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Section 10AA of the Income Tax Act, 1961, contains legislative provisions for deduction available to units established in Special Economic Zones (SEZs), in respect of profits derived by such units or establishments from the export of goods manufactured or services provided by them, subject to the fulfilment of certain specified conditions. 

In this article, a Practical Case Study on eligibility or otherwise of an assessee u/s 10AA of the Income Tax Act, is shared below, for the benefit of our Readers. 

Facts of the Case: The assessing authority, National Faceless Assessment Centre, has made an addition of Rs. 5,00,00,000/- in the regular assessment order u/s 143(3), of M/s ABC Expo Pvt Ltd (hereinafter referred to as the assessee).

The said addition has been made by the assessing authority by treating the assessee as an ineligible entity for availing the benefit of exemption u/s 10AA of the Income Tax Act. In arriving at this conclusion, the assessing authority, in its assessment order, has observed and contended as under:

“From the above provision of the Act, it can be seen that various conditions need to be satisfied by the assessee to claim deduction u/s 10AA. Some of the important conditions are enumerated below:

Condition 1 - The assessee is an entrepreneur as defined in section 2(j) of SEZ Act, 2005. Entrepreneur is a person who has been granted a letter of approval by the Development Commissioner to set up a unit in a Special Economic Zone.

Condition 2 - The unit in Special Economic Zone begins to manufacture or produce articles or things or provide services during the financial year 2005-06 or any subsequent year.

Condition 3 - The undertaking should not be formed by splitting up, or the reconstruction, of a business already in existence.

Condition 4 - It is not formed by a transfer to a new business of machinery and plant previously used for any purpose.

Condition 5 - The assessee has income from export of articles or thing or from the provision of services from such unit. In other words, the assessee has exported goods provided services out of India from the Special Economic Zone by land, sea, air or by any other mode, whether physical or otherwise.

Condition 6 - Books of the account of the taxpayer should be audited. The taxpayer should submit audit report in Form No. 56F along with the return of income.

Condition 7 - Deduction under section 10AA is not available unless it is claimed in the return of income.

Condition 8 - Deduction depends upon quantum of profit derived from export of articles or things or services (including computer software). It is calculated as under-

Profits of the business of the undertaking *   {(Export turnover of the undertaking)/(Total turnover of the business carried on by the undertaking)}

Condition 9- 100% of the profits from the export for the first 5 years from the beginning and 50% for next 5 years and for further 5 Years 50% subject to creation of “Special Economic Zone Reinvestment Allowance Reserve Account" and fulfilment of conditions relating thereto failing which the unutilized or wrongly utilised Reserve would be deemed income as per the provisions of the Act and the Rules.

Assessee has submitted explanatory note to each of the nine conditions mentioned in the Draft Assessment Order which are duly considered; however, assessee has not submitted any documentary evidence regarding condition no. 5 and 8.

As per condition no. 5, assessee was required to substantiate that income is driven from export of articles or things from SEZ units, however, this does not appear to be true in the case of the assessee. In its reply, assessee has submitted that company is in business of manufacturing and supply of oil well components to XYZ Pvt Ltd, an Indian company. In light of above facts, the assessee was required to substantiate with sale invoices, delivery challans, and communication documents etc that assessee derives income from export from SEZ units, however, the assessee has failed to do so.

The quantum of exemption u/s 10AA depends on amount of total profits vis-à-vis profit from export from SEZ units. However, the assessee has not submitted any documentary evidence which can substantiate turnover as described above in condition no. 5…”

Opinion:

It is clear and evident from the above observations of the assessing authority, that the primary reason for treating the assessee as an ineligible entity for section 10AA exemption was the failure of the assessee to establish that it has done any export turnover in the financial year presently under consideration, as all the sales had been made by the assessee to M/s XYZ Pvt Ltd, which is an Indian Entity.

Explanation 1 to section 10AA of Income Tax Act, 1961 defines the terms ‘export turnover’ and ‘export’ as under:

“Explanation 1.-- For the purposes of this section,--

1. export turnover means the consideration in respect of export by the undertaking, being the Unit of articles or things or services received in, or brought into, India by the assessee but does not include freight, telecommunication charges or insurance attributable to the delivery of the articles or things outside India or expenses, if any, incurred in foreign exchange in rendering of services (including computer software) outside India;
2. export in relation to special economic zones means taking goods or providing service out of India from a special economic zone by land, sea, air, or by any other mode, whether physical or otherwise.”

