditing issued by ICAI.

■  Tax Audit not an investigation.  ■  Availability of audit report no fetter on AO's powers of scrutiny & disallowances.  ■  Tax Audit u/s 44AB is "audit of accounts" and not audit of books of account.  ■  Assessee not exempted from tax audit if he maintains no books of account.  ■  Tax audit is audit in respect of accounts pertaining to business income only.

Is Tax Audit under section 44AB an investigation?

The Supreme Court pointed out in Sahara India (Firm) v. CIT [2008] 169 Taxman 328 that tax audit under section 44AB is not an investigation unlike audit under section 142(2A).

Does tax audit under section 44AB provide immunity from scrutiny assessment/disallowances by AO?

In Goodyear India Ltd. v. CIT [2000] 112 Taxman 419, the Delhi High Court held that, availability of an audit report is no fetter on the power of the ITO to require the assessee to justify its claim with reference to records, materials and evidence. Such a power is inherent in an Assessing Officer in the scheme of the Act.

Can Tax Audit under section 44AB be conducted when client maintains no books of account?

In S.J. Agarwal & Co. v. ITO, Pune [2008] 114 ITD 27 (Pune) (SMC), it was held:

 ♦  In section 44AB reference is made to the word "accounts" and not to the words "books of account" or "regular books of account".

 ♦  The requirement under section 44AB is to get the "accounts audited".

 ♦  Whatever records or documents where the entries (i) dealing with the revenue and expenditure; (ii) giving details of assets and liabilities; and (iii) recording the details of creditors and debtors, are made, in whatever mode or form or manner, that would come within the term "accounts".

 ♦  It is altogether a different matter that any person maintaining only accounts may not maintain the same so accurately or precisely. Still, the accounts whatsoever maintained by him way nonetheless be considered to be the "accounts" of his business or profession for the purpose of section 44AB of the Act.

 ♦  In the audit report in Form No. 3CB, the auditor is competent enough to give his qualification report that whether, in his opinion, the proper books of account were kept by the assessee so far as it appears from his examination of the books. In case where no proper books or regular of accounts are maintained by the assessee but some accounts or books of account are maintained, the auditors would be in a position to give a qualifying report to be given under section 44AB of the Act.

 ♦  Thus, for the purpose of section 44AB, it is not necessary that any books of account or any accounts maintained by the assessee should at first be such books of account as required under section 44AA of the Act."

Therefore, any records or books or documents whatsoever and in whatever manner or system are maintained or kept by any assessee in respect of revenue and expenditure, assets and capital and/or creditors and debtors of his business or profession are required to be got audited by an accountant and a report should be obtained by the specified date if section 44AB is applicable. Non-maintenance of books of account is no excuse for non-compliance with section 44AB so long as the assessee maintains some kind of "accounts".

Whether an individual who has income from different sources including income from business/profession is bound to have his income from sources other than the business/profession audited under section 44AB of the Act?

In Ghai Construction v. State of Maharashtra [2009] 184 Taxman 52 (Bom.), the Court dealt with this question as under:

 ♦  The Court held that "The language of section 44AB is clear. The requirement of compulsory audit is only in respect of the business carried on by the person and not in respect of his income from other sources."

 ♦  The Court also drew support for the above interpretation from Form No. 3CB. Clause 3(b)(B) of Form No. 3CB requires the Accountant "to state that in his opinion proper books of account have been kept by the head office and the branches of the assessee. It does not require the accountant to opine regarding the other records of the assessee." Therefore, from Form No. 3CB, it is clear that "the audit report is required only in respect of the books of account pertaining to the business".

Who can be appointed as tax auditor

If the accounts of a co-operative society have been audited by a person other than an accountant (i.e. a CA) under the relevant law, will the tax audit under section 44AB l have to be conducted by an 'accountant' (CA) as defined in section 44AB? Or it can be conducted by auditor appointed under relevant law who is not an 'accountant'?

