Friday, April 26, 2013

Arithmetic Mean of ALPs to be determined even if actual price exceeds one of the ALPs determined by TP method

Proviso to section 92C(2) requiring calculation of arithmetical mean of multiple ALPs (more than 1 ALP) determined as per Most Appropriate Method doesn’t become inapplicable where one of the ALPs determined as per Most Appropriate Method is less than the price indicated by assessee

In the instant case, the most appropriate method, as accepted by both, the assessee and revenue, was the Transactional Net Margin Method. The dispute that arose was with regard to the following observation of the Tribunal:
Where one of the prices determined by the most appropriate method is less than the price as indicated by the assessee. Then there would be no need to adopt the process of taking the arithmetical mean of all the prices arrived at through the employment of the most appropriate method.

The High Court held as under:

1) When more than one price is thrown up by the most appropriate method, the statute requires that the arm's length price shall be taken to be the arithmetical mean of such prices. This is the plain and simple meaning of the proviso to section 92C(2) of the said Act;

2) The Tribunal was wrong in holding that if one profit level indicator of a comparable, out of a set of comparables, was lower than the profit level indicator of the taxpayer, then the transaction reported by the taxpayer was at an arm's length price;

3) The proviso to section 92C(2) is explicit in that where more than one price is determined by most appropriate method, the arm's length price would be taken to be the arithmetical mean of such prices – CIT v. Mentor Graphics ( Noida) (P.) Ltd. [2013] 32 300 (Delhi)

Monday, April 22, 2013

Sec. 73(3) doesn’t contemplate issuance of SCN, except where assessee doesn’t pay ST even after demand

On receipt of intimation under section 73(3), if there is short-payment by assessee, then, instead of issuing show-cause notice straight away, department must send a letter asking assessee to pay such amount

During the periods from April, 2007 to July, 2007 and November to December, 2007, the assessee had utilized Cenvat Credit of certain amount for payment of Service Tax in respect of stock broker service provided by it. It was found that this credit was not admissible to the assessee since it was availed after end of the month and as soon as it was pointed out, the assessee paid the amount with interest. Nonetheless, on verification, it was found that there was a short payment of certain amount and this was pointed out by way of issuing show-cause notice. In the impugned order, penalty of Rs.5000/- was imposed under section 77. 

The Tribunal set aside the penalty with the following observations.

1) As per section 73(3), read with proviso thereto on receipt of intimation under section 73(3), if there was short-payment, then, instead of issuing show-cause notice straight away, department should have sent a letter asking assessee to pay such amount;

2) Further, when the assessee had discharged short-paid service tax along with interest, show-cause notice should have been dropped;

3) Hence, penalty under section 77 could not have been imposed, which was set aside accordingly - VSE Stock Services Ltd. v. Commissioner of Central Excise [2013] 32 187 (Ahmedabad - CESTAT)

Friday, April 19, 2013

RBI guidelines are for FEMA purposes; it can’t be used for share valuation for computing cap gains

RBI Guidelines have been issued for FEMA purposes. No addition to be made for violation of RBI's norms on valuation of shares sold by non-resident to resident

In the instant case, the assessee, a tax resident of Germany has an Indian subsidiary, which was a closely held unlisted company. During the relevant year, the assessee had sold part of the shares held by it in its Indian subsidiary to M/s Sintex Industries Ltd and returned capital gains from such sale on basis of sale price of Rs.390 per share. AO contended that as per RBI’s guidelines, valuation should be Rs.400 per share. DRP made additions @ Rs.10 per share accordingly.

On appeal, the Tribunal held in favour of assessee as under:

1) Undoubtedly, the RBI Guidelines was Guidelines for the banks, issued for FEMA purposes. Since the Guidelines have been issued for FEMA purposes, it was for the FEMA authorities to take appropriate action against the assessee on breach of the Guidelines;

2) No objection whatsoever has been raised by the RBI to the rate of 390/- per share, as maintained by the assessee and the RBI has accorded its approval;

3) Had the alleged difference between the rates existed, thereby constituting a violation of the RBI Guidelines by the assessee, such violation would obviously have been taken care of and the approval would not have been accorded;

4) Sintex Industries Ltd., to whom the shares were sold by the assessee, has not denied such rate of Rs 390/- per share. Rather, such rate stands admitted in the Memorandum of Understanding between the assessee and Sintex Industries Ltd. Nothing adverse or detrimental to the assessee’s case has been brought on record. Thus, the assessee’s appeal was allowed - Zeppelin Mobile System GmbH v. ADIT [2013] 32 250 (Delhi - Trib.)

