REPORTABLE

IN THE SUPREME COURT OF INDIA

CIVIL APPELLATE JURISDICTION

CIVIL APPEAL No.        of  2009       (arising out of S.L.P.(C) No. 5827/07)

M/s Liberty India … Appellant(s)

          versus

Commissioner of Income Tax …Respondent(s)

with

Civil Appeal Nos.            /09 (arising out of SLP (C) Nos. 22083-22084/07), Civil Appeal No.            /09 (arising out of SLP (C) Nos. 7956-7957/08), Civil Appeal No.            /09 (arising out of SLP (C) No. 11416/08), Civil Appeal No.            /09 (arising out of SLP (C) No. 16875/08), Civil Appeal No.            /09 (arising out of SLP (C) No. 11404/08), Civil  Appeal  No.  5271/07,  Civil  Appeal  No.  5571/07,  Civil  Appeal  No.  1465/08,  Civil  Appeal  No.  1499/08,  Civil  Appeal  No.  1500/08,  Civil  Appeal  No.  1438/08,  Civil  Appeal  No.  1439/08,  Civil  Appeal  No.  1440/08,  Civil  Appeal  No.  1915/08,  Civil  Appeal  No.  2408/08,  Civil  Appeal  No.  2409/08,  Civil  Appeal  No.  2411/08,  Civil  Appeal  No.  2410/08,  Civil  Appeal  No.  5157/07,  Civil  Appeal  No.  3479/08,  Civil  Appeal  No. 2648/08,  Civil  Appeal  No. 4125/08, Civil  Appeal  Nos.  6217-6218/08,  Civil  Appeal  No.  427/09,  Civil  Appeal  No.  430/09,  Civil  Appeal No. 429/09, Civil Appeal No. 364-365/09, Civil Appeal No. 1257- 1258/09, Civil Appeal No. 3532/09 and Civil Appeal No. 451/06.

J U D G M E N T

S.H. KAPADIA, J.

Leave granted.

2. The issue for consideration is: whether profit from Duty Entitlement  

Passbook Scheme (DEPB) and Duty Drawback Scheme could be said to be  

profit derived from the business of the Industrial Undertaking eligible for  

deduction under Section 80-IB of the Income-tax Act, 1961 (1961 Act)?

3. At the outset, we may indicate that although in the present judgment  

we have  focused on the  analysis  of  Section 80-IB,  the  basic  Scheme of  

Sections 80I, 80-IA and 80-IB (as they then stood) remains the same.

Facts:

4. The facts in the lead matter (Civil Appeal arising out of SLP(C) No.  

5827/07 entitled M/s Liberty India  v.  CIT) are as follows:

5. The  appellant,  a  partnership  firm,  owns  a  small  scale  industrial  

undertaking  engaged  in  manufacturing  of  fabrics  out  of  yarns  and  also  

various  textile  items  such  as  cushion  covers,  pillow  covers  etc.  out  of  

fabrics/yarn purchased from the market. During the relevant previous year  

corresponding  to  Assessment  Year  2001-02,  appellant  claimed deduction  

under Section 80-IB on the increased profits of Rs. 22,70,056.00 as profit of  

the industrial undertaking on account of DEPB and Duty Drawback credited  

to the Profit & Loss account. The Assessing Officer denied deduction under  

Section 80-IB on the ground that the said two benefits constituted export  

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incentives,  and that  they did not represent  profits  derived from industrial  

undertaking. In this connection the AO placed reliance on the judgment of  

this Court in CIT  v.  Sterling Food reported in 237 ITR 579. Aggrieved by  

the said decision, matter was carried in appeal to CIT(A), who came to the  

conclusion, that duty drawback received by the appellant was inextricably  

linked to the production cost of the goods manufactured by the appellant;  

that,  duty  drawback  was  a  trading  receipt  of  the  industrial  undertaking  

having  direct  nexus  with  the  activity  of  the  industrial  undertaking  and  

consequently, the AO was not justified in denying deduction under Section  

80-IB. According to CIT(A), the DEPB Scheme was different from Duty  

Drawback Scheme inasmuch as the DEPB substituted value based Advance  

Licencing Scheme as well as Passbook Scheme under the Exim Policy; that  

entitlements under DEPB Scheme were allowed at pre-determined and pre-

notified  rates  in  respect  of  exports  made  under  the  Scheme  and  

consequently,  DEPB  did  not  constitute  a  substitute  for  duty  drawback.  

