Commissioner of Income Tax vs Oswal Knit India Ltd.

M.M. Kumar, J.—This order shall dispose of IT Appeal Nos. 28 of 2004 and 56 of 2005, filed by the Revenue under s. 260A of the IT Act, 1961 (for brevity, the Act'') against the orders dt. 4th March, 2003 and 2nd April, 2004, passed by the Chandigarh Bench A'' of the income tax Appellate Tribunal (for brevity, ''the Tribunal'') In respect of asst. yrs. 1994-95 and 1995-96 respectively, in the case of the assessee-respondent. It is pertinent to notice that against the order passed by the CIT(A) in respect of asst. yr. 1994-95, the assessee-respondent and Revenue-appellant filed ITA No. 980/Chd/1997 and ITA No. 1079/Chd/1997 respectively, which were dismissed by the Tribunal vide common order dt. 4th March, 2003. Similarly, against the order passed by the CIT(A) in respect of asst. yr. 1995-96, ITA No. 936/Chd/1998 and ITA No. 897/Chd/1998 were filed by the assessee-respondent and Revenue-appellant respectively. Both the appeals were decided by the Tribunal vide common order dt. 2nd April, 2004. The Tribunal has rejected the appeal of the Revenue and partly allowed the assessee''s appeal for statistical purposes. Few facts may first be set out, which are taken from IT Appeal No. 28 of 2004, pertaining to asst. yr. 1994-95. The assessee-respondent is a limited company which had filed its return of income for the asst. yr. 1994-95, declaring income at Rs. 1,47,810. The assessee-respondent derived its income from the manufacturing and trading of hosiery garments such as pullovers, mufflers and blankets etc. The assessment was completed by the AO under s. 143(3) of the Act on 28th Feb., 1997 and addition of Rs. 26,63,090 was made by disallowing deduction under ss. 80HHC and 80-1 of the Act besides other minor additions (A-1). According to the AO, the assessee-respondent did not manufacture flats (knitted sides of pullovers) used in the making of pullovers and had effected purchase of that item from its sister concern. The assessee- respondent had then subjected the raw material like flats to labeling, tailoring, packing, pakki checking, buttons and button holes, linking etc. Holding that the assessee-respondent did not furnish details of the expenses incurred on the aforesaid processes, the AO opined that these processes did not amount to manufacturing activities or production of articles. Accordingly, the AO reached the conclusion that the assessee respondent did not fulfill the basic statutory condition that it must be engaged in the business of manufacture and production of articles. Consequently, the assessee-respondent was not held entitled to deductions in respect of profits from manufacturing of mufflers and pullovers. The AO restricted the deductions under s. 80-1 of the Act to Rs. 80,17,391 as against the claim of Rs. 1,04,02,080.

Aggrieved by the order of the AO, the assessee-respondent preferred an appeal before the CIT(A) who, vide order dt. 19th Aug., 1997, partly upheld the disallowances made by the AO under s. 80-1 of the Act (A-2). It would be profitable to notice the arguments advanced before the CIT(A). The assessee-respondent submitted before the CIT(A) a letter dt. 30th Jan., 1997, which disclosed the detailed explanation with the help of a chart showing various processes which are undertaken before bringing in existence a final product known as ''pullover'' after purchase of Flat (pallas). It was pointed out that the assessee-respondent purchased Flats (pallas) and thereafter such Flats (pallas) are subjected to various processes involving mending, chainlock, kachhi lock, up-down, milling, up-down, pallas steam press, flatmaster check, cutting, kachi removing, tailoring, o''clock pakki, linking, neck saphai, cup sewing, tarpai, kaj button, kachi checking, pakka press, pakki checking, label tailoring, paking and in-store.

