I.T.AS. NOS. 105/KB AND 400/KB OF 1993-94 VS I.T.AS. NOS. 105/KB AND 400/KB OF 1993-94
1997 P T D (Trib.) 1447
[Income-tax Appellate Tribunal Pakistan]
Before Muhammad Mujibullah Siddiqi, Chairman and
S.M. Sibtain, Accountant Member
I.T.As. Nos. 105/KB and 400/KB of 1993-94, decided on 18/03/1997.
Income Tax Ordinance (XXXI of 1979)---
----Third Sched., R.8(8)(a)---C.B.R. Circular No. 26 of 1988, dated 19-12-1988---Lease of vehicles---Depreciation allowance---If vehicle having been given on lease is transferred to the lessee or his nominee on the expiry of lease period, same shall be treated as the vehicle not plying for hire-- Depreciation in such cases shall be restricted in accordance with R.8(8)(a) of the Third Sched. of the Income Tax Ordinance, 1979.
Akbar G. Merchant and Miss Yasmin Ajani for Appellant (in I.T.A. No. 105/KB of 1993-94)
Inayatullah Kashani, D.R. for Respondent (in I.T.A. No. 105/KB of 1993-94).
Inayatullah Kashani, D.R. for Appellant (in I.T.A. No.400/KB of 1993-94)
Akbar G. Merchant and Miss Yasmin Ajani for Respondent (in I.T.A. No.400/KB of 1993-94)
Date of hearing: 17th February, 1997.
ORDER
The above cross-appeals at the instance of assessee (hereinafter referred to as the appellant) and the department (hereinafter referred to as the respondent) relating to the assessment year 1989-90 are directed against the order dated 9-5-1993 by the learned C.I.T.(A), Zone II, Karachi in I.T.A. No.630 of 1992.
2. Heard M/s. Akbar G. Merchant and Miss Yasmin Ajani, learned representatives for the appellant and Mr. Inayatullah Kashani, learned representative for the department. First we will take up the appeal at the instance of assessee.
Assessee's anneal
3. The first objection raised on behalf of the appellant/assessee is that the Income-tax Officer erred in law and in fact in restricting the value of lease vehicles up to Rs.1,75,000 under rule 8(8)(a) of Third Schedule to the Income Tax Ordinance, 1979 and consequently not allowing normal depreciation on total cost of vehicles as claimed by the assessee. The assessee is aggrieved with the finding of assessing officer that all vehicles which have been leased to customers are not plying for hire. The assessee is further aggrieved with the finding of learned CIT(A) whereby the findings have been set aside. The appellant' has contended that the normal depreciation ought to have been allowed.
4. The second objection raised on behalf of the assessee/appellant is that the Income-tax Officer erred in law and in facts in failing to allow initial depreciation at 25% claimed under rule 5(1)(cc) of the Third Schedule to the Income Tax Ordinance, 1979 on Rs.3,43,98,900 being total cost of new additions of leased vehicles. The appellant is further aggrieved with the mere setting aside of issue by the learned CIT(A) instead of giving finding himself.
5. Briefly stated the relevant facts are that the nature of business of the appellant company is lease of vehicles and receipt of interest on Khas Deposit as well as profit and of investment/Government securities. The assessing officer during the course of assessment proceedings observed that according to the lease agreement executed by the appellant in respect of vehicles, machines and equipments as per clause 16.2, the lessees shall under no circumstances become owner of the vehicles. The appellant company has, therefore, claimed depreciation on all assets/vehicles purchased by it and consequently leased out. According to the assessing officer the appellant worked out accounts on finance lease method. The appellant was asked to give working of income on operating lease method as the same was to be adopted for assessment purpose. The appellant replied that all the lease rental were included in the income and, therefore, there would be no effect on accounting. The assessing officer further observed that the appellant is an approved leasing company by C.B.R. The assessing officer further found that the appellant claimed depreciation on vehicles at Rs.1,57,48,617 including 25% initial depreciation and 20% regular depreciation. The assessing officer confronted the appellant on the point that depreciation Was claimed on actual cost of vehicles whereas the cost of vehicles was to be restricted under rule 8(8)(a) of the Third Schedule to the Income Tax Ordinance, 1979 for the reason that the vehicles- of the appellant were not plying for hire, therefore, rule 8(8)(a) of Third Schedule was applicable. Similarly the claim of initial depreciation under the rule 5(1)(c) was also not applicable. According to assessing officer the case of appellant was covered under rule 5(2)(c) of the Third Schedule according to which no initial depreciation was to be allowed.
6. The appellant replied that clause 1(1) of Third Schedule to the Income Tax Ordinance, 1979 as amended by Finance Act, 1985 was applicable to them which provides that allowance for depreciation shall be made in computing the profits and gains of the business as provided in the Third Schedule to a leasing company approved by the Central Board of Revenue for the purposes of the Third Schedule. It was further contended on behalf of the appellant that leasing is a business whereby vehicles are rented out to the lessees and, therefore, such vehicles are plying for hire. Accordingly initial depreciation is properly allowable on motor vehicles given on lease in accordance with clause 5(1)(cc) of the Third Schedule to the Income Tax Ordinance, 1979. Reliance was placed on the C.B.R., Circular No.26 of 1988, dated December 19, 1988 also. The appellant further contended that the vehicles leased out by them were being plied for hire and, therefore, the cost shall not be restricted to Rs.1,75,000.
