Al Wakeelo
Your Digital Lawyer, Always on Duty
Initializing Secure Chambers
Your Digital Lawyer, Always on Duty
Initializing Secure Chambers
Petitioner: Messrs ENGRO CORPORATION LTD, KARACHI VS Respondent: C.I.R., ZONE-I, LTU, KARACHI
Court Name: Appellate Tribunal Inland Revenue Judge(s): Muhammad Jawed Zakaria, Farzana Jabeen Title: Messrs ENGRO CORPORATION LTD, KARACHI vs C.I.R., ZONE-I, LTU, KARACHI Case No.: I.T.A. No.1002/KB of 2013 Date of Judgment:2013-12-16 Reported As: 2015 PTD (Trib.) 2375 Result: Case remanded
Judgment ORDER MUHAMMAD JAWED ZAKARIA (JUDICIAL MEMBER).---The titled appeal has been filed by the Taxpayer against Order No.102/A-1 dated 4-11-2013 passed by the learned CIR(A). The appellant has agitated the following grounds of appeals:-- 1. The order of the Commissioner Inland Revenue (Appeals) [hereafter referred to as CIR(A)] is bad in law and on facts of the case. 2. The CIR(A) has erred in maintaining the action of the Deputy Commissioner Inland Revenue IDCIR], misinterpreting section 67 of the Ordinance and thereby wrongly allocating finance cost of the dividend income by an incorrect application of section 67 of the Ordinance. 3. The CIR(A) has erred in not correctly applying the provisions of section 124A of the Ordinance in respect of binding nature of the order of this Honorable Tribunal ignoring the change in the character of the company on account of the Scheme of Reconstruction of Reconstitution of Business under sections 284 to 287 of the Company Ordinance,. 1981. 4. The CIR(A) has erred in maintaining the action of the DCIR holding that interest income is not chargeable to tax under the head 'Income from Business'. 5. The CIR(A) has erred in maintaining the levy of surcharge under section 4A of the Ordinance. 6. Your appellant craves leave to add, to amend or alter any of the above grounds of appeal. 2. Succinctly, the facts of the case are that the Taxpayer (hereinafter referred to as the 'appellant') is a public listed company incorporated in Pakistan under the Companies Ordinance, 1984 and its shares are quoted on Karachi, Lahore, and Islamabad Stock Exchanges. The principal activity of the company, consequent to demerger, is to manage investments in subsidiary companies and joint ventures engaged in purchasing and marketing of fertilizers, PVC resin manufacturing and
---
## Page 2
marketing, control and automation, food, energy, exploration and chemical terminal and storage business. The return of income for tax year, 2011 was e-filed on 21-11-2011. The case of the taxpayer was selected for audit by the Federal Board of. Revenue by exercising powers vested under the provision of section 214C of the Income Tax Ordinance, 2011 through parametric computer ballot. The taxpayer was also informed by the Commissioner Inland Revenue, Zone-I, Karachi through office letter No.CIR/Z-I/LTU/2012-13/1434 dated 5-3-2013. The parameters for selection of case were communicated to taxpayer through letter No. DC/AU-01/Z-I/I.Tax/2012 dated 17-3-2013. After issuing show-cause notice under section 122(9) read with section 122(1)/(5), dated 22-8-2013 and examination of reply of the appellant/details/explanation/ information on certain issues, the DCIR amended the assessm ent under section 122(1)/(5) of the Income Tax Ordinance by allocating the finance cost against dividend income under section 67 of the Income Tax Ordinance, 2001 and so also allocated the expenses against interest . income. Being aggrieved from the order of the DCIR the appellant preferred an appeal before the CIR (A) who vide order mentioned supra confirmed the treatment meted by the DCIR. Hence, the instant appeal before this Tribunal by the taxpayer. 3. At the very outset, the learned AR of appellant has assailed the order of the learned CIR(A) by agitating the confirmation of the order of the DCIR on the issue of allocation of expenses under section 67 of the Income Tax Ordinance, 2001 to dividend income. His main emphasis is with regard to tax year 2011 where a structural change was occurred in the composition for appellant's own case as it has changed its role from manufacturing entity to holding company and being holding company look after financial affairs of subsidiaries Messrs Engro Fertilizer, Engro Food, Engro Power and Engro Eximp (Pvt.) Ltd. Since the role of the appellant has changed thus previous case-law in appellant's case on this issue is no more applicable and the officer has incorrectly applied the ratio of Tribunal's decision in appellant's own case while passing the impugned order. The learned counsel further argued that since, the role of the appellant has changed from manufacturing entity to holding company whereby the appellant has to take strategic decisions for the benefit of group of companies including holding company as well as subsidiaries and thus would be in a better bargaining position to get borrowing from banks at lesser rate for further lending to subsidiaries and thus earned profit on debt on the difference between bank borrowing and further lending to subsidiaries. This profit on debt earned by the appellant under the changed environment would be his business income and is to be taxed under section 18 as income from business. Whereas, the OIR/DCIR has treated the income from profit on debt as income from other sources taxable under section 39. 