Case Law Details
Assessing Officer noticed that the assessee entered into transactions of payment of job work charges to a related party, viz., M/s Razormed Inc. during the financial year relevant to assessment year under consideration without obtaining prior approval of the Central Government in accordance with the provisions of section 297 of the Companies Act, 1956.
On being called upon to explain as to why such job work charges be not disallowed in accordance with the provisions of Explanation to section 37(1) of the Income-tax Act, 1961 (hereinafter also called ‘the Act’), the assessee submitted that the post facto approval for the transactions with the related parties undertaken during the year, was obtained from the Company Law Board on payment of compounding charges for the condonation of delay and hence there was no violation of law. Not convinced with the assessee’s submissions, the AO opined that the facts of post facto approval and the con donation of delay by the Ministry of Corporate Affairs were not relevant because on the day of payment of such expenditure, there was no prior approval to the job charges paid to M/s Razormed Inc., which triggered the Explanation to section 37(1) of the Act. This led to the addition of job work charges amounting to Rs. 41.24 lac and the further dis allowance of compounding fee for condonation of delay amounting to Rs. 6,000/-. The ld. CIT(A) echoed the assessment order on this issue. The assessee is in appeal before us only on the dis allowance of job work charges and not on the dis allowance of compounding fee for con donation of delay.
A cursory look at the above Explanation to section 37(1) of the Act makes it palpable that any expenditure incurred by the assessee, for any purpose which is an offence or is prohibited by aw, shall not be deemed to have been incurred for the purpose of business and resultantly no deduction shall be allowed.
Reverting to the facts of the extant case, it is noticed that the authorities below have proceeded to make and uphold the dis allowance in terms of Explanation to section 37(1) of the Act by observing that since the payment of job work expenses was made without prior approval from the Central Government, it amounted to payment in contravention of the Companies Act. Now the position which is obtaining in the present case is that the assessee made payment for getting the job work done from its related concern, which is otherwise neither an offence nor prohibited by law, but committed a breach by not obtaining the necessary approval from the Central Government in time. Thus, on one hand the payment is otherwise for a lawful purpose, but the legality of the transaction has been shadowed by not obtaining prior approval from the Central Government. The pertinent question which arises under the present circumstances is – Can it be said that the assessee incurred an expenditure for any purpose which is an offence or which is prohibited by law?
Before we deliberate upon this question, it is of paramount importance to note that we are dealing with a deeming provision. A deeming provision or a legal fiction as it is commonly called is one whose mandate does not exist but for such provision. Because of such provision alone, the given imaginary state of affairs is taken as reality despite it being at variance with the scope of the relevant provision of the enactment. It is trite that the scope of a deeming provision has to be restricted to what is expressly stated in such a provision. There can be no inference or intendment as regards such a provision. The Hon’ble Supreme Court in CIT Vs. Amarchand N. Shroff (1963) 48 ITR 59 (SC) considered the ambit of a deeming provision and held that the fiction cannot be extended beyond the object for which it is enacted. In CIT Vs. Mother India Refrigeration Industries P.Ltd. (1985) 155 ITR 711 (SC) the same view was reiterated by holding that the “legal fictions are created only for some definite purpose and these must be limited to that purpose and should not be extended beyond their legitimate field.” The Hon’ble Bombay High Court in CIT Vs. Ace Builders P. Ltd. (2006) 281 ITR 210 (Bom.) considered a case in which the assessee was a partner in a firm which was dissolved in the year 1984 and the assessee was allotted a flat towards its credit in the capital account with the firm. The assessee showed the flat as capital asset in its books of account and depreciation was claimed and allowed from year to year. In the previous year relevant to the assessment year 1992- 93 the assessee sold the flat and invested the net sale proceeds in a scheme eligible u/s.54E of the Act and accordingly declared Nil income under the head ‘Capital gains’. The Assessing Officer opined that since the block of building ceased to exist on account of sale of flat during the year, the written down value of the flat was liable to taken as cost of acquisition u/s.54E of the Act. He further held that since the assessee had availed depreciation on such asset which was otherwise long term capital asset, the deeming provision u/s.50 would apply and it would be treated as capital gain on the sale of short term capital asset and resultantly no benefit u/s.54E could be allowed. When the matter came up before the Hon’ble Bombay High Court, it noted that sub-sections (1) and (2) of section 50 contain a deeming provision and such fiction is restricted only to the mode of computation of capita gain contained in sections 48 and 49 and hence it did not apply to other provisions. Consequently the assessee was held to be eligible for exemption uls.54E in respect of capital gain arising out of the capital asset on which depreciation was allowed. On an appraisal of the above judgments, the legal position which emerges is that whenever a legal fiction is created by way of a deeming provision, it is of paramount importance to go strictly by the express prescription of this provision. Such a deeming provision cannot be extended beyond what is expressly stated therein.
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