Monday, April 15, 2013

Withholding tax rate not to include cess and surcharge if treaty is silent on these aspects

In the instant case, the assessee had paid management fee, interest, etc., to a resident of France. However, surcharge was not taken into consideration by assessee while deducting the tax at source. Revenue contended that under the Income-tax Act, the taxpayer is expected to deduct tax after taking into consideration surcharge. Assessee, on the other hand, contended that it was not liable to deduct tax including surcharge as the DTAA between India and France is silent on inclusion of surcharge for the purpose of deduction of tax at source.

On appeal, the Tribunal held in favour of assessee as under:

1) It was not in dispute that there was an agreement between the government of India and Government of France for avoidance of double taxation. It was also not in dispute that the DTAA between the government of India and France didn’t say anything about inclusion of surcharge and education cess for the purpose of deduction of tax at source. Therefore, there was an apparent conflict between the Income-tax Act and DTAA between the two sovereign countries with regard to inclusion of surcharge and education cess for the purpose of deduction of tax at source;

2) In respect of a taxpayer on whom the DTAA applied, the provisions of the Indian Income-tax Act would apply to the extent they were more beneficial to that taxpayer. In other words, if the provisions of DTAA are more beneficial to the taxpayer, then the provisions of DTAA would prevail over the Indian Income-tax Act. Since the DTAA was silent on the surcharge and education cess for the purpose of deduction of tax at source, the taxpayer would take advantage of that provision in the DTAA for deduction of tax – ITO  v. M Far Hotels Ltd. [2013] 32 100 (Cochin - Trib.)

Offshore services not taxable under DTAA, despite being covered in Sec. 9(1)(vii) post-amendment

Income from offshore activities, even though taxable under Sec. 9(1)(vii) in view of the Explanation substituted by the Finance Act, 2010, cannot be taxed in India if it is not effectively connected with its PE in India.

The assessee, a tax resident of Japan, carried out the offshore and onshore contract of supply of equipments and services. In respect to income from offshore contracts, the assessee did not offer to tax any income therefrom by claiming that it had not accrued or arisen in India. It provided that all activities in connection with the offshore supplies were undertaken outside India and project office in India, set-up for onshore contract, had no role to play in respect of such offshore services. Since the transfer of property in goods as well as the payments were carried on outside India, the income from such transaction was not taxable in India.

The Tribunal held in favour of assessee as follows:

Position under Section 9:

1) Before amendment, the provisions of Section 9(1)(vii) envisaged fulfilment of two conditions for treating the payment as ‘Fees for technical services’, viz., the services which were the source of income must have been utilized in India and such services must have been rendered in India;

2) However, the amendment by the Finance Act, 2010 had diluted these twin conditions. Now the rendering of services even outside India would be a good case for bringing the income of NR from fees for technical services within the purview of Sec. 9(1)(vii), if such services were utilized in India;

3) Thus, the payment for offshore service contract, even though carried outside India, would fall within the domain of Sec. 9(1)(vii).

Position under DTAA:

1) The Supreme Court in the case of Ishikawajma-Harima Heavy Industries Ltd v. DIT [2007] 158 TAXMAN 259 (SC) has held that Article 7 – Business Profits would be relevant insofar as the income from offshore services were concerned;

2) Since the entire services rendered outside India were not connected with the permanent establishment (‘PE’) in India, there could not be any taxability of this amount in India;

3) Hence, the income arising from the offshore services would not be taxable in India.

Therefore, the income from the offshore supplies, even though chargeable to tax under Section 9(1)(vii), yet was exempt under the DTAA and could not be charged to tax in view of Section 90(2) – IHI Corporation v. ADIT [2013] 32 132 (Mumbai - Trib.)