According to CIT(A), credit under DEPB could be utilized by the exporter  

himself or it could be transferred to any other party; that such transfer could  

be  made  at  higher  or  lower  value  than  mentioned  in  the  Passbook  and,  

therefore,  DEPB  cannot  be  equated  with  the  duty  drawback,  hence,  the  

appellant who had received  Rs. 20,95,740/- on sale of DEPB licence stood  

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covered by the decision of this Court in  Sterling Food (supra). Hence, to  

that  extent,  appellant  was  not  entitled  to  deduction  under  Section  80-IB.  

Against the decision of CIT(A) allowing deduction on duty drawback, the  

revenue went in appeal to the Tribunal which following the decision of the  

Delhi High Court in the case of CIT   v.  Ritesh Industries Ltd. reported in  

274 ITR 324, held that the amount received by the assessee on account of  

duty drawback was not an income derived from the business of the industrial  

undertaking so as to entitle the assessee to deduction under Section 80-IB.  

6. The decision of the Tribunal  was assailed by the assessee(s)  under  

Section 260A of the 1961 Act before the High Court. Following the decision  

of  this  Court  in  Sterling  Food (supra),  the  High  Court  held  that  the  

assessee(s) had failed to prove the nexus between the receipt by way of duty  

drawback/DEPB  benefit  and  the  industrial  undertaking,  hence,  the  

assessee(s) was not entitled to deduction under Section 80-IB(3), hence this  

Civil Appeal(s).  

Arguments:

7. The submission of the appellant(s) [assessee(s)] in nutshell was that  

the  amount  of   duty  drawback/DEPB  was  intended  to  neutralize  the  

incidence  of  duty  on  inputs  consumed/utilized  in  the  manufacture  of  

exported goods resulting into increased profits derived from the business of  

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the  industrial  undertaking  which  profits  qualified  for  deduction  under  

Section 80-IB. According to the appellant(s) since no excise duty/customs  

duty  was  payable  on  raw  materials  consumed/utilized  in  manufacturing  

goods exported out  of  India,  the duty paid stood refunded under Section  

37(2)(xvia)  of the Central  Excise Act,  1944 and under Section 75 of the  

Customs Act, 1962 read with Customs, Central Excise Duties and Service  

Tax Drawback Rules, 1995.  

8. On the nature of DEPB it was submitted that  the amount of DEPB  

was granted under Exim-Policy issued in terms of powers conferred under  

Section 5 of the Foreign Trade (Development and Regulation) Act, 1992.  

According  to  the  appellant(s),  the  DEPB  Scheme  is  a  Duty  Remission  

Scheme which allows drawback of import charges paid on inputs used in the  

export product. The object being to neutralize the incidence of customs duty  

on the import content of the export product by way of grant of duty credit.  

The DEPB benefit is freely transferable. Thus, according to the appellant(s),  

duty drawback/DEPB benefit received had to be credited against the cost of  

manufacture of goods/purchases debited to the Profit & Loss account. That,  

such  credit  was  not  an  independent  source  of  profit.  In  this  connection  

reliance  has  been  placed  on  Accounting  Standard-2  issued  by  ICAI  on  

“valuation of  inventories” which indicates  that  while determining cost  of  

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purchase,  cost  of  conversion  and  other  costs  incurred  in  bringing  the  

inventories to their present location and condition should be considered and  

that  trade discounts,  rebates,  duty drawback and such other  similar  items  

have to be deducted in determining the cost of purchase. Placing reliance on  

AS-2,  it  was  submitted  that  where  excise  duty  paid  was  subsequently  

recoverable  by  way  of  drawback,  the  same  would  not  form part  of  the  

manufacturing  cost.  It  was  submitted  on  behalf  of  the  appellant(s)  that  

payment of excise duty/customs duty on inputs consumed in manufacture of  

goods  by  an  industrial  undertaking  eligible  for  deduction  under  Section  

80-IB,  was  inextricably  linked  to  the  manufacturing  operations  of  the  

eligible  undertaking  without  which  manufacturing  operations  cannot  be  

undertaken, hence the duty, which was paid in the first instance and which  

had direct nexus to the manufacturing activity when received back, had first  

degree  nexus  with  the  industrial  activity  of  the  eligible  undertaking  and  

consequently  the  reimbursement  of  the  said amount cannot  be treated  as  

income of the assessee(s) dehors the expense originally incurred by way of  

payment of duty. Consequently, according to the appellant(s), receipt of duty  

drawback/DEPB  stood  linked  directly  to  the  manufacture/production  of  

goods  and  therefore  had  to  be  regarded  as  profits  derived  from eligible  

undertaking qualifying for deduction under Section 80-IB of the 1961 Act.  

