Income accrues to Agent when payment due to Principal realized

AIT News Network

MUMBAI. Mr Vimal Gandhi President of ITAT as Third Member has ruled that the  income accrued to the assessee when payment due to its principal was realized by the assessee and he was in a position to retain his commission.

On account of the difference between the Members of ITAT, the following questions were  referred to President:

            “1. Whether, on the facts and in the circumstances of the case and in law, the commission income under the agreement dated 31.5.1994 accrued to the assessee when it was received by it from its clients as held by the Judicial Member OR accrued at the time of acceptances of the solicited advertisement by the principal though could be assessed in the year in which such advertisement was telecast as held by the Accountant Member?

            2. Whether, on the facts and in the circumstances of the case and in law, the assessee is entitled to deduction of advertisement expenses amounting to Rs.9,03,02,000 /- for A.Y. 1998-99 and 9,38,05,000 A.Y. 1999-2000 u /s. 37 of the Income Tax Act, 1961?”    

T H E  F A C T S : The assessee was a non-resident company engaged in the business of (i) Procuring and collecting advertisement revenue on behalf of Satellite Television Asian Region Advertising Sales (‘STAR”), Hong Kong; and (iii) Acting as a licensee in India in respect of STAR MOVIES pay channel.  The assessee entered into an agreement on 31.5.1994 with a non-resident with the name Star Advertising Sales B.V. of Netherlands, which had exclusive rights in India from Satellite Television Asian Region Ltd. of Hong Kong for television advertising on various television channels.  The assessee was appointed as one of the agents in India to market television advertising for the channels.  This arrangement had the approval of the RBI as per their approval letter dated 22.7.1994.

As per Clauses of Agreement; the Agent was entitled to retain fifteen percent of the net invoiced amount paid by the clients as commission                                   

The assessee in the years under consideration as also in the earlier years followed mercantile system of accounting.  In the past, assessee took accrual of commission income on the dates when the advertisements were telecast by the principal and accordingly commission income was offered for taxation.  The assessee subsequently realized that income did not accrue to it on the date of telecast of advertisements booked, but accrued when payment was received from clients.  Accordingly, in the years under consideration, the assessee claimed that income accrued from commission from its principal on the date when the money was realized by it from the clients.  After giving appropriate notes, the assessee returned income on above basis i.e. taking accrual of income when realized from the clients and to that extent method of computation of income was changed. 

 When called upon to justify above change in policy, the assessee explained that under clause 8 of agreement with its principal commission @15% of net invoice amount accrued to the assessee when amount was paid by clients.  Unless the amount was paid there was no accrual of income.

The AO held that income accrued to the assessee on the dates when advertisements booked were telecast.  This resulted in addition of Rs.8,10,11,000, Rs.8,30,00,449 and Rs.35,48,804 for A.Ys 1997-98, 1998-99 and 1999-2000 respectively.  

T H E  R U L I N G:

The main controversy involved here is at what point of time, income accrued to the assessee.  According to the assessee, commission income under the agreement could accrue to the assessee as per clause 8 of the agreement which provided that the agent (assessee) shall be entitled to retain 15% of net invoice amount paid by clients as commission.  So the case of the assessee as accepted by the learned Judicial Member in the proposed order is that income cannot accrue under the agreement unless assessee is in a position to exercise his right to retain 15% of net invoice amount paid by assessee’s principal clients.  The stand of the revenue, as supported by proposed order of learned A.M. is that income would accrue to the assessee as soon as advertisements are solicited by the assessee for principal is to be read as a whole to determine its legal implication.

For determining accrual of income, the agreement and in particular, “clauses containing terms of payment are required to be construed.”  Applying above principle here in the present case, it is seen as per clause 8, the assessee is entitled to i.e. he gets a right to retain “15% of net invoice amount paid by the clients as commission”.  Thus commission is required to be worked and right of assessee to receive commission is dependent on payment of charges by clients of assessee’s principal.  So it is clearly provided that right to receive / retain income would accrue after the amount is paid by assessee’s client.  It cannot accrue prior to or before payment is made by the assessee’s client.  The payment or realization of amount from client for the advertisement aired in TV Channel is a condition precedent for accrual of income in this case.  Though clause 8 of the agreement is in clear terms and is sufficient to indicate as to when income would accrue to the assessee, other terms of the agreement also support the same inference. 

It is difficult to hold that assessee has no obligation to realize amounts from clients and that role of the assessee is over, as soon as assessee solicits TV advertisements from the customers for telecast in Star TV channel. 

Realization of amount and remittance is very much part of the job required to be performed by the assessee and having regard to the wording of the agreement assessee becomes entitled or acquires right to retain 15% of amount realized on account of principal.  No right can be said to have accrued to the assessee before the amount is actually realized and assessee is in a position to remit the same to its foreign principal.

 It is nowhere provided that assessee would be entitled to receive its commission even if advertisements solicited by the assessee are not telecast or amount is not realized by the assessee’s principal.  There is no clause in the agreement which would indicate that commission would accrue to the assessee as soon as advertisements are solicited by the assessee. In the agreement there are further steps to be taken and advertisements solicited are required to be sent for approval by the principal.  The principal under the agreement is not only to approve the advertisement solicited by the assessee but also to raise invoices the advertisement solicited by assessee but also to raise invoices within 30 days from the date on which advertisement is so telecast.  The principal has also to issue instructions to the client to make payment thereof to its agent (assessee).  The assessee is further obliged o collect all the sums due to its principal.  It is not possible to ignore all the above mentioned clauses of the agreement and hold that assessee acquires right to receive income as soon as advertisements are solicited by the assessee and that other situations provided in the agreement relate only to “future uncertainties, difficulties and delays” and these would have no effect on the accrual of income.  Other clauses cannot be understood to be relating to relinquishment of income after its accrual.

It has rightly been held by the learned Judicial Member that income accrued to the assessee when payment due to its principal was realized by the assessee and he was in a position to retain his commission.    

As far as second question relating to disallowance of expenses is claimed, I find that there is no dispute about the genuineness of the expenditure incurred by the assessee.  There can further be no dispute that expenditure incurred by the assessee on advertisement made had direct nexus with earning of income by the assessee.  It is possible that expenditure on advertisement might have also benefited the principal of the assessee but on above ground, the expenditure incurred by the assessee could not be disallowed.  The assessee clearly incurred expenses wholly and exclusively for purposes of its business and, therefore, was entitled to deduction of expenditure claimed in computing its income. 

(  Click here for full text of ruling AIT-2006-199-ITAT )