Friday, April 12, 2013

Management and repair of private railway sidings by Central Railways are exempt from ST

Prima facie, Central Railway’s services of management and repair of railway sidings owned by private parties were exempt under Notification No.24/2009-ST, because in view of assessee it was an incident of maintenance and repair of railway tracks

In the instant case, the assessee, Central Railways Department, carried out maintenance and repairs of railway sidings owned by private parties. For said activity the revenue demanded service tax under category of management, maintenance or repairs services. On an application for stay, the Tribunal directed the assessee to make a predeposit of 50 per cent of the service tax demanded. Aggrieved by the order of Tribunal, assessee filed the instant appeal.

The High Court directed a waiver of pre-deposit with the following observations:

1. In view of Notification No. 24/2009-ST, as amended on 21-12-2010, management, maintenance or repair of railways was exempted;

2. Prima facie, from 21-12-2010, assessee's work of management and repair of railway sidings owned by private parties was exempt, because in view of assessee it was an incident of maintenance and repair of railway tracks;

3. For period prior thereto, since demand was levied against the Union Ministry of Railways, ends of justice would require that extent of deposit had to be scaled down. Hence, predeposit was waived off in part - Central Railway v. Commissioner of Central Excise & Customs [2013] 32 95 (Bombay)

Thursday, April 11, 2013

Advance booking of a hotel suite is capital asset; its transfer is chargeable to tax

Long-term advance booking of hotel suite, which gave assessee perpetual right of possession and right to transfer same, was capital asset

In the instant case, the assessee had entered into an agreement with 'G' for long-term advance booking of a suite in a hotel complex, permanently reserved for her use, till the agreement subsisted. She had treated profit on sale of such right in the suite as long term capital gain (‘LTCG’) after reducing indexed cost of acquisition, which consisted of security deposit paid to 'G' and maintenance charges paid to hotel. The AO noticed that the assessee had claimed both the benefit of deduction under sec. 24(a) in previous year as well as indexed cost of acquisition on maintenance expenses while computing capital gains. He held that the long term advance booking was not tenancy right and, hence, not a capital asset. Therefore, he treated the profit on surrender of reservation of suite as income from other sources, after deducting the amount of installments, but not the maintenance charges. On appeal, the CIT (A) held that the sale consideration received was taxable as long-term capital gain and assessee was entitled to benefit of indexation. He, however, held that assessee was not entitled to benefit of indexation on amount paid as maintenance charges to hotel. Aggrieved by the order of CIT(A), assessee filed the present appeal.

The Tribunal held in favour of assessee as under:

1) The assessee was entitled to constant use of suite only in consideration of the agreement and the security deposit. Further, the agreement contained covenants as under:

    a) All government, Municipal and other tax or levies in relation to the suite were to be paid by the assessee separately.

    b) Although the booking was in favour of the assessee, yet it could occupy it itself or use the same for its family members or  senior staff and bona fide personal and business guests.

    c) The agreement/advance booking was transferable as and when desired by the assessee in writing.

All these covenants made it abundantly clear that assessee had got right of residence or possession in the suite by virtue of the agreement. This right was transferable at the option of assessee. Thus, this right was akin to the tenancy rights which are a valuable right in the property.

2) Section 2(14) defines 'capital asset' as property of any kind held by an assessee. The term 'property' encompasses in its ambit bundle of rights. The right to dispose of a thing in every legal way, to possess it and to use it to exclude everyone from interfering with it, comes within the ambit of property. The exclusive right of possessing, enjoying and disposing of a thing comes within the term of 'property'. The assessee had perpetual right of possession of suite and was entitled to transfer the same. Therefore, long-term advance booking, by virtue of which assessee got right to possession, was 'capital asset' within the definition of section 2(14) and, therefore, on transfer of the same, LTCG had accrued to the assessee and assessee was, accordingly, entitled to indexation of cost of acquisition. Thus, the department's appeal was dismissed – ACIT v. Shabnam Sachdev [2013] 32 22 (Delhi - Trib.)