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On  behalf  of  the  appellant(s)  it  was  further  submitted  that  this  Court’s  

decision in Sterling Food (supra) dealt with availability of deduction under  

Section 80-HH with respect to profit on sale of import entitlements. The said  

decision, according to the appellant, had no applicability to the issue under  

consideration for the reason that import entitlement/REP licence was granted  

by the Government on the basis of exports made;  the same were granted  

gratuitously without antecedent cost having being incurred by the industrial  

undertaking, unlike duty drawback and DEPB, which had direct link to the  

costs  incurred  by  such  industrial  undertaking  by  way  of  payment  of  

customs/excise duty in respect of duty paid inputs used in the manufacture  

of goods meant for export and in such circumstances, profit  from sale of  

import entitlements/REP licence was in the nature of windfall and it was in  

those circumstances, that the apex Court held that source of profit on sale of  

import entitlements was not the industrial undertaking but the source was the  

Export Promotion Scheme. According to the appellant(s), in the case of sale  

of import entitlements/REP licence, the source was the Scheme framed by  

Government  of  India  whereas  in  the  case  of  DEPB/duty  drawback,  the  

source  was  the  fact  of  payment  of  duty  in  respect  of  inputs  

consumed/utilized in the manufacture of goods meant for export. That, but  

for such payments of duty on inputs used in the manufacture of goods meant  

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for exports, industrial undertaking(s) would not be entitled  to the benefit of  

duty drawback/DEPB, notwithstanding, the Export Promotion Scheme of the  

Government and, therefore, there was a direct and immediate nexus between  

payment of duty on such inputs and receipt of duty drawback/DEPB. In this  

connection reliance was placed on the judgment of the Gujarat High Court in  

the case of  CIT  v.  India Gelatine and Chemicals Ltd. reported in 275  

ITR 284. Lastly, it was submitted on behalf of the appellant(s) that there was  

no difference between Advance Licence Scheme and duty drawback/DEPB.  

In  this  connection  it  was  urged  that  duty  drawback  regime required  the  

industrial  undertaking to pay in the  first  instance the duty on inputs and  

thereafter seek reimbursement on profit of goods manufactured using such  

duty  paid  inputs,  having  been  exported.  The  industrial  undertaking  

alternatively  could  avail  of  Advance  Licence  Scheme  whereunder  the  

industrial  undertaking could import  inputs  to be used for  manufacture  of  

goods  meant  for  export  without  payment  of  duty.  In  the  case  where  the  

industrial undertaking enjoyed the benefit of Advance Licence Scheme, the  

profit as shown in Profit & Loss account was regarded as income derived  

from industrial undertaking entitled to deduction under Section 80-IB of the  

1961  Act  without  any  adjustment  whereas  when  the  same  industrial  

undertaking  when  it  opts  for  duty  drawback  is  denied  the  benefit  of  

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deduction under Section 80-IB on the duty remitted.

9. On behalf of the appellant(s) it was submitted that Section 80-IB was  

different from Section 80-I in the sense that under Section 80-IB, income  

derived  from  business  of  an  industrial  undertaking  was  admissible  for  

deduction whereas under Section 80-I deduction was allowable to income  

derived from industrial  undertaking.  Hence,  according to  the  appellant(s)  

provision  of  Section  80-IB was  much wider  in  scope  than  Section  80-I.  

According to the appellant(s) Section 80-IB was wider than Section 80-I as  

the  Legislature  intended  to  give  benefit  of  deduction  not  only  to  profits  

derived from the undertaking but also to give benefit of deduction in respect  

of incomes having direct nexus with the profits of the undertaking, hence, all  

incomes that  arose  during  the  course  of  running of  the  eligible  business  

would be eligible for deduction under Section 80-IB, which would include  

income arising on sale of DEPB at premium.

10. In reply, Shri Gourab Banerji, learned Additional Solicitor General,  

submitted that, for application of the words “derived from” there must be a  

direct nexus between the profit and the industrial undertaking. According to  

the learned senior counsel, merely because under the Scheme to encourage  

exports  a  certain  amount  was  repaid  as  “duty  drawback”,  it  cannot  be  

regarded  as  profit  “derived  from”  the  industrial  undertaking.  It  may  

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constitute profit from business under Section 28, but it cannot be construed  

as profits “derived from” the industrial undertaking, for its immediate and  

proximate  source  was  not  the  industrial  undertaking  but  the  scheme  for  

“duty drawback”. According to the learned counsel, this position was placed  

beyond  doubt  by  a  judgment  of  this  Court  in  Sterling  Food (supra).  

