The Ahmedabad Bench of Income Tax Appellate Tribunal ( ITAT ) upheld the tax deduction for the defect liability provision, citing reasonable estimates and industry practices.
The Revenue appealed against the Commissioner of Income Tax (Appeals)[CIT(A)] decision, arguing that the Provision for Defect Liability was a contingent, uncertain liability and should not be allowed as an expense. However, JMC Projects, the respondent-assessee, claimed it was an ascertained liability based on reasonable estimates of warranty expenses for infrastructure projects. While the CIT(A) allowed the provision as an expense, the Revenue contended that it was wrongly treated as an ascertained liability.
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The Authorised Representative ( AR ) explained that the assessee had a “Defect Liability Period” of 12-18 months, extendable to five years, during which it was responsible for fixing defects at its own cost. Contracts required a Performance Bank Guarantee and retention of 5%-10% by the client. Based on past experience, the assessee made provisions for future expenses, with unused provisions credited to the Profit & Loss account after the period.
The Assessing Officer ( AO ) disallowed the provision, stating it was contingent and uncertain, citing excessive provisioning and the redundancy of the provision due to retention money and bank guarantees. Penalty proceedings were also initiated.
The AR referred to the CIT(A) decision, which deleted similar additions in previous years, finding the provision reasonable and based on past experience. The AR also mentioned a Co-ordinate Bench decision in the assessee’s case for A.Y. 2006-07, upheld by the Gujarat High Court in Tax Appeal No. 194 of 2017.
The two member bench comprising Suchitra Kamble ( Judicial Member ) and Makarand V.Mahadeokar ( Accountant Member ) following the Gujarat High Court’s ruling in Principal Commissioner of Income Tax v. JMC Projects India Ltd. (Tax Appeal No. 194 of 2017), found no merit in the Revenue’s appeal about the defect liability provision.
The Revenue argued that the provision was contingent and not eligible for deduction, but the CIT(A) and Tribunal had consistently allowed it as a business expense, based on reasonable estimates of future obligations in the contracts.
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The appellate tribunal also supported the Co-ordinate Bench’s reference to the Rotork Controls case, which allowed warranty provisions as deductible liabilities. The Gujarat High Court had confirmed that these provisions, based on contractual terms and industry practices, were not contingent.
Therefore, the tribunal dismissed the Revenue’s appeal, upholding the defect liability provision as a legitimate deduction.
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