Financial Daily from THE HINDU group of publications
Saturday, Apr 15, 2006
What of expenditure not dealt by law
H. P. Ranina
The Tax Department has been taking the stand that where income is taxable under the head "Profits and Gains of Business or Profession," the expenses which can be claimed as a deduction for arriving at the taxable profit necessarily have to fall under Sections 30 to 37 of the Income-Tax Act, 1961. This stand has been rejected by courts time and again.
It is important to note that the list of expenses deductible under Sections 30 to 37 is not exhaustive. An item of expenditure not covered by these provisions would still be deductible if incurred for the purpose of business. Even losses arising from, or incidental to, the carrying on of a business have been held to be deductible in computing the taxable profits. The Supreme Court has in several cases taken the unequivocal view that an item of expenditure or loss not falling within any of the express provisions of Sections 30 to 37 would be allowable as a deduction on general principles of commercial accounting.
It is only where expenditure or a loss is expressly disallowed under any specific provision of the Act that a businessman would be debarred from claiming it. A deduction which is neither within the terms of a prohibition nor such that the specific allowance must be taken as the exclusive definition of its area, must be allowed in determining the taxable profits.
NATURE OF EXPENDITURE
While dealing with an expenditure or loss, it is necessary first to inquire whether the deduction is expressly or by necessary implication prohibited by the Act, and if it is not so, to consider whether it is of such a nature that it needs to be charged against income for computing the taxable profits. Thus, it is a fallacy to assume that because a particular subject of expenditure is dealt with in Sections 30 to 37, the totality of a subject is exhausted by that Section.
To illustrate, under Sections 30 and 31, repairs are dealt with, but only one category current repairs. Repairs not current but accumulated, or repairs which are for assets not used but held for purposes of business would still be deductible under Section 37. Likewise, a business loss would be deductible in computing business profits under Section 28.
One of the important propositions which emerges from judicial authorities is that the necessity for incurring the expenditure is not to be established. So long as the expenditure which is incurred is connected with the business, it would be deductible. The basic condition is that an expenditure is allowable if it is for the purposes of the business.
The Gujarat High Court took a broader view in allowing certain expenses as deduction in the case of C.I.T. v. Mehsana District Co-operative Milk Producers Union Ltd. (282 I.T.R.24). The assessee was a federation of various milk producers' co-operative societies. Individuals supplied milk to their co-operative societies which, in turn, to the assessee. The assessee claimed deduction under Section 28 or 37(1) for payments made to member-societies by way of additional price on March 31, 1984. The Assessing Officer disallowed the claim on the ground that the payment was made on the last day of the accounting period; that the payment was not guided by any commercial principles; that the price increase declared by the Managing Board of the assessee had nothing to do with the market conditions and, hence, it was a case of profit adjustment with the objective of evading tax.
The Commissioner (Appeals) confirmed the assessment order holding that the payment was in the nature of application of income by the assessee and the payment was under a self-generated obligation. Hence, though such an obligation was discharged, the assessee was not entitled to deduction of such additional payment. On appeal, the Tribunal observed that the assessee-society sold the milk supplied to it by the members to the consumers and made payment for the milk supplied by the member-societies on the basis of a price per unit called `kilo fat'; that price was not the stationary for the entire year but it was ambulatory and revised from time to time depending upon several factors.
The revision of the prices was made through circulars issued on different dates and those circulars provided that the prices determined were only provisional and after considering the amount realised by the assessee at the end of the year, the final price increase/decrease would be decided and intimated. Hence, in pursuance of such circulars, the board of directors decided on the final price increase/decrease at the end of the year.
On a reference, the Gujarat High Court held that the Tribunal had taken note of the object clauses which appeared in the bye-laws. That assumed importance in the light of the fact that the payment made by the assessee-society was and could be termed to be in furtherance of its object and could not be treated as a payment not incurred for the business of the assessee-society.
The court took note of the fact that the Assessing Officer had made disallowances in the alternative, that is, either under Section 28 or under Section 37. The law as to how profits must be ascertained before being brought to tax under Section 28 is well established. Subject to any specific provision under the Act, the profits to be assessed have to be the `real profits' and required to be determined on ordinary principles of commercial trading and commercial accounting. In other words, a claim for deduction for which there is no specific provision under the Act would be admissible under Section 28 having regard to the accepted commercial practice and trading principles, if the expenditure is incurred for the purpose of the business or in the course of carrying on the business and it is incidental to it.
Under Section 37, the law takes into account the purpose for which, and not the motive with which, the expenditure is incurred, because purpose is different from motive. The Section requires that the expenditure should be `wholly and exclusively' laid out or expended for the purpose of the business, but not that it should necessarily be laid out or expended for such purpose.
The court laid down that a subjective standard of reasonableness cannot be adopted by the Assessing Authority to disallow a part of business expenditure. The role of the Assessing Officer is confined to deciding the nature of the expenditure and whether the amount claimed as a deduction was actually incurred or not.
Applying these principles, the High Court held that the amount in question had gone out of the coffers of the co-operative milk producers' union and had been received by the milk supplying societies. Hence, the expenditure had to be treated as having been incurred for the purpose of business. The well-settled principle of law laid down over a century is that for expenditure to be allowed as a deduction it is not necessary to show that the tax-payer was bound to incur it. Even if it is incurred on grounds of commercial expediency, it would be deductible under Section 28 though there may be no compulsion to incur such expenditure.
(The author, a Mumbai-based advocate specialising in tax laws, can be contacted at email@example.com)
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