4. The learned A.R. of the appellant however, argued that no expenses were allocated for the earning of income from profit on debt. He again reiterated that the changed circumstances demand reconsideration for allocation of expenses for the earning of profit on debt. He has particularly pointed out that in the previous year surplus funds were deposited in banks for the earning of profit on debts whereas now the appellant being holding company is fully engaged in negotiation and taking crucial business decisions for placement of funds, therefore, for the earning of profit on debt, some reasonable expenses should have also been allocated. The learned AR of the taxpayer vociferously contended that CIR(A) has grossly erred in giving following finding, worded as under:-- "I have perused the order and also written submission of the appellant and noted that this changed circumstances definitely asked for expenses to be allocated for the earning of profit on debt as some administrative expenses were incurred for the earning of profit on debt. The appeal is therefore allowed and the officer is directed to allow expenses in the light of section 40 of Income Tax Ordinance, 2001 for earning of income under section 39." 5. It was further vehemently argued by the learned counsel for the appellant that exempt dividend income has accrued on the investments which were made in 1997 and 2005. No fresh investment
---
## Page 3
was made during the period under review. The company therefore had not allocated finance cost against dividend income. However, specific cost of Rs.102.317 million was related to capital gain on mutual funds was allocated in the return. However, in the impugned order the entire interest expense of Rs 260.450 million has been incorrectly considered "common expenditure" and apportioned by the DCIR although mainly related to the "Engro Rupiya Certificates" launched by the Company in October 2010. This was mainly for the purpose of giving subordinate loans to the group companies. 6. The learned D.R. on the other hand, strongly supported the impugned orders of the officers below. The learned Departmental Representative contended that financial cost has been allocated against the dividend income by misapplication of section 67 of the Ordinance, 2001. It has further been vehemently argued that as per the decision in taxpayer's own case the Honorable ATIR in ITA No. 144/K13/2010 dated 1-7-2010 for the tax year, 2008 has directed to follow its decision in ITA No. 259/KB of 2010. The Honorable ATIR in ITA No. 260/KB/2010 dated 1-7-2010 for tax year, 2008 has confirmed the allocation with following observations:-- "25. While we generally agree with the treatment adopted by the department and upheld by the learned CIR(A), we are of the view that on the balance of reasonableness and regard of the nature and size of the underlying activities, apportionment of the administrative expenses on the basis of turnover would be harsh and unrealistic. Therefore, we uphold the apportionment of the financial expenses on the basis of turnover while direct the Additional Commissioner to re- examine the quantum of involvement of the administrative machinery in earning income from dividend and investment that has led to the apportionment under reference here." 7. The learned D.R. further argued that the contention of the learned counsel that in subsequent tax year, 2012, the taxpayer has itself allocated administrative/other operating expenses/financial charges against taxable dividend. 8. The learned D.R. vehemently contended that NTR receipts also include Dividend Income on the basis of which administrative/other operating expenses/financial charges has been allocated and then Dividend Income has been excluded for separate consideration. The exempt receipts declared during tax year, 2012 comprises of following:- Inter Corporate Dividend (Exempt) 1,388,019 Capital Gain Engro Foods (Exempt) 371,781 Total Exempt 1,759,800 9. The learned D.R. submitted that it is also relevant to mention that as per computation (T.Y. 2012), the taxpayer has included dividend income from Messrs Engro Vopak (Joint Venture) amounting to Rs.540,000,000 under NTR receipts against which financial charges as well administrative/operating expenses have been allocated, but in respect of inter-corporate dividend (Group Companies) the taxpayer has different view and no financial expenses apportioned to the same receipts i.e. Dividend. He urged that the law does not permit to blow hot and cold in the same breath as has been held in the cases reported as 1986 PTD (Trib.) 105, 1989, PTD (Trib.) 318, 2000 PTD (HC Lah) 478, 2009 PTD (Trib.) 1990, etc. Thus, by allocating expenses against dividend income, the taxpayer has itself approved department's action in allocating financial expenses against dividend income. 10. The learned D.R. argued that as regards the pleading and arguments of the AR of taxpayer so far as the change in the character of the company on account of the scheme of reconstruction of business under sections 284 to 287 of the Company Ordinance, 1981 and incorrectly applied provision of section 124A of the Income Tax Ordinance, 2001 and upholding of order of DCIR by