7. The assessing officer did not accept the contentions for the reason that the vehicles leased out by the appellant were not plied for hire. The assessing officer further held that in the case of appellant and other leasing companies the leased vehicles are not plying for hire as the leasing companies are not merely realising rent for use of the vehicles specially for the reason that the vehicles are not used as public transport carrier but they are used by the lessees only. According to the assessing officer the terms of rent and hire are different and he differentiated the two terms with the help of dictionaries as follows:
"Lease' carry the following meaning in Collier Dictionary:
'Contract for the period of time' Leasing to grant possession or, use of by as lease; 'and in Wharton's Law Lexicon it has been explained that in lease 'the consideration is usually the payment of rent or other annual recompense'. Similarly, 'Rent' has been defined-in Collier Dictionary meaning as 'Means to grant the possession for a fixed payment', and in Sharton's Tax Lexicons, it has been explained that 'Rent' 'must always be profit. The profit must be certain ...it must issue yearly'. The word, 'Hire' has been defined in Collier Dictionary as to 'means to grant or engage the temporary use of services of something for a stipulated sum. "
8. The assessing officer ultimately held as follows:---
(i). The appellant leased out assets for return of fixed payment for a specific period and earning certain profits, therefore, it was on rent.
(ii) The assets were not given for temporary engagement and, therefore, vehicles were not on hire and for that matter were not plying for hire.
The assessing officer ultimately allowed depreciation on restricted value of the vehicles in accordance with the rule 8(8)(a) of the Third Schedule to the Income Tax Ordinance and initial depreciation was refused. The appellant being dissatisfied preferred first appeal. It was contended before the learned CIT(A) that the appellant being a leasing company generates such income which is particularly the income from hire and, therefore, the exclusion of vehicles on the alleged ground that they were not plying for hire by the assessing officer was without evidence and material, and, therefore, the claim of initial depreciation were legally admissible. Similar contention was raised while assailing the finding whereby the restricted value of the assets were taken.
9. The learned-CIT(A) held that the issue regarding the disallowance of initial depreciation on leased vehicles and restriction or otherwise of -the value of vehicles under rule 8(8)(a) have by now stood fully clarified as a result of guidelines issued by the C.B.R. in its various circulars; and in this connection, he referred to the Circular No.26 of 1988. With these observations he set aside the issues and remitted them back to the I.T.O. for fresh decision in line with the guidelines from C.B.R., from time to time on the subject. Although we are considering the appeal at the instance of assessee but it would be appropriate at this stage to consider the first objection at the instance of department as well which is directed against the same finding of learned CIT(A).
10. After hearing the learned representatives for the parties and perusal of record we find that the assessee as well department both have placed reliance on C.B.R. Circular No.26 of 1988, dated December 19, 1988. It would be, therefore, appropriate to reproduce the same which reads as follows:
"Consequent upon the decision to eliminate interest from the economy, a number of financial arrangements have been introduced. Leasing is one of these. This business has been operating in Pakistan within the general framework of corporated law and no specific enactment has yet been made in this behalf.
2. Briefly speaking, under an ordinary leasing arrangement, ownership of the leased asset being financed continues to vest in the lessor. The right of use to the asset is vested in the lessee who enjoys unfettered use of assets for generation of income. In such cases, the leased assets appear in the balance sheet of the owner who is entitled to the depreciation allowance. In the hands of the lessee, the amount of lease money is admissible as expenditure. The maintenance expenses are admissible in the hands of lessee or lessor whosoever is responsible for such expenses according to the lease agreement. Under such arrangement, ginning factories, cinemas etc., have been traditionally leased out in our country and officers are well aware of the tax treatment in such cases. The Income Tax Ordinance recognises such arrangement as is reflected in sections 30(2)(d) and 31(1)(e). ,
3. The second type of such arrangement is the hire-purchase agreement. Although there is no provision in the Ordinance relating to such financial arrangements yet tax treatment for these transactions has been spelt out in the C.B.R.'s Circulars No.9/1943 R.D. is No.27(41T.43) dated 23-3-1943 (copy of this circular is enclosed for guidance). The basic principle underlying that circular is that according to the terms of the agreement if the ownership of the asset is transferred to the hirer (lessee) at the time of delivery, it is treated as outright. sale and if the ownership is transferable on the expiry of period of instalments and payment thereof, it shall be treated .as hire-cum-purchase agreement. In the later case, the instalment is broken up into hire and purchase. The hire lament is allowed as deductible expenditure and the 'purchase' portion is capitalised and is eligible for depreciation.
4. The modern leasing industry has introduced a third type of lease known as 'finance lease'. A 'finance lease', according to the International Accounting Standard 1982 I.A.S. 17 is a lease 'which transfers substantially all the risks and rewards incident to the ownership of an asset'. Title may or may not be eventually transferred'. However the most important thing to remember in this behalf is that it is not the 'form' but the 'substance' which determines whether it is a finance or an operating lease.