Therefore,  according to the learned counsel,  the source of duty drawback  

was  not  the  industrial  undertaking but  the  duty  drawback scheme of  the  

Central  Government  whereunder  the  duty  drawback  entitlement  became  

available. According to the learned counsel, duty drawback, therefore, would  

stand on the same footing as import entitlements and could not be said to be  

derived  from  industrial  undertaking.  Reliance  was  also  placed  on  the  

judgment of this Court in Pandian Chemicals Ltd. v.  CIT reported in 262  

ITR 278. According to the learned counsel, duty drawback was a matter of  

policy, hence, the proximate and immediate source of duty drawback cannot  

be industrial undertaking. On interpretation of Section 80-IB, learned senior  

counsel submitted that what was relevant for Section 80-IB(1) was profits  

derived from an eligible business. According to the learned counsel, various  

eligible  businesses  are  enumerated  in  sub-sections  (3)  to  (11)  of  Section  

80-IB.  A  perusal  of  sub-sections  (3),  (4)  and  (5)  would  also  show that  

eligible business under those provisions means certain specific undertakings.  

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In contrast, sub-sections (6) and (7) cover the business of a ship, hotel etc.  

Thus, for all practical purposes, according to the learned counsel, the section  

has  used  the  words  “eligible  business”  and  “industrial  undertaking”  

interchangeably  and,  therefore,  there  is  no  material  difference  between  

Section 80-I and Section 80-IB as in both cases profits have to be derived  

from an industrial undertaking.

11. Relevant provisions of the Income Tax Act, 1961:

Deductions to be made with reference to the income included  in the gross total income.

80-AB. Where any deduction is required to be made or allowed  under any section included in this Chapter under the heading “C.- Deductions  in  respect  of  certain  incomes”  in  respect  of  any  income of the nature specified in that section which is included in  the  gross  total  income  of  the  assessee,  then,  notwithstanding  anything contained in that section, for the purpose of computing  the  deduction  under  that  section,  the  amount  of  income of  that  nature as computed in accordance with the provisions of this Act  (before making any deduction under this Chapter) shall alone be  deemed to be the amount of income of that nature which is derived  or received by the assessee and which is included in his gross total  income.

Deduction  in  respect  of  profits  and  gains  from  industrial  undertakings after a certain date, etc.

80-I. (1) Where the gross total income of an assessee includes any  profits and gains derived from an industrial undertaking or a ship  or the business of a hotel or the business of repairs to ocean-going  vessels or other powered craft, to which this section applies, there  shall,  in  accordance  with  and  subject  to  the  provisions  of  this  section, be allowed, in computing the total income of the assessee,  a  deduction from such profits  and gains  of  an amount  equal  to  twenty per cent thereof :

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Provided that  in the case of an assessee,  being a company,  the  provisions of this sub-section shall have effect in relation to profits  and gains derived from an industrial undertaking or a ship or the  business of a hotel as if for the words “twenty per cent”, the words  “twenty-five per cent” had been substituted.

Deductions  in  respect  of  profits  and  gains  from  industrial  undertakings  or  enterprises  engaged  in  infrastructure  development, etc.

80-IA  (1) Where  the  gross  total  income  of  an  assessee  includes any profits and gains derived by an undertaking or an  enterprise  from  any  business  referred  to  in  sub-section  (4)  (such  business  being  hereinafter  referred  to  as  the  eligible  business),  there shall,  in accordance with and subject to the  provisions of this section, be allowed, in computing the total  income of  the assessee,  a  deduction of  an amount  equal  to  hundred per cent of the profits and gains derived from such  business for ten consecutive assessment years.  

xxx

(4) This section applies to-

(i) any enterprise carrying on the business of (i) developing or  (ii) operating and maintaining or (iii) developing, operating and  maintaining   any  infrastructure  facility  which  fulfils  all  the  following conditions, namely :-

(a)  it  is  owned  by  a  company  registered  in  India  or  by  a  consortium of such companies;  

(b)  it  has  entered  into  an  agreement  with  the  Central  Government or a State Government or a local authority or any  other  statutory  body for  (i)  developing  or  (ii)  operating  and  maintaining  or  (iii)  developing,  operating  and  maintaining  a  new infrastructure facility;  

(c)  it  has  started  or  starts  operating  and  maintaining  the  infrastructure facility on or after the 1st day of April, 1995:

Provided that where an infrastructure facility is transferred on  or  after  the  1st  day  of  April,  1999  by  an  enterprise  which  developed such infrastructure facility (hereafter referred to in  this section as the transferor enterprise) to another enterprise  (hereafter  in  this  section  referred  to  as  the  transferee  enterprise)  for  the purpose of operating and maintaining the  infrastructure  facility  on  its  behalf  in  accordance  with  the  agreement  with  the  Central  Government,  State  Government,  

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local authority or statutory body, the provisions of this section  shall  apply  to  the  transferee  enterprise  as  if  it  were  the  enterprise to which this clause applies and the deduction from  profits  and  gains  would  be  available  to  such  transferee  enterprise for the unexpired period during which the transferor  enterprise  would  have been entitled to  the deduction,  if  the  transfer had not taken place.