After the amendment of section 44AB by the Finance Act, 2001, tax audit under section 44AB can be conducted by an 'accountant' only. Therefore, in the instant case, Form No. 3CD should be got certified by an 'accountant'(CA). The auditor appointed under the relevant law who is not a CA is not eligible to certify Form No. 3CD. [Para 9.1 of ICAI's Guidance Note on Tax Audit under section 44AB of the Income-tax Act, 1961 (Revised 2005 edition) hereinafter referred to as to "ICAI's Guidance Note on Tax Audit"]

■  Form No. 3CD cannot be signed by auditor appointed for co-operative societies under relevant law if he is not a CA.  ■  Form No. 3CD to be signed by CA only even in cases of co-operative societies.  ■  Tax Auditor must be CA in full-time practice.  ■  CA or firm of CAs appointed as tax consultants can be tax auditors.  ■  Internal Auditor cannot be tax auditor and vice-versa.  ■  CA cannot accept more than 45 tax audits assignments in any financial year.  ■  CA firms cannot accept more than 45 tax audits per partner in full-time practice & not in part-time/full-time employment elsewhere.

Can tax audit be conducted by an employee of assessee-client?

In Sahara India (Firm) (supra) the Supreme Court held that "An auditor is a professional person. He has to function independently. He is not an employee of the assessee."

Is it necessary that tax auditor shall be a CA in full-time practice?

The tax auditor should be a CA in full time practice. At its 242nd meeting, the Council of ICAI has decided that any member in part-time practice (i.e. a member who is holding certificate of practice and also engaged in any other business/occupation) shall not be entitled to perform attest functions including tax audit. Therefore, a CA in part-time practice cannot be appointed as tax auditor under section 44AB. [Para 9.3 of ICAI's Guidance Note on Tax Audit.]

Whether a CA or firm of CAs appointed as tax consultants can conduct tax audit?

A CA/firm of CAs who are appointed as tax consultants may be appointed as tax auditor under section 44AB. [Para 9.13 of ICAI's Guidance Note on Tax Audit]

Can a CA or CA firm who is internal auditor of assessee can also be tax auditor?

No. The Council in its 281st meeting held from 3rd to 5th October, 2008 decided that an internal auditor of an assessee, whether working with the organization or an independently practicing Chartered Accountant being an individual chartered accountants or a firm of chartered accountants, could not be appointed as his tax auditor.

Is there any limit on the number of tax audits which a CA/CA firm can accept?

The Council General Guidelines, 2008 dated 8-8-2008 has increased the specified number of tax audit assignments that a CA can accept from 30 to 45. Chapter V of the Council General Guidelines provides as under:

 ♦  A member of the Institute in practice shall not accept, in a financial year, more than the "specified number of tax audit assignments" under section 44AB of the Income-tax Act, 1961.

 ♦  For the above purpose, "the specified number of tax audit assignments" means -

(a)  in the case of a Chartered Accountant in practice or a proprietary firm of Chartered Accountant, 45 tax audit assignments, in a financial year, whether in respect of corporate or non-corporate assessees.

(b)  in the case of firm of Chartered Accountants in practice, 45 tax audit assignments per partner in the firm, in a financial year, whether in respect of corporate or non-corporate assessees.

The following points are important in computing the specified number of tax audits:

 ■  The audits conducted under section 44AD, 44AE and 44AF of the Income-tax Act, 1961 shall not be taken into account.

 ■  Each year's audit to be treated as a separate assignment.

 ■  The audit of the head office and branch offices of a concern shall be regarded as one tax audit assignment.

While computing the specified number of tax audit assignments for a firm of CAs, the following points also should be kept in mind:

 ■  Where any partner of the firm is also a partner of any other firm or firms of Chartered Accountants in practice, the number of tax audit assignments which may be taken for all the firms together in relation to such partner shall not exceed the "specified number of tax audit assignments" in the aggregate.

 ■  Where any partner of a firm of Chartered Accountants in practice accepts one or more tax audit assignments in his individual capacity, the total number of such assignments which may be accepted by him shall not exceed the "specified number of tax audit assignments" in the aggregate.

 ■  A Chartered Accountant being a part time practicing partner of a firm shall not be taken into account for the purpose of reckoning the tax audit assignments of the firm.

 ■  A Chartered Accountant in practice, whether in full-time or part-time employment elsewhere, shall not be counted for the purpose of determination of "specified number of audit of Companies" by firms of Chartered Accountants.

 ■  The number of partners of a firm on the date of acceptance of audit assignment shall be taken into account.

 ■  A Chartered Accountant in practice as well as firm of Chartered Accountants in practice shall maintain a record of the audit assignments accepted by him or by the firm of Chartered Accountants, or by any of the partners of the firm in his individual name or as a partner of any other firm, as far as possible, in the format prescribed by the Council.

Is there any minimum fee to be charged by CA firms for Tax audits?

Chapter XII of the Council General Guidelines has been omitted with effect from 7-6-2011. Hence, no minimum fee stipulated for audits at the moment.