Therefore, if we consider the above specified definition of ‘export turnover’ and ‘’export’ in Explanation 1 to section 10AA of the Income Tax Act, in strict literal terms, then it appears that ‘export’ will only mean sale of goods or services outside India, by units situated in SEZs in India.

However, there are some judicial precedents wherein the concept of “deemed exports” has been given recognition and consideration in determining the eligibility u/s 10AA of the Income Tax Act, 1961.

In these judgements, it has been held that by virtue of the overriding effect of the provisions of the Special Economic Zone Act, 2005, the local or domestic sales made within India by eligible SEZ units to other units located in same or other Special Economic Zones (SEZs), within India, are also to be considered as ‘deemed exports’, for the purpose of determination of eligibility u/s 10AA of the Income Tax Act.

The ‘Special Economic Zone Act, 2005 (hereinafter referred to as ‘the SEZ Act, 2005’), enacted by the Parliament, came into effect from 23rd June 2005. The object of bringing the said enactment was to provide for the establishment, development and management of SEZ for the promotion of export and for matters connected therewith or incidental thereto.

This concept of ‘Deemed Exports’ has been given full recognition in section 2(m) of the ‘Special Economic Zone Act, 2005 and it defines ‘exports’ as:

“2(m) Export means -

1. taking goods, or providing services, out of India, from a Special Economic Zone, by land, sea or air or by any other mode, whether physical or otherwise; or
2. supplying goods, or providing services, from the Domestic Tariff Area to a Unit or Developer; or
3. supplying goods, or providing services, from one Unit to another Unit or Developer, in the same or different Special Economic Zone;

Section 27 of the SEZ Act, 2005, specifically deals with applicability of provisions of Income Tax Act, 1961 to a SEZ unit. For ready reference the said provision is extracted herein below:

27. "The provisions of the Income-tax Act, 1961, as in force for the time being, shall apply to, or in relation to, the Developer or entrepreneur for carrying on the authorised operations in a Special Economic Zone or Unit subject to the modifications specified in the Second Schedule.”

In furtherance to provisions of section 27 of SEZ Act, 2005, section 10AA of the I.T. Act was incorporated in the second schedule to SEZ Act, 2005.

Therefore, it is evident from above that section 10AA was introduced in the Income Tax Act, by virtue of the statutory mandate as specified in the SEZ Act, 2005.

Further, the provisions of the SEZ Act, 2005 are overriding in nature and will prevail over any other inconsistent provision in any other Act or Law for the time being in force, by virtue of section 51(1) of the SEZ Act, 2005, which reads as under:

“51(1)- Act to have overriding effect- The provisions of this Act shall have effect notwithstanding anything inconsistent therewith contained in any other law for the time being in force or in any instrument having effect by virtue of any law other than this Act.”

Therefore, in various decisions of the Income Tax Appellate Tribunals, it has been held that by virtue of the overriding effect of the provisions of the SEZ Act, 2005, the wider definition of ‘exports’ as envisaged in section 2(m) of the SEZ Act, 2005, is to be given cognizance and consideration in determining the eligibility u/s 10AA of the Income Tax Act, and accordingly ‘exports’ will also mean ‘domestic sales being made by units in SEZ  to other units or entities located in same or other SEZs in India.

The recent judicial precedent in this regard is the decision of the hon’ble Delhi ITAT in the case of ‘M/s Cliff Scaffoldings Pvt Ltd vs. ITO, New Delhi in ITA No. 4530/DEL/2015, dated 18.1.2019, wherein the hon’ble Delhi ITAT has held as under:

“12. In the circumstances of the case, we are of the view that provisions of the Special Economic Zones Act, 2005 shall prevail over the provisions of the Income Tax Act and Hon'ble Delhi High Court in the case of CIT(A) Vs. Vasisth Chay Vaapar Ltd. 330 ITR 440 has held that there is a provision in another enactment which contains non obstante clause then that would override the provision of the Income Tax Act. In such circumstances and facts of the case Section 51(1) of the Act as a non obstante clause and within the definition u/s 2(m) of the Special Economic Zones Act, 2005 exports include providing services or supplying goods from one unit to another in the same or different Special Economic Zones. Accordingly, the view taken up by the Ld. CIT(A) and the A.O cannot hold good and is directed to be reversed. Thus, grounds No. 1 to 2.3 of the assessee are allowed."