Explanation.-For  the  purposes  of  this  clause,  "infrastructure  facility" means-

(a) a road including toll road, a bridge or a rail system;

(b) a highway project including housing or other activities  being an integral part of the highway project;

(c)  a  water  supply  project,  water  treatment  system,  irrigation project, sanitation and sewerage system or solid  waste management system;

(d) a port, airport, inland waterway or inland port;  

(ii)  any  undertaking  which  has  started  or  starts  providing  telecommunication services whether basic or cellular, including  radio  paging, domestic  satellite  service,  network  of  trunking,  broadband network and internet services on or after the 1st  day of April,  1995, but on or before the 31st day of March,  2003.  

Explanation.-For  the  purposes  of  this  clause,  “domestic  satellite” means a satellite owned and operated by an Indian  company for providing telecommunication service;

(iii) any undertaking which develops, develops and operates or  maintains and operates an industrial park or special economic  zone  notified by the Central Government in accordance with  the scheme framed and notified by that Government for  the  period beginning on the 1st day of April, 1997 and ending on  the 31st day of March, 2006:

Provided that  in  a  case where  an undertaking develops  an  industrial park on or after the 1st day of April, 1999 or a special  economic  zone  on  or  after  the  1st  day  of  April,  2001  and  transfers the operation and maintenance of such industrial park  or such special economic zone, as the case may be, to another  undertaking  (hereafter  in  this  section  referred  to  as  the  transferee undertaking),  the deduction under  sub-section (1)  shall  be  allowed  to  such  transferee  undertaking  for  the  remaining period in the ten consecutive assessment years as if  the operation and maintenance were not so transferred to the  transferee undertaking;  

(iv) an  undertaking  which,-

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(a)  is  set  up  in  any  part  of  India  for  the  generation  or  generation and distribution  of  power  if  it  begins  to generate  power at any time during the period beginning on the 1st day  of April, 1993 and ending on the  31st day of March, 2006  ;

(b) starts transmission or distribution by laying a network of  new transmission or distribution lines at any time during the  period beginning on the 1st day of April, 1999 and ending on  the 31st day of March, 2006  :

Provided that  the  deduction  under  this  section  to  an  undertaking   under  sub-clause  (b)  shall  be  allowed  only  in  relation to the profits derived from laying of such network of  new lines for transmission or distribution;

(5) Notwithstanding anything contained in any other provision  of this Act, the profits and gains of an eligible business to which  the provisions of sub-section (1) apply shall, for the purposes of  determining the quantum of deduction under that sub-section  for  the  assessment  year  immediately  succeeding  the  initial  assessment  year  or  any  subsequent  assessment  year,  be  computed as if such eligible business were the only source of  income of the assessee during the previous year relevant to the  initial  assessment  year  and to every subsequent  assessment  year  up to and including the assessment  year  for  which the  determination is to be made.

Deduction in  respect  of  profits  and gains  from certain  industrial  undertakings  other  than  infrastructure  development undertakings  

80-IB (1) Where  the  gross  total  income  of  an  assessee  includes  any  profits  and  gains  derived  from  any  business  referred to in sub-sections (3) to (11) and (11A) (such business  being  hereinafter  referred  to  as  the eligible  business),  there  shall, in accordance with and subject to the provisions of this  section,  be  allowed,  in  computing  the  total  income  of  the  assessee, a deduction from such profits and gains of an amount  equal to such percentage and for such number of assessment  years as specified in this section.

(2)This  section  applies  to  any  industrial  undertaking  which  fulfils all the following conditions, namely: -

(i) it is not formed by splitting up, or the reconstruction, of a  business already in existence :

Provided that this condition shall not apply in respect of an  industrial  undertaking which is formed as a result  of  the re- establishment, reconstruction or revival by the assessee of the  business of any such industrial undertaking as is referred to in  section  33B,  in  the  circumstances  and  within  the  period  specified in that section;

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(ii)  it  is  not  formed  by  the  transfer  to  a  new  business  of  machinery or plant previously used for any purpose;

(iii) it manufactures or produces any article or thing, not being  any  article  or  thing  specified  in  the  list  in  the  Eleventh  Schedule, or operates one or more cold storage plant or plants,  in any part of India :

Provided that the condition in this clause shall, in relation to a  small scale industrial undertaking or an industrial undertaking  referred to in sub-section (4) shall apply as if the words "not  being any article or thing specified in the list  in the Eleventh  Schedule" had been omitted.