It was also shown before the CIT(A) that the cost incurred by the supplier on the process of one piece for pullover was about Rs. 20 approximately which did not include the cost of the raw material and the cost incurred by the assessee-respondent to make the Flat (palla) a pullover was amounting to Rs. 45 per pullover. The aforesaid aspect was highlighted to show that substantial processing is done by the assessee- respondent before a flat (palla) is converted into finished pullover. It was on the basis of the aforesaid arguments that the CFT(A) in paras 5.2 and 5.3 held as under :

5.2. I have carefully considered the facts of the case and find some substance in the explanation furnished by the learned Authorised Representative. It is seen that in the case of pullovers, substantial processing is done by the appellant. The processing so done is costing Rs. 45 per piece. The AO has not disputed this claim of the appellant. During the course of discussion, the learned Authorised Representative had referred to the judgments of Hon''ble Supreme Court in the cases of Delhi Cold Storage Pvt. Ltd. Vs. Commissioner of Income Tax, New Delhi, ) and M/s. Chillies Exports House Ltd. Vs. Commissioner of Income Tax, . In the first case, it was held by the Hon''ble Judges of the Supreme Court that no processing is done in a cold storage as such the cold storage is not an industrial company. However, it was observed that ''in common parlance, the processing is understood as an action which brings forth some change or alteration of goods or material subjected to the act of processing''.

5.3. In the second case of Chillies Export House Ltd. (supra), the case was remanded to the Hon''ble Court with certain observations. Thus, it would be seen that none of these judgments directly help the appellant. However, these judgments make one thing very clear i.e. the processing of the material should bring forth some change or alteration of the goods. This change or alteration has to be substantial or significant. In this context, the processing of Flats or pallas into required sizes of pullover through various actions, does amount to processing of goods. The Flats or pallas are a plain woollen cloth which is cut into the required sizes of the pullovers. Thereafter, it involves milling, tailoring, tarpai, cup-sewing and other processes mentioned above. These processes cost the appellant a substantial amount. On these facts, I hold the pullover involved processing and profit on the sale of pullovers is entitled to the deduction under s. 80-1.

However, in respect of blankets and mufflers entirely an different process is involved, which cannot be regarded significant, in as much as a new and distinct marketable product does not come into being. The cost incurred on such processes is also very low. Therefore, the CIT(A) in para 5.4 rightly held that profits earned on sale of such blankets and mufflers would not qualify for any deduction under s. 80-1 of the Act.

Against the aforesaid order, two appeals were preferred before the Tribunal, one by the Revenue-appellant and the other by the assessee- respondent. The Tribunal vide order dt. 4th March, 2003 (A-3) dismissed both the appeals by observing as under :

7.......From the facts discussed above, it is obvious that the AO is satisfied about assessee fulfilling all the conditions except mentioned at sl. No. (ill) above, i.e. an industrial undertaking must manufacture or produce articles or things. From the facts discussed above, it is also obvious that the assessee does not manufacture/produce the woollen pallas used in manufacturing pullovers and blankets. The assessee purchased the same from the market. It is also not a case of the assessee that it got the cloth manufactured under its direct control and supervision. Now, the material question that requires to be considered by this Bench is whether the various activities carried on by the assessee in making pullovers amount to manufacture and producing goods and articles. The expression manufacture'' used in section has not been defined In the Act. Therefore, the question arises as to what is the meaning of manufacture'' ? This issue was considered by the Hon''ble Supreme Court in the case of Union of India (UOI) Vs. Delhi Cloth and General Mills, , where the Hon''ble apex Court observed that manufacture'' implies a change but every change is not manufacture and yet every change of article is the result of treatment, labour and manipulation. But something more is necessary and there must be transformation, a new and different article must emerge having a distinctive character, name and use. Thus, it is clear that every process does not tantamount to manufacture and it is only when the process results in the emergence of a new and different article having a distinctive name, character or use that ''manufacture'' can be said to have taken place. In fact, ''production'' is still wider than ''manufacture'', though every manufacture can be characterized as a production. From the wordings of s. 80-1, it is very clear that the intention of the legislature is to extend such benefit only to such industrial undertaking, which is engaged in the business of manufacturing and not to an undertaking engaged in the business of processing. However, it must be noted that when an article is produced, it involves several processes/operations. It is not necessary that all such processes/ operations must be carried on by the assessee itself. If the assessee carries on part of the operations itself and partly by others, but the activities undertaken by the assessee amount to manufacture, the assessee would still be entitled to deduction of the same though the entire processing operations have not been undertaken by the assessee itself. Now, the question that requires to be adjudicated is whether the activities undertaken by the assessee for manufacturing pullovers from the woollen flats/pallas purchased from the market would amount to manufacture of articles. It is undoubtedly true that woollen flats/pallas are not the same thing as pullovers. After the purchase of these pallas, the assessee is required to undertake several activities as detailed above and indicated in the process flowchart. In the case of Dy. CIT vs. Shree Lalit Fabrics (P) Ltd. (supra), the Tribunal, Chandigarh (Special Bench) held that bleaching and dyeing of grey cloth amounts to manufacture as after carrying out such operations, the quality of cloth is distinct and different from grey cloth. Therefore, the assessee was held to be engaged in the business of manufacturing though the grey cloth was not being manufactured by the assessee itself. In the case of CIT vs. Sovrin Knit Works (supra), the Hon''ble Punjab & Haryana High Court has also held that bleaching, dyeing and embroidering of grey cloth constitutes manufacture and hence entitled to development rebate. Thus, the detailed operations carried on by the assessee in the form of mending, chainlock, kachhi lock, up-down, milling, up-down, pallas steam press, flatmaster check, cutting, kachi removing, tailoring, o'' clock pakki, linking, neck saphal, cup sewing, tarpai, kaj button, kachhi checking, pakka press, pakki checking, label tailoring, packing and in-store etc. in making the pullovers would amount to ''manufacture'' of articles. The assessee has also given working of the case incurred by the assessee on the raw material and labour cost of Rs. 45 per piece of pullover. The item being manufactured by the assessee is distinct in character and quality than the item being purchased by the assessee in the form of woollen cloth. Therefore, we are in agreement with the learned CIT(A) that the assessee is entitled to deduction under s. 80-1 in respect of income derived from manufacture of pullovers. We confirm the order of the CIT(A) and dismiss all the grounds of Revenue''s appeal.