Wednesday, April 10, 2013

Loan repaid by the guarantor to lender on default by borrower is ‘capital receipt’ in the hands of borrower

Gillette Co. USA had provided primary security in shape of corporate guarantee for grant of loan to assessee for running its business. On default by assessee in repaying the debts, Gillette USA repaid the bank loan to discharge the corporate guarantee. Amount so paid was to be treated as capital receipt

In the instant case, Gillette Co. USA (‘G’) had provided primary security in shape of guarantee for grant of loan to assessee for running its business.  Since the assessee- company was incurring losses, G considered it prudent to get it discharged from security provided by it in respect of loan taken by assessee. In furtherance thereto G, remitted a sum to various Banks. Banks after receipt of money released corporate guarantee of G. During assessment, AO concluded that remittance of said amount was a revenue receipt. On appeal, CIT(A) held that the remittance was capital receipt not chargeable to tax. Revenue preferred an appeal to the ITAT. So the moot question that arose for consideration of ITAT was as under:

Whether since amount had been paid to bank for discharge of stated corporate guarantee and, moreover, it was not in nature of compensation and was not paid to improve financial position of assessee for running its business, it was to be treated as, a capital receipt?

The Tribunal held in favour of assessee as under:

1) The undisputed fact was that G had provided primary security in the shape of corporate guarantee for the grant of loan to the assessee and the amount had been paid to the bankers for discharge of such corporate guarantee directly. It suggests that the sum remitted was not in the nature of profit but was a capital receipt;

2) The master agreement and the relevant clause of the agreement nowhere suggested that the sum was remitted to the assessee to improve its financial position by discharging its liability and enabling it to earn income. Thus, such finding of the AO was contrary to the material on record;

3) The sum paid was also not in the nature of compensation because there was no obligation on G under any contract to compensate the assessee. Under these circumstances there was no infirmity in the decision of the first appellate authority in treating the sum remitted as capital receipt and, hence, not chargeable to tax;

4) It was only in such circumstances that G remitted the sum to discharge its own liability and, hence, it was not correct to conclude that the assessee had obtained any subsidy or grants in aid or compensation as a result of remittance of sum to the bank. The finding of the CIT(A) on the issue was ,thus, upheld - Luxor Writing Instruments (P.) Ltd. v. Dy. CIT [2013] 31 408 (Delhi - Trib.)

Receipts by landlord for transfer of tenancy right from one tenant to another isn’t taxable as capital gain

Where landlord merely gives consent for transfer of tenancy rights from old tenant to new tenant, such act does not result in transfer of any capital asset

In the instant case, assessee-landlord gave his consent to transfer of tenancy rights from old tenant (‘O) to new tenant (‘N’).  N made payment to O as well as to the assessee. Assessee treated said sum to be a capital receipt and claimed exemption under section 54EC by investing it in NABARD bonds. The AO rejected the assessee's claim by holding that the same was not a capital receipt and, consequently, the claim of exemption under section 54EC wouldn’t arise, instead the amount was chargeable to tax under the head 'Income from other sources'. On appeal, the CIT (A) confirmed the order of AO. Aggrieved by the order of CIT(A), assessee appealed to the ITAT. So, the moot question before Mumbai ITAT was as under:

Whether consent given by assessee-landlord for transfer of tenancy rights would result in transfer of any capital asset or whether amount received was taxable as income from other sources?

The Tribunal held in favour of revenue as under:

1) Generally, in matters of the tenancy right disputes, it is the tenant who gets the financial benefit and the same flows from the pockets of the landlord in lieu of the surrender of the said tenancy rights by the tenant and certainly the landlord does not receive same, but in the instant case benefit was received by landlord. Therefore, the taxation principles relating to the tenancy rights could not apply to this case;

2) The consideration for consent implied no transfer of any capital asset by the landlord to N. Further, the agreement rule out that the impugned consideration for consent was for the rent or towards the rental advance;

3) Therefore, sum received was neither a capital receipt nor a rental receipt. In that sense, the argument of the assessee, that some of the capital rights, out of the bundle of rights relating to the immovable property, were transferred to the new tenant wouldn’t hold water;

4) Therefore, the views of the AO as well as of the CIT(A) on this issue required to be sustained as the consideration for consent, didn’t involve any transfer of capital rights and the amount constituted a windfall gain to the assessee. Thus, the order of the CIT(A) didn’t call for any interference. Therefore the amount received was taxable as income from other sources and not as capital gains - Vinod V. Chhapia v. ITO [2013] 31 415 (Mumbai - Trib.)