---
## Page 4
CIR(A) on the issue of taxing interest income under section 39 and directidn to allow administrative expenses these contentions of the taxpayer are not on facts as well as per record for the following reasons:-- 1. The taxpayer's contention that it has issued (Engro Rupiya Certificate) which is a Term Finance Certificate, thus its qualify as banking company/financial institution. The ground taken by the taxpayer is not sustainable in the eyes of law, because Terms Finance Certificate have also been issued by other corporate entities like Messrs KESC, Messrs Pakistan Refinery Ltd and M/s. Pakistan Mobile Communications Limited, but status of these company has not been changed as that of banking company or a financial institution. 2. The taxpayer company itself formerly known as Messrs Engro Chemical also issued TFCs in the year 2002, hence there is no new facts. 3. The de-merger of and change in the corporate structure was effective from January 1, 2010 (pg.21 of Annual Report 2009 (column 1 last para). 4. The report does not show that lending and borrowing was intended to be the business of re- structured company. 5. The annual report for 2012 shows the following amounts of "Advances, deposits and prepayments" (Rs. in million) 20122011 2010 2009 2008 2007 1,0242,2562,4741,372 1,156 1,078 This 'does not show any significant change. Hence there is no change in the business structure after the de-merger. 6. The value of "Property, Plant and equipment is shown as under for these years (Rs. in million) 2012 2011 2010 2009 2008 2007 132,4 135,0 129,0 110,5 58,2 23,4 87 92 88 04 93 78 This again negates the arguments related to the change in nature of business. 1. The objects clause of the "Memorandum of Association" of the company also does not give money lending as one of the principal objectives of the company which include multifarious objects listed from S. Nos.1 to 35. 2. Section 5(b) and (c) of the Banking Companies Ordinance, 1962 read as under: "5(b)- banking means the accepting, for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwi.se, and withdrawable by cheque, draft, or otherwise; "(c)- banking company means any company which transacts the business of banking in Pakistan and includes their branches and subsidiaries functioning outside Pakistan of banking companies incorporated in Pakistan." Section 27(1) of the Companies Ordinance reads as under:-- 27. Licensing of banking companies.---(1) No individual or association or body of individuals, not being a company, shall carry on banking business in Pakistan and, save as hereinafter provided, no company shall carry on banking business in Pakistan unless it hold a licence issued in that behalf by the State Bank; and any such licence may be issued subject to such conditions as the State Bank may think fit to impose. If the appellant is engaged in money lending and borrowing, this is done in contravention of law, as stated above. Section 2(18) of the Companies Ordinance reads as under:-- "(18)"holding company" means a holding company as defined in section 3",
---
## Page 5
Section 3 of the Ordinance reads as under:-- "3. Meaning of "subsidiary" and "holding company".--(1) For purposes of this Ordinance, a company or body corporate shall be deemed to be a subsidiary of another if::-- That other company or body corporate directly or indirectly controls, beneficially owns or hold more than fifty percent of its voting securities or other wise has power to elect and appoint more than fifty percent of its directions; or 1. The first mentioned company or body corporate is a subsidiary of any company or body corporate which is that other's subsidiary: 2. Provided that where a central depository holds more than fifty percent of the voting securities of a company, such company shall not be deemed to be a subsidiary of the central depository save where such voting securities are held beneficially by the central depository in its own behalf (2) For the purpose of this Ordinance, a company shall be deemed to be another's holding company if but only if that other is its subsidiary." 3. The section nowhere mentions that providing of loans is part of business of holding company. 4. Since the appellant taken the plea that there is change in nature of business and hence the previous case-law was not applicable to its in the changed circumstances, the onus of proof was upon the appellant and not upon the department. EM Oil Mills case reported as 2011 PTD (HC Kar.) 2708 is was relied. 