Explanation 1.-For the purposes of clause (ii), any machinery or  plant which was used outside India by any person other than  the  assessee shall  not  be  regarded  as  machinery  or  plant  previously used for any purpose, if the following conditions are  fulfilled, namely:-

(a) such machinery or plant was not, at any time previous to  the date of the installation by the assessee, used in India;

(b) such machinery or plant is imported into India from any  country outside India; and

(c) no deduction on account of depreciation in respect of such  machinery or plant has been allowed or is allowable under the  provisions  of  this  Act  in  computing the  total  income of  any  person for any period prior to the date of the installation of the  machinery or plant by the assessee.

Explanation 2.-Where in the case of an industrial undertaking,  any machinery or plant or any part thereof previously used for  any  purpose  is  transferred  to  a  new business  and  the  total  value of the machinery or plant or part so transferred does not  exceed twenty per cent of the total value of the machinery or  plant used in the business, then, for the purposes of clause (ii)  of  this  sub-section,  the  condition  specified  therein  shall  be  deemed to have been complied with;

(iv)  in a case where the industrial undertaking manufactures  or produces articles or things,  the undertaking employs ten or  more workers in a manufacturing process carried  on with the  aid  of  power,  or  employs  twenty  or  more  workers  in  a  manufacturing process carried on without the aid of power.

(3)   The  amount  of  deduction  in  the  case  of  an  industrial  undertaking shall  be twenty-five per cent  (or  thirty per cent  where the assessee  is  a  company),  of  the profits  and gains  derived  from such  industrial  undertaking for  a  period  of  ten  

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consecutive  assessment  years  (or  twelve  consecutive  assessment years where the assessee is a co-operative society)  beginning  with  the  initial  assessment  year subject  to  the  fulfillment of the following conditions, namely: -

(i)  it begins to manufacture or produce, articles or things or to  operate  such  plant  or  plants  at  any  time during  the  period  beginning from the 1st day of April, 1991 and ending on the  31st day of March, 1995 or such further period as the Central  Government may, by notification in the Official Gazette, specify  with reference to any particular undertaking;

(ii)  where it  is  an industrial  undertaking being a small  scale  industrial  undertaking,  it  begins  to  manufacture  or  produce  articles  or  things  or  to  operate  its  cold  storage  plant   not  specified  in  sub-section  (4)  or  sub-section  (5)   at  any time  during the period beginning on the 1st day of April, 1995 and  ending on the 31st day of March, 2002 .

xxx

(13)  The  provisions  contained  in  sub-section  (5)  and  sub- sections (7) to (12) of section 80-IA shall, so far as may be,  apply to the eligible business under this section.

Discussions and Findings:

12. In this batch of Civil Appeals we are concerned with admissibility of  

the amounts of duty drawback and DEPB for deduction under Section 80-IB.

13. Before analyzing Section 80-IB, as a prefatory note,  it  needs to be  

mentioned  that  the  1961  Act  broadly  provides  for  two  types  of  tax  

incentives,  namely,  investment  linked  incentives  and  profit  linked  

incentives. Chapter VI-A which provides for incentives in the form of tax  

deductions essentially belong to the category of “profit linked incentives”.  

Therefore, when Section 80-IA/80-IB refers to profits derived from eligible  

business,  it  is  not  the  ownership  of  that  business  which  attracts  the  

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incentives.  What  attracts  the  incentives  under  Section 80-IA/80-IB is  the  

generation  of  profits  (operational  profits).  For  example,  an  assessee  

company  located  in  Mumbai  may  have  a  business  of  building  housing  

projects or a ship in Nava Sheva. Ownership of a ship per se will not attract  

Section 80-IB(6). It is the profits arising from the business of a ship which  

attracts sub-section (6). In other words, deduction under sub-section (6) at  

the  specified  rate  has  linkage  to  the  profits  derived  from  the  shipping  

operations. This is what we mean in drawing the distinction between profit  

linked  tax  incentives  and  investment  linked  tax  incentives.  It  is  for  this  

reason  that  Parliament  has  confined  deduction  to  profits  derived  from  

eligible businesses mentioned in sub-sections (3) to (11A) [as they stood at  

the relevant time]. One more aspect needs to be highlighted.  Each of the  

eligible business in sub-sections (3) to (11A) constitutes a stand-alone item  

in the matter of computation of profits. That is the reason why the concept of  

“Segment Reporting” stands introduced in the Indian Accounting Standards  

(IAS) by the Institute of Chartered Accountants of India (ICAI).