Tuesday, April 9, 2013

Sec. 194J not attracted on payments made to film actors for modeling as it isn’t connected with acting in film

Payments for modeling services made to a film actor are not connected with production of cinematograph film. Therefore, sec. 194J not attracted on payments made to film actor for modeling services

In the instant case, the following issue came for consideration of Mumbai ITAT:

Whether payments made to actor-model for rendering modeling services are outside the scope of section 194J of the Act?

The Tribunal held in favour of assessee as under:

1) Professional services include profession notified under section 44AA, which defines film artist, to mean, inter alia, any person engaged in his professional capacity in the production of cinematograph film as an actor;

2) Total earning of a film actor for services rendered by him isn’t liable to tax deduction under sec. 194J. The payments attracting TDS under 194J are services specific and not person specific;

3) Modeling is display of merchandise. Acting  on the other hand, means,  to act in play or film i.e. to portray a role authored by a story-writer with different purposes and objects and not to display merchandise to boost sales of a  manufacturer/trader of products or services; and

4) Therefore, as modeling payments have nothing to do with acting in a cinematograph film, no TDS liability attracts under section 194J on payments made to a film actor for modeling services - Kodak India (P.) Ltd. v. Dy.CIT [2013] 32 88 (Mumbai - Trib.)

Cremation services are covered in negative list

Cremation services provided by a crematorium operated by any assessee, including a local authority, are covered under negative list under section 66D(q)

In the instant case, the assessee, a charitable association, was operating a crematorium in the town of Halle. It made an application to the Department, seeking information as to the tax reference number under which the last notice of tax assessment was issued to Lutherstadt Eisleben, a local authority, which also operated a crematorium. The Department denied any such information. So, the moot question that arose for consideration of Court was:

Whether a private taxable person which is in competition with a body governed by public law may rely on the second sub-paragraph of Article 4(5) of the Sixth Directive in order to assert that its rights have been infringed upon by the treatment of that body as a non-taxable person or when under taxed?

European Court of Justice held as under

1) Second sub-paragraph of Article 4(5) of the Sixth Directive is intended to ensure compliance with the principle of neutrality of the tax, which, in particular, precludes treating similar supplies of services, which are in competition with each other, differently for VAT purposes;

2) That provision contains derogation from the rule of treatment of bodies governed by public law as non-taxable persons in respect of the activities or transactions engaged in by them as public authorities, where such treatment would lead to significant distortions of competition;

3) Consequently, if the exemption of the economic activity in question from VAT was to give rise to distortions of competition within the meaning of the second sub-paragraph of Article 4(5) of the Sixth Directive, the operation of a crematorium by Lutherstadt Eisleben would be taxable by virtue of same provision;

4) It is for the national Court to determine whether there are economic circumstances which justify, in particular case, an exception to the rule of the treatment of bodies governed by public law as non-taxable persons;

5) Consequently, a private person who is in competition with a body governed by public law and alleges that that body is, in respect of the activities in which it engages in as a public authority, treated as a non-taxable person for VAT purposes or is under taxed is entitled to rely, before the national court, on the basis of second sub-paragraph of Article 4(5) of the Sixth Directive in proceedings, such as the main proceedings, between a private person and the national tax authorities -FINANZAMT EISLEBEN VS. FEUERBESTATTUNGSVEREIN HALLE EV [2013] 30 TAXMANN.COM 226 (ECJ) 

Soul and substance of ‘charity’ is missing in IPL matches; Registration of TN Cricket Association revoked

Soul and substance of ‘charity’ is missing in IPL matches; Registration of TN Cricket Association revoked

IPL is commercial venture to maximize revenues from cricket. Registration of cricket associations conducting IPL matches are liable to be cancelled under section 12AA(3) by invoking the first proviso to section 2(15)

In the instant case, the following issues came for consideration of Chennai ITAT:

a) Whether IPL matches come within conceptual definition of charity vis-a-vis activity of general public utility under section 2(15)?

b) Whether registration of Tamil Nadu Cricket Association conducting IPL matches could be cancelled under section 12AA?