Applicability of tax audit and computation of turnover/gross receipts

Is tax audit applicable when income is exempt under section 10?

In Asstt. CIT v. India Magnum Fund [2002] 81 ITD 295 (Mum.), the Tribunal held as under:

 ♦  "The heading of Chapter III is "Incomes which do not form part of total income".

 ♦  It is therefore plain to us that provisions of section 44AB cannot and do not have any application in relation to incomes which are enumerated under Chapter III and are expressly excluded from total income.………..."

Thus, as per the ITAT's above decision, if entire income of the assessee is exempt under section 10, he will not be liable to tax audit under section 44AB even though his turnover or gross receipts or sales may have exceeded Rs. 60 lakhs [Rs. 1 crores w.e.f. A.Y. 2013-14]. However, ICAI has taken a contrary view in its Guidance Note on Tax Audit [Para 6.1 of ICAI's Guidance Note on Tax Audit].

Whether the turnover limit of Rs. 60 lakhs [Rs. 1 crore w.e.f. A.Y. 2013-14] to be applied business-wise or whether it should be applied after aggregating sales/turnover/gross receipts of all businesses.

In ACIT v. Dr. K. Satish Shetty [2010 ] 188 Taxman 32, the Karnataka High Court held that:

 ♦  The conjoint reading of sections 44AB and 2(13) (definition of 'business') does not show anywhere that in case assessee is carrying on many businesses, then the aggregate of businesses has to be arrived at and thereafter, the same is required to be audited.

 ♦  Section 44AB does not show or contemplate that all businesses are required to be consolidated for working out the aggregate of turnover.

How to compute "turnover" and "gross receipts" for applying the limits of Rs. 60 lakhs [Rs. 1 crore w.e.f. A.Y. 2013-14] and Rs. 15 lakhs [Rs. 25 lakhs w.e.f. A.Y. 2013-14]?

Para 5.6 of ICAI's Guidance Note on Tax Audit defines 'turnover' as the aggregate amount for which sales are effected or services are rendered by the enterprise. The following points should be kept in mind while determining 'turnover':

 ♦  For an agent, turnover is the commission earned by him and not the aggregate amount for which sales are effected or services are rendered.

 ♦  Trade discount should be deducted from sales.

 ♦  Commission allowed to third parties should not be deducted from 'sales'.

 ♦  Sales of scrap shown under 'miscellaneous income' should be included in 'turnover'.

 ♦  Goods returned, price adjustments, trade discount and cancellation of bills for the period under audit should be deducted from total sales.

■  Tax Audit not applicable if entire income exempt under section 10.  ■  Turnovers of different businesses not to be clubbed for applying the Rs. 60 lakhs limit [Rs. 1 crore w.e.f. A.Y. 2013-14]  ■  For agent, turnover is the commission earned by him.

 ♦  Ancillary charges-packing, freight, forwarding, interest, commission etc. should be excluded from turnover. However, where separate demarcation of these charges is not possible due the method of accounting followed by the assessee or where company does not show these charges separately in its bill/invoice, turnover for section 44AB purposes will include these charges. If charges such as packing, freight, forwarding and handling represent reimbursement of actual cost, these will not form part of 'turnover'.

 ♦  If sales tax/excise duty are included in sales price, no adjustment should be made in respect of these for determining the turnover. This method of accounting may be said to be the 'inclusive method'. If sales tax/excise duty recovered are credited to a separate accounts (Excise Duty Payable account/Sales Tax payable account) and payments to the authority are debited to the said separate account (exclusive method), these would not form part of turnover. [Para 5.6 of ICAI's Guidance Note on Tax Audit]. However, ICAI's 'Guidance Note on Accounting for State-Level VAT' specifies that the right way to account for taxes collected is the exclusive method. Against Item 1 of Part A - P&L of Form ITR4/ITR5/ITR6 is required sales/gross receipts of business or profession net of duty or tax is required to be furnished. Taking a cue, it can be said that exclusive method of accounting for taxes collected is the right method for computing Rs. 60 lakhs/Rs. 15 lakhs limits [Rs. 1 crore/Rs. 25 lakhs limits w.e.f. A.Y. 2013-14].