14. Analysing Chapter VI-A, we find that Sections 80-IB/80-IA are the  

Code by themselves as they contain both substantive as well as procedural  

provisions. Therefore, we need to examine what these provisions prescribe  

for  “computation  of  profits  of  the  eligible  business”.  It  is  evident  that  

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Section 80-IB provides for allowing of deduction in respect of profits and  

gains  derived  from the  eligible  business.  The  words  “derived  from”  is  

narrower in connotation as compared to the words “attributable to”. In other  

words, by using the expression “derived from”, Parliament intended to cover  

sources  not beyond  the  first  degree.  In  the  present  batch  of  cases,  the  

controversy  which  arises  for  determination  is:  whether  the  DEPB credit/  

Duty drawback receipt comes within the first degree sources? According to  

the  assessee(s),  DEPB credit/duty  drawback receipt  reduces  the  value  of  

purchases (cost neutralization), hence, it comes within first degree source as  

it increases the net profit proportionately. On the other hand, according to  

the Department, DEPB credit/duty drawback receipt do not come within first  

degree source as the said incentives flow from Incentive Schemes enacted by  

the  Government  of  India  or  from Section 75 of  the  Customs Act,  1962.  

Hence, according to the Department, in the present cases, the first degree  

source  is  the  incentive  scheme/provisions  of  the  Customs  Act.  In  this  

connection, Department places heavy reliance on the judgment of this Court  

in  Sterling Food (supra). Therefore, in the present cases, in which we are  

required to examine the eligible business of an industrial undertaking, we  

need to trace the source of the profits to manufacture. (see CIT v. Kirloskar  

Oil Engines Ltd. reported in [1986] 157 ITR 762)

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15. Continuing our analysis of Sections 80-IA/80-IB it may be mentioned  

that  sub-section  (13)  of  Section  80-IB  provides  for  applicability  of  the  

provisions of sub-section (5) and sub-sections (7) to (12) of Section 80-IA,  

so far as may be, applicable to the eligible business under Section 80-IB.  

Therefore, at the outset, we stated that one needs to read Sections 80I, 80-IA  

and 80-IB as having a common Scheme. On perusal  of sub-section(5) of  

Section 80-IA, it is noticed that it provides for manner of computation of  

profits of an eligible business. Accordingly, such profits are to be computed  

as if such eligible business is the only source of income of the assessee.  

Therefore,  the devices adopted to reduce or inflate  the profits  of eligible  

business has got to be rejected in view of the overriding provisions of sub-

section (5) of Section 80-IA, which are also required to be read into Section  

80-IB. [see Section 80-IB(13)]. We may reiterate that Sections 80I, 80-IA  

and 80-IB have a common scheme and if so read it is clear that the said  

sections provide for incentives in the form of deduction(s) which are linked  

to profits and not to investment. On analysis of Sections 80-IA and 80-IB it  

becomes clear that any industrial undertaking, which becomes eligible on  

satisfying sub-section(2), would be entitled to deduction under sub-section  

(1) only to the extent  of profits  derived from such industrial  undertaking  

after specified date(s). Hence, apart from eligibility, sub-section(1) purports  

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to restrict the quantum of deduction to a specified percentage of profits. This  

is  the  importance  of  the  words  “derived  from industrial  undertaking”  as  

against “profits attributable to industrial undertaking”.

16. DEPB is an incentive. It is given under Duty Exemption Remission  

Scheme. Essentially, it is an export incentive. No doubt, the object behind  

DEPB is to neutralize the incidence of customs duty payment on the import  

content of export product. This neutralization is provided for by credit to  

customs duty against export product. Under DEPB, an exporter may apply  

for credit as percentage of FOB value of exports made in freely convertible  

currency.  Credit  is  available only against  the export  product  and at  rates  

specified  by  DGFT for  import  of  raw materials,  components  etc..  DEPB  

credit  under  the  Scheme has  to  be calculated by taking into  account  the  

deemed import content of the export product as per basic customs duty and  

special additional duty payable on such deemed imports. Therefore, in our  

view, DEPB/Duty Drawback are incentives which flow from the Schemes  

framed by Central  Government  or  from Section  75  of  the  Customs Act,  

1962,  hence,  incentives  profits  are  not  profits  derived  from the  eligible  

business  under  Section  80-IB.  They  belong  to  the  category  of  ancillary  

profits of such Undertakings.