The Tribunal held in favour of revenue as under:

1) The phrase “Advancement of an object of general public utility” used in  the inclusive definition of ‘charitable purpose’  under section 2(15) cannot be divorced from the inherent concept of ‘charitable purpose’;

2) The soul and substance of ‘charity’ is activity carried on by kind and sympathetic people for the help of those in need. None of the activities of an assessee can be considered as charitable purpose if it is devoid of soul and substance of charity;

3) IPL matches are commercial ventures. Nothing ‘charitable’ is there in conducting IPL matches as the soul and substance of charity is missing. Cost of tickets is very high, laymen cannot buy them;

4) Cricket associations are oriented towards maximizing revenue from high ticket prices and advertisements. Free tickets aren’t provided to so-called slum dogs and other poor people to watch IPL.  Instead these are issued to VIPs and dignitaries;

5) IPL teams are owned by different sponsors including industrial houses and film stars. They select players on auction basis and quote highest price for the best players. Capital invested by owners of teams is redeemed by advertisement revenue;

6) By no stretch of imagination IPL matches can be called as activities of public utility carried on by assessee. IPL cricket matches, celebrity cricket matches (involving film stars) do not have any element of public utility. They are either after fame or money;

7) IPL matches are further garnished by cheer girls and fanfare. These are marketing strategies by which cricket associations are trying to sell the game of cricket at the highest amount that could be collected;

8) Thus, registration of Tamil  Nadu Cricket Association was cancelled as IPL matches do not come within the ambit of inclusive definition of charitable purpose under section 2(15) - Tamil Nadu Cricket Association v. DIT(Exemptions) [2013] 32 50 (Chennai - Trib.)

Friday, April 5, 2013

Sec. 80-IB allowed to SSI located in industrially backward State even if it manufactures Schedule XI items

An industrial undertaking recognized as an SSI and situated in an 'industrially backward State' will be eligible for deduction under section 80-IB, even if it manufactures items specified in Eleventh Schedule
In the instant case, the assessee was engaged in manufacturing of items specified in Eleventh Schedule and its manufacturing unit was located in Pondicherry, an 'Industrially backward state'. It was registered as small scale industry (‘SSI’) with the Directorate of Industries and Commerce Pondicherry. It claimed deduction under section 80-IB. The AO held that as the item manufactured by the assessee was an article specified in Schedule XI, it was not eligible for deduction under section 80-IB. On appeal, the CIT(A) allowed the claim of the assessee, on the ground that an SSI or an industrial undertaking situated in an industrially backward state, is eligible for deduction under section 80-IB even if it manufactures items specified in Eleventh Schedule. Revenue appealed to the Tribunal against such order.
The Tribunal held in favour of assessee as under:
  1. The section 80-IB deductions in the case of an undertaking situated in industrially backward area (as specified in VII Schedule) is governed by the provisions of Sec. 80-IB(4). The only requirement in such case is that the industrial undertaking should be located in an industrially backward State;
  2. All SSI units can also take exception to clause (iii) of sub-section (2) of section 80-IB. Once the requirements of SSI are fulfilled, the assessee falls under the first limb of exceptions of proviso to clause (iii). In such a case, the assessee is eligible for deduction even if they manufacture items specified in 11th schedule notwithstanding the location of the undertaking i.e. whether located in an industrially backward State or other states;
  1. The exceptions specified in the proviso to clause (iii) i.e. being "Small Scale Industries" or "located in an industrially backward State" are independent of each order. The assessee is not required to fulfill both of these two conditions. If any one requirements is fulfilled the assessee is eligible for deduction, irrespective of the fulfillment of the other condition; and
  1. Therefore, there is no good and valid reason to interfere with the reasoning of the CIT(A) – Dy.CIT v. Eye Photonics India (P.) Ltd [2013] 31 387 (Chennai - Trib.)

Thursday, April 4, 2013

Improvements which enhance therapeutic efficacy of a medicine are patentable

No patents for improvements to existing medicines other than improvements in therapeutic efficacy in view of higher “patentability” threshold in section 3(d) of the Patents Act.