11. It is further vehemently contended by the learned D.R. that the issue of taxing interest income has already been decided by the Honorable ATIR in taxpayer's own case in I.T.A. No. 144/KB/2010 dated 1-7-2010 for the tax year, 2008 whereby at Page-6 of the said order the Honorable ATIR has observed/directed as under:-- "....Regarding earning on the deposit of those funds we find that it being "Income from Other sources" will get taxed as a separate block and cannot be let to be let off against the financial expenses which do not relate to the head of income." The Genetech case 2004 PTD (SC) 2255, the AES Pakgen (Pvt.) in C.Ps. Nos. 221.1-L and 2212-L of 2005 (SC) (unreported), Liquidator Khulna Bagerhat Railway Company 1962 PTD (SC) 415, and Khairul Hayat Amin and Company 2000 PTD (H.C. Kar.) 363 are relevant, wherein the principle that payment of interest on borrowed capital cannot be set off against interest income has been upheld. 12. Lastly, the learned D.R. submitted that the order of the learned CIR(A) applying provision of section 124A of the Income Tax Ordinance, 2011 in respect of decided issued by the Honorable ATIR suffered from no legal infirmity and calls for no further action. 13. We have heard the marathon arguments of both the representatives and have also gone through the impugned orders of the officers below as well as record of the case and case-laws cited before this bench. 14. The cardinal issue involved in this appeal revolves around the change of character, nature and source of the business of the appellant from manufacturing company to holding company. The learned counsel for the appellant lays emphasis on the issue of allocation of expenses against dividend income by incorrect application of section 67 of the Income Tax Ordinance, 2001. The relevant extract from the order of the learned CIR (A) confirming the action of the DCIR is reproduced hereunder:-- "I have considered the submission of the appellant and also perused the order. The officer has correctly relied upon the learned Tribunal's full bench decision reported as 1999 PTD 780 (Trib.) and appellant's own history in the tax year, 2008 where the Honourable. Tribunal in I.T.A. No. 144/K13/2010 dated 1-10-2010 has given the decision in the favour of the department and against the appellant that the income from profit on debt was taxable under section 39 of the Income Tax Ordinance, 2001. It is not out of place to mention here that the specific provision under the law as
---
## Page 6
contained in section 18(2) also put embargo to consider profit on debt as business income unless the person's business is to earn income from the profit on debt. Since, money is not stock-in-trade of the appellant as the appellant is not involved in money lending business like financial institution hence, the action taken by the officer in the light of decision of the full bench of learned Tribunal and also appellant's own history cited supra which too is binding upon me under section 124(A) of the Income Tax Ordinance, 2001 in the light of full bench decision of the learned Tribunal in appellant's own case I.T.A. No. 329/KB/2012 dated 20-4-2013, therefore, the appeal on this ground is rejected". "The decision of the learned Tribunal in appellant's own case is binding upon me under section 124(A) of Income Tax Ordinance, 2001 in the light of full bench decision of the learned Tribunal in appellant's own case in I.T.A. No. 329/KB/2012 dated 20-5-2013, I have no alternate but to follow the same. It is not an issue that during the year no new investment was made for which dividend was earned but the point is that the financial expenses which were incurred also relates to the previous investment in the shares from where dividend income was earned by the appellant. Since, the appellant has established appellate history for allocation of expenses on turnover basis, therefore, by respectfully following the decision of learned Tribunal's order in appellant's own history no further deviation could be made unless the said Tribunal's order is reversed by the High Courts. The action taken in this regard is hereby confirmed." 15. There is change in the character and nature of operations of the entity and thus the main source of income for the appellant needs to be considered which neither the Deputy Commissioner Inland Revenue [DCIR] nor the Commissioner Inland Revenue (Appeals I) has appreciated. The position of the appellant company after demerger of its fertilizers business and the principal activities of the appellant which as per Note 1.1 of the Financial Statements for the year ended December 31, 2010. It is further observed by us that the company (formerly, Engro Chemicals Limited), is a public listed company incorporated in Pakistan under the Companies Ordinance, 1984 and its shares are quoted on Karachi, Lahore and Islamabad stock exchanges of Pakistan. The principal activity of the Company, consequent to demerger (Note 1.2 of the accounts), is to manage the investments in subsidiary companies and joint ventures, engaged in fertilizers, PVC resin manufacturing and marketing, control and automation, food, energy, exploration and chemical terminal and storage businesses. From this year, the main activity/business of the appellant for the period under review is only related to the management of investments in the various group companies as well as arranging of finances which is an activity in accordance with clause 3(19) of the Memorandum of Association which reflect the affairs of the company. 