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17. The  next  question  is  –  what  is  duty  drawback?  Section  75  of  the  

Customs Act, 1962 and Section 37 of the Central Excise Act, 1944 empower  

Government of India to provide for repayment of customs and excise duty  

paid by an assessee. The refund is of the average amount of duty paid on  

materials  of  any  particular  class  or  description  of  goods  used  in  the  

manufacture of export goods of specified class. The Rules do not envisage a  

refund of an amount arithmetically equal to customs duty or central excise  

duty actually paid by an individual importer-cum-manufacturer. Sub-section  

(2) of Section 75  of the Customs Act requires the amount of drawback to be  

determined  on  a  consideration  of  all  the  circumstances  prevalent  in  a  

particular trade and also based on the facts situation relevant in respect of  

each of  various  classes  of  goods  imported.  Basically,  the  source  of  duty  

drawback receipt lies in Section 75 of the Customs Act and Section 37 of the  

Central Excise Act.

18. Analysing the concept of remission of duty drawback and DEPB, we  

are satisfied that the remission of duty is on account of the statutory/policy  

provisions  in  the  Customs  Act/Scheme(s)  framed  by  the  Government  of  

India.  In the circumstances,  we hold that profits  derived by way of such  

incentives do not fall within the expression “profits derived from industrial  

undertaking” in Section 80-IB.

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19. Since reliance was placed on behalf of the assessee(s) on AS-2 we  

need to analyse the said Standard.

20. AS-2 deals with Valuation of Inventories.  Inventories are assets held  

for sale in the course of business; in the production for such sale or in form  

of materials or supplies to be consumed in the production.

21. “Inventory” should be valued at the lower of cost and net realizable  

value  (NRV).   The  cost  of  “inventory”  should  comprise  all  costs  of  

purchase,  costs  of  conversion and other  costs  including costs  incurred in  

bringing the “inventory” to their present location and condition.

22. The  cost  of  purchase  includes  duties  and  taxes  (other  than  those  

subsequently recoverable by the enterprise from taxing authorities), freight  

inwards and other expenditure directly attributable to the acquisition.  Hence  

trade discounts, rebate, duty drawback, and such similar items are deducted  

in determining the costs of purchase.  Therefore, duty drawback, rebate etc.  

should  not  be  treated  as  adjustment  (credited)  to  cost  of  purchase or  

manufacture of goods. They should be treated as separate items of revenue  

or income and accounted for accordingly (see: page 44 of Indian Accounting  

Standards & GAAP by Dolphy D’souza).   Therefore, for the purposes of  

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AS-2,  Cenvat  credits  should  not be  included  in  the  cost  of  purchase  of  

inventories.  Even Institute of Chartered Accountants of India (ICAI) has  

issued Guidance Note on Accounting Treatment for Cenvat/Modvat under  

which the inputs consumed and the inventory of inputs should be valued on  

the  basis  of  purchase  cost  net of  specified  duty  on  inputs  (i.e.  duty  

recoverable  from  the  Department  at  later  stage)  arising  on  account  of  

rebates, duty drawback, DEPB benefit etc.  Profit generation could be on  

account  of  cost  cutting,  cost  rationalization,  business  restructuring,  tax  

planning on sundry balances being written back, liquidation of current assets  

etc.  Therefore,  we  are  of  the  view  that  duty  drawback,  DEPB benefits,  

rebates  etc.  cannot  be  credited  against  the  cost  of  manufacture  of  goods  

debited in the Profit & Loss account for purposes of Sections 80-IA/80-IB as  

such  remissions  (credits)  would  constitute  independent  source  of  income  

beyond the first degree nexus between profits and the industrial undertaking.

23. We are of the view that Department has correctly applied AS-2 as  

could be seen from the following illustration:

Expenditure Amount  (Rs.)

Income Amount  (Rs.)

Opening stock 100 Sales 1,000

Purchases (including customs  duty paid)

500 Duty Drawback  received

100

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Manufacturing overheads 300 Closing stock 200

Administrative, Selling and  Distribution Exp.

200

Net profit 200

1,300 1,300

Note: In above example, Department is allowing deduction on profit of Rs. 100           under Section 80-IB of the 1961 Act.

24. In  the  circumstances,  we  hold  that  Duty  drawback  receipt/DEPB  

benefits do not form part of the net profits of eligible industrial undertaking  

for the purposes of Sections 80I/80-IA/80-IB of the 1961 Act.  

25. The appeals are, accordingly, dismissed with no order as to costs.

                                                                               ………………….J.                                                                                 (S.H. Kapadia)

                                                                                ………………….J.                                                                                  (Aftab Alam)

New Delhi; August 31, 2009

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