Novartis’ Patent application for cancer medicine rejected by SC as it was “copy and paste” of Zimmermann patent and mere change in form with no improvement in therapeutic efficacy, hence, hit by section 3(d) of the Patents Act.

In the instant case, the appellant (Novartis) filed the application for grant of patent for Imatinib Mesylate in beta crystalline form at the Chennai Patents Office. The Assistant Controller of Patents and Designs held that the patentability of the alleged invention was disallowed by section 3(d) of the Act. Appellant’s appeal was dismissed by the IPAB. Hence, the appellant filed present SLP to SC against IPAB‘s orders under article 136 of the Constitution.

Supreme Court held against appellant as under:

1) For grant of patent the subject must satisfy the twin tests of “invention” and “patentability”. Something may be an “invention” as the term is generally understood, yet it may not qualify as an “invention” for the purposes of the Act. Further, something may even qualify as an “invention” as defined under the Act, yet may be denied patent for larger considerations as may be stipulated in the Act;

2) After the amendment with effect from Jan 1, 2005, section 3(d) reads as under:

“Section 3. What are not inventions? The following are not inventions within the meaning of this Act,—(d) the mere discovery of a new form of a known substance which does not result in the enhancement of the known efficacy of that substance or the mere discovery of any new property or new use for a known substance or of the mere use of a known process, machine or apparatus unless such known process results in a new product or employs at least one new reactant.”

The aforementioned amendment to section 3(d) is one of the most crucial amendments that saw the Bill through the Parliament and, as noted, the amendment is primarily in respect of medicines and drugs and, to some extent, in respect of chemical substances used in agriculture.

3) There is no force in this submission that section 3(d) is a provision ex majore cautela. In course of the Parliamentary debates, the amendment to section 3(d) was the only provision cited by the Government to allay the fears of the opposition members concerning the abuses to which a product patent in medicines may be vulnerable to. We have, therefore, no doubt in that the amendment/addition made to section 3(d) is meant especially to deal with chemical substances, and more particularly with  pharmaceutical products.

4) The amended portion of section 3(d) clearly sets-up a second tier of qualifying standards for chemical substances/pharmaceutical products in order to leave the door open for true and genuine inventions but, at the same time, to check any attempt at repetitive patenting or extension of the patent term to spurious products. Section 3(d) represents “patentability”, a concept distinct and separate from “invention”.

If clause (d) is isolated from the rest of section 3, and the legislative history behind the incorporation of Chapter II in the Patents Act, 1970, is disregarded, then it is possible to see section 3(d) as an extension of the definition of “invention” and to link section 3(d) with clauses (j) and (ja) of section 2(1);

5) On reading clauses (j) and (ja) of section 2(1) with section 3(d) it would be clear that the Act sets different standards for qualifying as “inventions” in case of things belonging to different classes.  For medicines and drugs and other chemical substances, the Act sets the invention threshold even higher, by virtue of the amendments made to section 3(d) in the year 2005;

6) Imatinib Mesylate is a known substance from the Zimmermann patent itself. Not only is Imatinib Mesylate known as a substance of the Zimmermann patent, but its pharmacological properties are also known in the Zimmermann patent.  In the article published in the Cancer Research journal, the consequential finding is that Imatinib Mesylate does not qualify the test of “invention” as laid down in section 2(1)(j) and section 2(1)(ja) of the Patents Act, 1970;

7) The efficacy of Imatinib was equally known, as is evident from the Zimmermann patent itself. The subject product, that is, beta crystalline form of Imatinib Mesylate, is, thus, clearly a new form of a known substance, i.e., Imatinib Mesylate, of which the efficacy was well known. It, therefore, fully attracts section 3(d) and must be shown to satisfy the substantive provision and the Explanation appended to it.

8) Now, when all the pharmacological properties of beta crystalline form of Imatinib Mesylate are equally possessed by Imatinib in free base form or its salt, where is the question of the subject product having any enhanced efficacy over the known substance of which it is a new form?.