We have heard learned counsel for the parties at a considerable length and are of the view that these appeals are devoid of merit and the questions raised by the Revenue-appellant have to be answered against it. In order to decide the controversy, we may point out at the outset that Hon''ble the Supreme Court has taken a consistent view in various judgments holding that the word ''production'' is wider in its scope as compared to the word ''manufacture''. In that regard reference may be made to the judgment of Hon''ble the Supreme Court in the case of Union of India (UOI) Vs. Delhi Cloth and General Mills, In that case, their Lordships observed that the expression ''manufacture'' implies a change but every change is not ''manufacture'' and yet every change of article is the result of treatment, labour and manipulation. Therefore something more is necessary and there must be transformation of such a nature that a new and different article must emerge having a distinctive character, name and use. It is thus clear that every process does not tantamount to manufacture" as it is only when the process results in the emergence of a new and different article which may be marketable as such. The expression ''production'' is wider than ''manufacture'' though every ''manufacture'' can be regarded as production''. Sec. 80-1 of the Act makes it evident that intention of the legislature is not to extend its benefit only to such an industrial undertaking which is engaged in the business of processing.

In a recent judgment rendered by Hon''ble the Supreme Court in the case of Income Tax Officer, Udaipur Vs. Arihant Tiles and Marbles (P) Ltd., , a similar question has arisen namely, whether polished slabs and tiles manufactured and produced from the marble blocks were eligible for granting benefits of s. 80-IA of the Act in respect of asst. yr. 2001-02. In para 6 of the Judgment, details of steps-wise activities undertaken by the assessee-respondent in respect of marble blocks resulting into finished product of polished slabs and tiles have been noted. It was in the aforesaid facts and circumstances, their Lordships of the Supreme Court held in paras 17 and 22 as under :

In the present case, we have extracted in detail the process undertaken by each of the respondents before us. In the present case, we are not concerned only with cutting of marble blocks into slabs. In the present case we are also concerned with the activity of polishing and ultimate conversion of blocks into polished slabs and tiles. What we find from the process indicated hereinabove is that there are various stages through which the blocks have to go through before they become polished slabs and tiles. In the circumstances, we are of the view that on the facts of the cases in hand, there is certainly an activity which will come in the category of ''manufacture'' or ''production'' under s. 80-IA of the IT Act. As stated hereinabove, the judgment of this Court in Aman Marble Industries (P) Ltd. (supra) was not required to construe the word ''production'' in addition to the word ''manufacture''. One has to examine the scheme of the Act also while deciding the question as to whether the activity constitutes manufacture or production. Therefore, looking to the nature of the activity stepwise, we are of the view that the subject activity certainly constitutes ''manufacture or production'' in terms of s. 80- LA. In this connection, our view is also fortified by the following judgments of this Court which have been fairly pointed out to us by learned counsel appearing for the Department