5. The various factors relevant to the determination of the type of lease are as under:
(a) degree of risk and rewards relating to an asset assumed by the lessee i.e., insurance maintenance, taxes etc.,
(b) guarantees by the lessee of the residual values,
(c) cancellation provisions and penalties, and
(d) reward and purchase option etc.
6. The present income-tax law prescribes a treatment for all types of leases. Section 23(1)(vi-a) introduced by Finance Ordinance, 1988 allows as deduction in the hand of the lessee, any sum paid to the lessor who may be an approved.
(a)Scheduled bank or financial institution, or
(b)An approved (for purposes of Third Schedule) leasing company or a modaraba.
7. The Third Schedule allows depreciation allowance to the lessor who is any entity described at (a) or (b) above. Neither provision makes any distinction between an operating or finance lease. However, if the lessor does not fall into the category of the 4 types of institutions mentioned in (a) and (b) above, these provisions are not applicable: In such cases, the treatment shall be depending on the nature of lease, the same as laid down in Circular No.9 of 1943.
8. In the case of leases covered by section 23(1)(vi-a) and the Third Schedule, the Ordinance does not provide for the treatment to be accorded to the transaction arising at the end of the lease period. In the case of an operating lease, there is no problem. The lessor takes back the asset and continues to get depreciation allowance on the WDV whether he uses the asset himself or leases it out again. In case of finance lease, if, at the end of the lease term, the asset is taken back by the lessor, the treatment shall be the same as in the case of operating lease. In case, however, the ownership of the lease passes to the lessee, it shall be treated as ordinary sale to the lessee by the lessor. In the hands of the seller, the treatment shall be as follows:
Profit/loss on sale = Sale price minus W.D.V.
The resultant gain or loss shall be treated in accordance with the provisions of Rule 7 of the Third Schedule. In the hands of the lessee, depreciation allowance shall be allowed on the amount paid as price of the asset at which it is transferred to him. .
11. A number of companies have started the business of leasing expensive cars. Rule 8(8)(a) places a restriction on the W.D.V. of motor cars by limiting the value to a maximum of Rs.1,75,000 for purposes of depreciation. Car leases are so designed as to overcome this restriction. In the hands of the lessee, the entire amount paid as lease money is deductible whereas the lessor claims that the leased vehicle constitutes a vehicle plying for hire. Whereas the lessee is justified in claiming the amount paid as lease money, the lessor is not so justified unless the lease is an operating lease' i.e., the vehicle is transferred back to the lessor at the end of the lease. But if it is ultimately transferred to the lessee or his nominee, it shall be treated as a vehicle not plying for hire. In such cases, the depreciation allowance shall be restricted in accordance with Rule 8(8)(a) of the Third Schedule."
11. A perusal of the above circular shows that the C. B. R., has in the i final analysis held that, "but if it is transferred to the-lessee or his nominee, it shall be treated the vehicle not plying for hire. In such cases the depreciation allowance shall be restricted in accordance with Rule 8(8)(a) of the Third Schedule'. The mode point for consideration is whether the vehicle leased out by the appellant is returned back to the lessor on expiry of lease period, or on the expiry of lease period the vehicle is transferred to the lessee. We asked Mr. Akbar Merchant about ultimate fate of the vehicle. Mr. Akbar Merchant has frankly conceded that on the expiry of lease period the vehicle is transferred in favour of lessee on payment of nominal price. Mr. Akbar Merchant has further conceded that in the case of leasing companies the periodical leasing money is fixed keeping in view the period of lease in such a manner that the lessor recovers the cost of the vehicles as well as the profit in the shape of lease money or rent so that at the completion of lease period the lessor recovers the entire cost of the vehicles as well as the stipulated profit thereon. Thus, we find that in the case of leasing business conducted by the appellant and the other leasing companies, where the asset is ultimately transferred in favour of lessee it is not a case of lease but in fact it is a case of ordinary sale to the lessee by the lessor as rightly held by the C.B.R., in para. 8 of Circular 26 of 1988 reproduced above. The above C.B.R. Circular has clearly held that if the assets are ultimately transferred to the lessee or his nominee it shall be treated as a vehicle not plying for hire and, therefore, we fail to understand as to how the appellant while claiming that the vehicles leased out by them were plying for hire sought support from the above Circular of C.B.R.
12. After considering the entire material on record and contentions raised before us we are of the opinion that the assessing officer has already acted in accordance with Circular 26 of 1988 issued by the C.B.R., and, therefore, the learned CIT(A) was not justified in setting aside the issue for fresh decision in line with the guideline issued by the C.B.R. The objection raised on behalf of the appellant in this behalf is, therefore, repelled and the contention of department is upheld that the learned CIT(A) was not justified in setting aside the issue relating to restricting the value of leased cars up to Rs.1,75,000 under rule 8(8)(a) of the Third Schedule and disallowing the initial depreciation at 25 % . The impugned finding of learned CIT(A) is, therefore, vacated and the findings given by the assessing officer are hereby, restored.
M.B.A./343/Trib. Order accordingly.