Items to be excluded/deducted from 'turnover'

Items to be included/not to be deducted from 'turnover'

According to ICAI, the following items should be deducted/excluded from turnover :   •  Ancillary charges-packing, freight, forwarding, interest, commission etc. (unless where separate demarcation of these charges is not possible due the method of accounting followed by the assessee or where company does not show these charges separately in its bill/invoice).   •  Cancellation of bills for the period under audit.   •  Cash discount allowed in cash memo/sales invoice.   •  Price adjustments.   •  Price of goods returned (whether returns are from the sales of an earlier period or current period).   •  Sales proceeds of any shares, securities, debentures, etc. held as investment.   •  Sales proceeds of fixed assets (as these are not held for resale).   •  Sales proceeds of investment property. Special rebate allowed to customer (not being in the nature of commission on sales).   •  Stocks surrendered during a survey-value thereof.   •  Trade discount allowed in sales invoice.   •  Turnover discount (discount allowed if sales to customer exceeds a particular quantity) even if it is allowed periodically by separate credit notes.   •  VAT recovered/recoverable from customers - (as per Item 1 of Part A - P&L of Form ITR 4/ITR 5/ITR 6 & ICAI's Guidance Note on Accounting for State-level VAT).

According to ICAI, the following items should not be deducted from/should be included in turnover :   •  Adjustments not related to sales-bad debts written off.   •  Cash discount (otherwise than that allowed in cash memo/sales invoice) should not be deducted from turnover as it is a financing charge.   •  Commission allowed to third parties on sales.   •  Sale of scrap.   •  Sale of by product.   •  Sales proceeds of shares, securities, debentures, etc. held as stock-in-trade.   •  Special rebate which is in the nature of commission on sales.

"Gross Receipts" - ICAI's Views

According to ICAI, all receipts whether in cash or in kind arising from carrying on of the business (which will be assessable as business income) should be included in gross receipts.

Items not to be included in 'gross receipts'

Items to be included in 'gross receipts'

According to ICAI's Guidance Note on Tax Audit, the following shall not to be included in gross receipts :   •  Advance forfeited in respect of fixed assets.   •  Advance received for services to be rendered - these are liabilities and not part of gross receipts until services are rendered. - For contrary viewpoint-see Dy. CIT v. Gopal Krishan Builders [2004] 91 ITD 124 (Lucknow) (SMC).   •  Dividends on shares except where the assessee is a dealer in shares.   •  Interest income if not assessable as business income.   •  Out of pocket expenses collected separately from clients by solicitors, advocates/CAs and credited to a separate account and utilized for making payments (stamp duties, counsel's fees, travelling expenses etc.) on client's behalf.   •  Reimbursement of advertising charges received by advertising agent from clients.   •  Reimbursement of advertising charges received from clients by a recruiting agent.   •  Reimbursement of customs duty and other charges received by a clearing agent.   •  Reimbursements of payments to airlines, railways etc. (incurred on behalf of clients) received by a travel agent.   •  Rental income which is not assessable as business income.   •  Sales proceeds of fixed assets.   •  Sales proceeds of investments.   •  Share of profit of a partner of total income of a firm excluded from his total income under section 10(2A). [On the same analogy, whether all profits or receipts exempt from tax under section 10 of the Act and excluded from total income would not be included in gross receipts? The answer appears to be "Yes" from the ruling in India Magnum Fund's case (supra) – See Q.13. above.   •  Write back of amounts no longer payable to creditors.   •  Write back of provisions no longer required.

According to ICAI's Guidance Note on Tax Audit, the following shall be included in gross receipts :   •  Advance received from customers and forfeited.   •  Cash incentives for exports.   •  Charges recovered not by way of reimbursement of actual expenses incurred.   •  Commission, brokerage, service charges and other incidental charges received by a chit fund.   •  Consolidated amount for transportation, boarding and lodging and other facilities in respect of package tour received from members of a group tour by a travel agent.   •  Dividends on shares received by a dealer in shares.   •  Duty drawback.   •  Exchange difference (net) on export sales (on the same principle as for reimbursement of expenses below)   •  Finance income of lessor.   •  Gross receipts including lease rent in the business of operating lease.   •  Hire charges and instalments received in the course of hire purchase.   •  Hire charges of cold storage.   •  Insurance claims (except for fixed assets).   •  Interest income - Where the same is assessable as business income.   •  Interest income (gross) received by a money lender.   •  Liquidated damages.   •  Out of pocket expenses recovered by CA/solicitor/advocate as part of a consolidated fee.   •  Profits on sale of import license.   •  Recovery of charges from clients by advertising agencies where the Ad. Agency books space or time-slots in bulk and then sells to clients.   •  Reimbursement of expenses incurred (e.g. packing, forwarding, freight, insurance, travelling etc.) - if the same is not credited to a separate account. If the same is credited to a separate account and expenses incurred are debited to that account, then only the net surplus should be added to turnover for section 44AB purposes.   •  Rental income - Where the same is assessable as business income.   •  Sales proceeds of scrap, wastage etc. - if not treated as part of sale or turnover.