Reliance in this regard can also be placed upon some other similar decisions of hon’ble tribunals as under:

(i) ITAT Jaipur Bench in the case of DCIT Vs. Goenka Diamond & Jewellers Ltd. reported in 146 TTJ 68 (Jai) (2012) 19 TAxmann.com 91 (JP),  wherein it has been held that,

1. "We have also reproduced section 51 of the SEZ Act. As per this section it is mentioned that notwithstanding anything inconsistent therewith contained in any other law for the time being in force or in any instrument having effect by virtue of any instrument having effect by virtue of any law other than this Act. The provision of SEZ Act will prevail. The Hon'ble Apex Court in the case of Tax Recovery Officer vs. Custodian Appointed under the Special Court Trial of Offences Relating to Transaction in Securities Act, 1992 [2007] 293 ITR 369/163 Taxman 441 had an occasion to consider the meaning of language employed in section 13 of the Special Court Act. In section 13 of the Section Court Act, it was state that provision of the Act shall have effect notwithstanding anything inconsistent therewith contained in any other law for the time being in force. The Hon'ble Apex Court held that there can be no manner of doubt that the provision of Special Court Act wherever they are applicable shall prevail over the provision of the income tax Act. The Hon'ble Delhi High Court in the case of CIT vs. Vasisth Chay Vaapar Ltd. 330 ITR 440 held that when there is a provision in another enactment which contains a non obstente clause than that would override the provisions of the Income Tax Act. Thus one will have to consider the implication of section 51 of the SEZ Act. It means that anything inconsistent to the provision of the EZ Act will not be considered. Thus the word service as mentioned in section 10AA cannot be construed in-consistency with the definition of services given in the SEZ Act. Under the SEZ Act, the trading is included in the services provided the trading is export of imported goods. We therefore, feel that the assessee is entitled to deduction u/s 10AA of the Act and therefore, the Ld. CIT(A) was justified in allowing the exemption."

Similar reliance can be placed upon the decision of the hon’ble Mumbai ITAT in the cases of ‘M/s. Ossian Exports vs. DCIT, Mumbai in ITA No. 2876/Mum/2018 dated 20/2/2019 and Solitaire Diamonds Exports vs. ITO, Mumbai in ITA No. 3128/MUM/2019 dated 30.10.2019.

However, in one of its earlier decision, the hon’ble Mumbai Tribunal in the case of DCIT vs. Electro Equipment Pvt Ltd vs. Sarto Electro Equipment Pvt Ltd in ITA No. 3127/Mum./2014 dated 13.7.2016 had taken a dissenting view and had upheld the disallowance of exemption u/s 10AA of the Income Tax Act, as the assessee had only undertaken domestic sales to other units located in another SEZ in India.

Therefore, in order to avoid probable tussles and litigations, and to bring in the much needed certainty in this high stake-value sector, it is desirable that our honorable FM should come up with some suitable clarification on this litigative issue, in line with the above discussed legal jurisprudence on this issue, in the upcoming Union Budget 2022.

Author’s Personal View: Section 10AA of the Income Tax Act, has been brought in the Legislature only by the statutory mandate of the SEZ Act, 2005. Therefore, by virtue of the overriding effect of the provisions of the SEZ Act, 2005, the wider definition of ‘exports’ as envisaged in section 2(m) of the SEZ Act, 2005, is to be given cognizance and consideration in determining the eligibility u/s 10AA of the Income Tax Act, and accordingly ‘exports’ should also include ‘domestic sales being made by units in SEZ  to other units or entities located in same or other SEZs in India.

Tags: #Section10AA #SEZ #ExportTurnover #Deduction10AA #SEZAct2005