16.From perusal of the impugned order of the DCIR, we have found that in paragraph 1 on page 5 of the impugned order DCIR/OIR/CIR has accepted that the taxpayer derives income from profit on debt. The relevant extract from his order is reproduced as under:-- "The reference to section 18(2) is irrelevant because taxpayer's major activities are to manage investments in subsidiary companies and joint ventures who engaged in purchasing and marketing of fertilizers, and to make investments in joint ventures/other entities engaged in chemical terminal and storage, PVC Resin manufacturing and marketing, control and automation, and food and energy businesses. Thus it is correct to say that taxpayer's business is to derive income on profit on debt." (underlying is ours for emphasis ) 17.From perusal of the above extract from the order of the DICR/OIR/CIR it is manifest that he has admitted the fact that the taxpayer is deriving income from profit on debt which is its main business for the particular year which is in question. However, it has been incorrectly held to be "assessable under income from other sources" as against appellant's claim that it is an income under the head "Income from Business" for the reason that:-- Since the position of change in operations, nature, character, source and the main activity of the
---
## Page 7
role as Holding Company is accepted, then the action in concluding that the "Income from other sources" as residuary clause is not warranted as section 18(2) clearly prescribes as under: "Section 18. Income from business-(1) S.18(2) Any profit on debt derived by a Person where the person's business is to derive such income shall be chargeable to tax under the head "Income from Business" and not under the head "Income from Other Sources". (Underlying is ours for emphasising) 18.From perusal of above subsection (2) of section 18 would prevail which deals with the business income derives by a person. It may be noted that this is main section if main source of income falls under section 18(2) then section 39 dealing with other source of income attains the character of residuary. However, the CIR(A) has made restrictive approach by observing that since, money is not stock-in-trade of the appellant is not involved in money lending business like financial institution. The CIR(A) has restricted the profit on debt only for financial institution. This is incorrect and restrictively construed. In arriving this conclusion, he may be apparently, as it seems that he has taken the refuge from section 151 which reads as under:-- "151-Profit on debt.---(1) Where- (a) person pays yield on an account, deposit or a certificate under the National Saving Scheme or Post Office Savings Account; (b) banking company [or] financial institution pays and profit on a debt, being an account or deposit maintained with the company or institution; (c) the Federal Government, a Provincial Government or a [Local Government] pays to any person profit on any security [other than that referred on in clause (a) issued by such Government or authority; or (d) a banking company, a financial institution, a company referred to in sub-clauses (i) and (ii) of clause (b)] of subsection (2) of section 80, or a finance society pays and profit on any bond, certificate, debenture, security or instrument of any kind (other than a loan agreement between a borrower and a banking company or a development finance institution) to any person other than financial institution.] the payer of the profit shall deduct tax at the rate specified in Division I of Part III of the First Schedule form the gross amount of the yield or profit paid as reduced by the amount of Zakat, if any, paid by the recipient under the Zakat and Ushr Ordinance, 1980 (XVII of 1980), at the time the profit is paid to the recipient. (2) This section shall not apply to any profit on debt that is subject to subsection (2) of section 152. (3) Tax deducted under this section shall be a final tax on the profit on debt arising to a taxpayer other than a company. (emphasis supplied) 19. However, the learned CIR(A) has failed to take cognizant of subsection (3) which in unequivocal terms lays down that this section will operate as final tax regime to financial institutions who are fall other than the company meaning thereby the profit on debt would not fall under the final tax regime in case of the appellant being deriving income from normal business of profit on debt. However, as observed by…
Read the unabridged text and precedent citation network on Al Wakeelo Legal Research Platform.