What if the tax auditor is called upon to give his report only in respect of one or more businesses carried on by the assessee and the books of account of the other businesses are not produced as the same are not required to be audited under the Act?

In such a case, the tax auditor should mention the fact that audit has not been conducted of those businesses whose books of account had not been produced. However, if the financial statements include, inter alia, the results of such business for which books of account have not been produced, the auditor should qualify his report in Form No. 3CB.

Form 3CD

How to furnish nature of business or profession details required by Item 8(a)?

State the principal line of each business or profession (e.g. manufacturing of electronic goods, wholesaler in food grains etc.) against clause 8(a). (ICAI's Supplemental Guidance).

 ♦  If more than one business or profession is carried on during the previous year, nature of every business or profession.

 ♦  In case of a service provider (person rendering services), broadly state the nature of each type of service against clause 8(a). (ICAI's Supplemental Guidance).

 ♦  ICAI does not clarify what 'each type of service means'. Classification according to service tax law will come in very handy. Each category of taxable service may be treated as a 'type of service'.

 ♦  Part B of Annexure I to Form No. 3CD also requires this information. The Note at the end of the said Annexure provides details of the various sectors and sub-sectors in which the assessee could be engaged as well as the Code Nos. for various sectors and sub-sectors.

 ♦  The statement/description given against this clause should tally with the information given in Part B of Annexure I to Form No. 3CD.

How to state change in the nature of business/profession against item 8(b)?

If there is any change in the nature of business or profession, it is not enough to merely give a 'yes' answer or to merely state the fact that there is a change. In such a case, 'particulars of such change' should be stated. If there is no change in the nature of business or profession, it is sufficient to state the fact that there is no such change.

ICAI has interpreted Clause 8(b) as under:

 ♦  'Change in the nature of business or profession' in clause 8(b) should be construed to mean any material change in the nature of business or profession. Any material change in the nature of business or profession should be clearly stated against clause 8(b).

 ♦  'Change' refers to a change during the previous year under audit. Any change after the balance sheet date should be ignored.

Instances/examples of changes in business or profession that needs to be reported against clause 8(b)

Instances/examples of changes in business or profession that needs no reporting against clause 8(b)

(i)  change from manufacturer to trader. (ii)  change in the principal line of business. (iii)  change from wholesale business to retail business. (iv)  change from manufacturing own commodities to manufacturing goods on job work basis for others. (v)  addition to a particular line of a business. (vi)  discontinuance of a particular line of business. (vii)  amalgamation/demerger if a new line of activity emerges as a result. (viii)  hiving off of any activity in restructuring.

(i)  temporary suspension of business. (ii)  amalgamation/demerger if there is a similar line of activity-i.e. no new line of activity emerges as a result. (iii)  CA who was rendering services related to direct taxes starts rendering services related to indirect taxes also (since CA's core area of practice consists of accounting, auditing, finance and taxation). (iv)  a manufacturer and exporter of garments until last financial year does business of high sea sales in current financial year and high sea sales not material in relation to existing business- no need to report since change is not a material change.

Clause 12A requires details of capital assets converted into 'stock-in-trade'. What is 'stock-in-trade'?

In CIT v. Kan Construction and Colonizers (P.) Ltd. [2012] 20 taxmann.com 381/208 Taxman 478 (Allahabad), the Allahabad High Court defined 'stock-in-trade' as under:

 ♦  According to the Webster's New International Dictionary, the 'stock-in-trade' is "(a) The goods kept for sale by a shopkeeper. (b) The fittings and appliances of a workman."

 ♦  In other words, the stock-in-trade includes all such chattels as are required for the purposes of being sold or let to hire on a person's trade.

Stroud's Judicial Dictionary defines 'stock-in-trade' as under:

 ♦  This phrase comprises all such chattels as are acquired for the purpose of being sold, or let to hire, in a person's trade.

 ♦  Probably, utensils in trade are also included in the phrase (Seymour v. Rapier Burb. 28).

