'Reimbursements' Fixed As Percentage Of Sales Are Contractual, Liable For TDS: Calcutta High Court

The Calcutta High Court has upheld the disallowance of expenses claimed by Deys Medical Private Limited (appellant) on account of alleged reimbursements paid to its group companies, holding that payments calculated as a percentage of sales constituted contractual consideration liable for tax deduction at source (TDS).

The appeal arose from an order of the Income Tax Appellate Tribunal, Kolkata, which had partially affirmed the Assessing Officer's disallowance of over Rs. 3.35 crore under the Income Tax Act for failure to deduct at source on payments made towards advertisement, sales promotion, marketing, handling, storage and collection services.

The appellant, a manufacturing unit of the Dey's Medical Stores Group, had reimbursed these expenses to its associate companies under agreements executed in 2004, contending that the payments were mere reimbursements and therefore outside the scope of TDS provisions.

Rejecting this contention, the division bench of Justice Rajarshi Bharadwaj and Justice Uday Kumar observed that genuine reimbursements must be directly linked to actual expenses incurred and supported by itemised bills and vouchers. In the present case, the payments were predetermined as fixed percentages of net sales and bore no direct correlation to actual expenditure incurred by the recipient companies.

Such payments, the Court held, were in the nature of contractual payments for services and squarely attracted the obligation to deduct tax at source under the applicable provisions.

The bench held that,

"the Tribunal correctly applied the provisions of Section 40(a)(ia) in conjunction with Section 194C. The payments under scrutiny were not reimbursements for expenses that had already been incurred and substantiated through bills or vouchers, rather, they represented contractual consideration for services specifically, activities like advertising, sales promotion, handling and storage that were agreed upon as fixed percentages of the net sales."

The Court noted that the fact that the recipients included these amounts in their income and paid the applicable taxes does not absolve the appellant of its statutory obligation to deduct TDS at the time of payment.

The bench opined that "Reliance on certificates from Chartered Accountants or affidavits asserting that taxes had been paid does not suffice to negate the requirement for actual TDS deduction at the source, especially when there is no direct, itemized linkage between the payments made and the taxes paid."

The obligation to deduct TDS, the Court noted, arises at the time of payment or credit and cannot be substituted by downstream tax compliance.

Upholding the Tribunal's reasoning, the Court reiterated that the legislative intent behind the TDS mechanism is to ensure the collection of tax at the source itself and that allowing post-facto explanations would defeat the purpose of the statutory scheme.

The bench opined that,

"The payments in question, being contractual and not genuine reimbursements, squarely fall within the scope of Section 194C. The failure to deduct TDS in these circumstances justifies the disallowance under Section 40(a)(ia)."

Accordingly, the High Court dismissed the appeal and affirmed the Tribunal's order, holding that the disallowance of the expenditure was legally valid and warranted.

For Appellant: Senior Advocate, J.P. Khaitan and Advocates, Pratyush Jhunjhunwala, Sruti Datta, Sakshi Singhi

For Respondent: Advocates, Prithu Dudhoria and Sukanya Dutta