9) On the issue of section 3(d), there appears to be a major weakness in the case of the appellant. There is no clarity at all as to what is the substance immediately preceding the subject product - the beta crystalline form of Imatinib Mesylate? In course of the hearing, the counsel appearing for the appellant greatly stressed fact that in terms of invention, the beta crystalline form of Imatinib Mesylate is two stages removed from Imatinib in free base form. The same is said in the written notes of submissions filed on behalf of the appellant. But this position is not reflected in the subject application, in which all the references are only to Imatinib in free base form (or to the alpha crystalline form of Imatinib Mesylate in respect of flow properties, thermo-dynamic stability and lower hygroscopicity);.

10) What is “efficacy”? Efficacy means1 “the ability to produce a desired or intended result”. Hence, the test of efficacy in the context of section 3(d) would be different, depending upon the result the product under consideration is desired or intended to produce. In other words, the test of efficacy would depend upon the function, utility or the purpose of the product under consideration. Therefore, in the case of a medicine that claims to cure a disease, the test of efficacy can only be “therapeutic efficacy”. The question then arises, what would be the parameter of therapeutic efficacy and what are the advantages and benefits that may be taken into account for determining the enhancement of therapeutic efficacy?

11) With regard to the genesis of section 3(d), more particularly, the circumstances in which section 3(d) was amended to make it even more constrictive than before, we have no doubt in that the “therapeutic efficacy” of a medicine must be judged strictly and narrowly. Our inference that the test of enhanced efficacy in case of chemical substances, especially medicine, should receive a narrow and strict interpretation is based not only on external factors but also on sufficient internal evidences that lead to the same view. It may be noted that the text added to section 3(d) by the 2005 amendment lays down the condition of “enhancement of the known efficacy”;

12) Further, the Explanation requires the derivative to “differ significantly in properties with regard to efficacy”. What is evident, therefore, is that not all advantageous or beneficial properties are relevant, but only such properties that directly relate to efficacy, which in case of medicine is its therapeutic efficacy.

13) In case of chemicals, especially pharmaceuticals, if the product for which patent protection is claimed is a new form of a known substance with known efficacy, then the subject product must pass, in addition to clauses (j) and (ja) of section 2(1), the test of enhanced efficacy as provided for in section 3(d), read with its Explanation. Beta crystalline form of Imatinib Mesylate failed in both the tests of invention and patentability as provided under clauses (j), (ja) of section 2(1) and section 3(d), respectively, and, thus, the appeals filed by Novartis AG failed and were to be dismissed with costs - Novartis AG v. Union of India [2013] 32 1 (SC)

Tuesday, April 2, 2013

Mere classification of account as NPA doesn’t demonstrate uncertainty in collection of interest thereon

In the instant case, the assessee was a Non-Banking Financial Corporation. For the relevant assessment years, AO added interest accrued on non-performing assets (‘NPA’) to the assessee's taxable income. The CIT(A) allowed assessee's appeal holding that the interest accrued on NPA was not exigible to income tax. On revenue’s appeal, the Tribunal upheld the order of CIT(A), and held that no addition could be made in the hands of assessee in respect of unrealized accrued interest when the loan was classified as NPA. Aggrieved by the order of Tribunal, revenue preferred an appeal to the High Court.

The HC held in favour of revenue as under:

1) Mere characterization of an account as NPA wouldn’t by itself sufficient to say that there was uncertainty as regards realization of income or interest income thereon;

2) Accrual of interest is a matter of fact to be decided separately for each case on the basis of examination of the facts and circumstances. The same would require an assessment of the relevant facts and circumstances. Only by assessment of facts and circumstances, the authority could arrive at a decision whether there is uncertainty about accrual of interest income on NPA. Only when there is uncertainty of realization of income or interest income then it is not chargeable to tax;

3) AO hadn’t recorded any finding whether there was any uncertainty in collection of income and, moreover, there was nothing to indicate that the 'interest income' was non-recoverable. The CIT(A) and the Tribunal hadn’t considered the matter in the light of the decision of the Supreme Court in the case of Southern Technologies Ltd. v. Jt. CIT [2010] 187 Taxman 346.

4) Thus, the order of the Tribunal was set aside and the matter was remitted back to the AO for consideration afresh in the light of law laid down by the Supreme Court in Southern Technologies Ltd. (supra) – CIT v. Sakthi Finance Ltd [2013] 31 305 (Madras)