 ♦  In Re Richardson (50 L.J. Ch. 488), the testator was a barge-builder, and, according to the custom of that trade, he would sometimes, on the sale of a new barge, accept an old one in part payment which he would repair and let out on hire; at the time of his death he had five of such barges: held, that these barges passed under a bequest of his "stock-in-trade as a barge-builder".

 ♦  Copyrights are not stock-in-trade for tax purposes (Mason v. Innes [1967] Ch. 1079).

What kinds of amounts not credited to Profit and Loss Account have to be reported against item 13(d) - 'any other item of income'?

Clause 13(d) requires the tax auditor to report 'any other income' not credited to profit and loss account. This clause poses considerable difficulty in interpretation. It appears that clause 13(d) would cover: residuary business incomes in section 2(24) other than those covered under section 28.

 ♦  employees' contribution to PF (Provident Funds) - section 2(24)(x).

 ♦  payment in violation of section 40A(3) has been made in respect of any expenditure allowed in previous year-such payment is deemed to be business income u/s 40A(3).

Whether specified amounts paid during previous year to residents on which TDS not deducted and debited to P&L account will be required to be reported against clause 17(f)-amounts inadmissible under section 40(a)?

In Merilyn Shipping & Transports v. Addl.CIT [2012] 20 taxmann.com 244/136 ITD 23 Visakha - Trib.) (SB), it was held that section 40(a)(ia) would apply only to amounts outstanding as of 31st March of every year on which TDS not deducted and not to amounts paid during previous year without deduction of TDS for the following reasons:

 ♦  The Legislature by consciously replacing the words from 'credited' or 'paid' in Finance (No.2) Bill, 2004 to 'payable' in Finance (No.2) Act, 2004 has made it clear that only the outstanding amount or the provision for expenses are liable for TDS are to be disallowed in the event there is default in not following the TDS provisions under chapter XVII-B of the Act.

 ♦  CBDT's Circular No. 5 of 2005, dated 5th July, 2005 clarifies that the intent of section 40(a)(ia) is to curb bogus payments by creating bogus liabilities.

Therefore, if tax auditor decides to rely on the above decision and decides not to report amounts paid during year on which TDS not deducted, tax auditor should indicate this by way of a note.

Whether bonus/commission to full-time employee directors/MD are required to be reported against clause 16(a) if company does not declare dividends despite substantial profits?

In CIT v. Career Launcher India Ltd. [2012] 20 taxmann.com 637/207 Taxman 28 (Delhi), it was held that:

 ♦  Merely because company did not declare dividend despite substantial profits, it cannot be said that any bonus paid by company to its director-shareholders who are full-time salaried employees will be dividends in disguise attracting disallowance in section 36(1)(ii).

 ♦  Bonus was a reward for work to salaried directors in addition to salary and no way related to their shareholdings and hence not dividends in disguise where (i) directors are full-time salaried employees of the company; (ii) directors are qualified personnel (IIM(B) graduates in the instant case); (iii) Directors would have received much higher dividends having regard to shareholding of each of the directors than the bonus paid to them; and (iv) Payments of bonus were sanctioned by Board resolution.

 ♦  The quantum of the bonus payment was linked to the services rendered by the directors. Therefore, it cannot therefore be said that the bonus would not have been payable to the directors as profits or dividend had it not been paid as bonus/commission.

In AMD Metplast Pvt. Ltd. v. DCIT [2012] 20 taxmann.com 647 (Delhi), the Court explained that:

 ♦  Dividend has to be paid to all shareholders equally.

 ♦  Dividend is a return on investment and not salary or part thereof.

 ♦  Where the managing director is entitled to receive commission for services rendered to the company in terms of the board resolution, it is a term of employment on the basis of which he had rendered service. Accordingly, the consideration in the form of commission which was paid to MD was for services rendered by him as per terms of appointment as a managing director.

 ♦  The fact that commission was treated as a part and parcel of salary and TDS has been deducted only fortifies the case of the assessee-company.

Thus, bonus to salaried full-time-employee-directors not dividend in disguise u/s 36(1)(ii) merely because no dividends declared despite substantial profits and are not required to be reported against clause 16(a).

Whether leave encashment to employees provided for and not paid have to be reported against clause 21?

In Exide Industries Ltd. v. Union of India [2007] 164 Taxman 9, the Calcutta High Court has struck down clause (f) of section 43B. If tax auditor, considers that because of this decision, there is no need to report details regarding clause (f) of section 43B (leave encashment) against clause 21, he should expressly state so against clause 21.