(emphasis, italicised in print, added)

22......we are of the view that blocks converted into polished slabs and tiles after undergoing the process indicated above certainly results in emergence of a new and distinct commodity. The original block does not remain the marble block, it becomes a slab or tile. In the circumstances, not only there is manufacture but also an activity which is something beyond manufacture and which brings a new product into existence and, therefore, on the facts of these cases, we are of the view that the High Court was right in coming to the conclusion that the activity undertaken by the respondents-assessees did constitute manufacture or production in terms of s. 80-IA of the IT Act, 1961.

It would be appropriate to notice the provisions of s. 2(29BA) and s. 80-IA(2)(iii) of the Act, which are set out below :

2(29BA) ''manufacture'' with its grammatical variations, means a change in a non-living physical object or article or thing,-

(a) resulting in transformation of the object or article or thing into a new and distinct object or article or thing having a different name, character and use; or

(b) bringing into existence of a new and distinct object or article or thing with a different chemical composition or integral structure; 80-IA(2)(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.

A perusal of the aforesaid provision would show that expression ''manufacture'' would mean a change in a non-living physical object or article or thing resulting in transformation of the object or article or thing into a new and distinct object or article or thing having a different name, character and use or bringing into existence of a new and distinct object or article or thing with a different chemical composition or integral structure. It is in the aforesaid situation that the benefit of s. 80-1 of the Act would be available to an assessee. When the facts of the present case are viewed in the light of the aforesaid statutory definition it becomes patent that Flats (pallas) are subjected to enumerous processes as has been rightly observed by the Tribunal like mending, chainlock, kachhi lock, up-down, milling, up-down, pallas steam press, flatmaster check, cutting, kachi removing, tailoring, o''clock pakki, linking, neck saphai, cup sewing, tarpai, kaj button, kachi checking, pakka press, pakki checking, label tailoring, packing and in-store. Moreover, the CIT(A) as well as the Tribunal even found that the cost of processing the Flats (pallas) to make it pullover by the assessee-respondent is Rs. 45 per piece which shows that substantial processing is done by the assessee- respondent before the Flat (palla) is converted into a finished pullover. It was also held by both the appellate authorities that a different marketable product would come into being after the Flats (pallas) are subjected to aforesaid various processes which was not in the case of blankets and mufflers. The processes which are undertaken to make blankets and mufflers were wholly insignificant so as to conclude that a different and distinguished marketable product comes into being. Therefore, we are of the view that the opinion expressed by both the appellate authorities merit acceptance and is hereby approved.

It is worthwhile to notice that in para 23 of the judgment of Hon''ble the Supreme Court rendered in the case of Arihant Tiles & Marbles (P) Ltd. (supra), Hon''ble Mr. Justice S.H. Kapadia (now Hon''ble Chief Justice of India) highlighted another aspect observing that if the view of the Revenue namely, that the activities undertaken by the assessee- respondent were not in the nature of ''manufacture'', was to be accepted then it would have had serious revenue consequences. It was noticed by his Lordship that the assessee-respondent were paying excise duty and some of them were job workers and their activities were recognized by various Government authorities as ''manufacture'', it was observed :

To say that the activity will not amount to manufacture or production under s. 80-IA will have disastrous consequences, particularly in view of the fact that the assessees in all the cases would plead that they were not liable to pay excise duty, sales-tax etc. because the activity did not constitute manufacture. Keeping in mind the above factors, we are of the view that in the present cases, the activity undertaken by each of the respondents constitutes manufacture or production and, therefore, they would be entitled to the benefit of s. 80-IA of the IT Act, 1961.

In the present case there is no material on record to make any such observation but it is presumed that activities must have been assessed on the presumption that all such activities constituted manufacture''.

As a sequel to the above discussion, the appeal filed by the Revenue is dismissed and the questions of law are answered against it. Consequently, the order of the Tribunal is upheld. A copy of this order be placed on the file of the connected appeal.