CBDT Circular Restricting Amenities to Doctors is not retrospective

M/s D.D. Pharmaceutical Pvt. Ltd. Vs. The ACIT (ITAT Jaipur)

The assessee is engaged in the business of manufacturing of pharmaceuticals. The assessee has claimed to have incurred advertisement, sales promotion, entertainment, traveling, business and miscellaneous expenses on doctors and business guests total amount to Rs. 71,97,585/-. The AO noted that the expenditure incurred by the assessee is hit by explanation to Section 37(1) of the Act in view of the MCI Regulations, 2002 which were issued on 10.12.2009 w.e.f. 14.12.2009 prohibiting the doctors and medical practitioners from receiving gifts, freebies from the pharmaceutical companies/ individuals. Accordingly, the AO disallowed 60% of the said expenditure amounting to Rs. 45,75552/-.

Ld. AR of the assessee has submitted that the CBDT circular dated 01.08.2012 is not applicable in the assessment year under consideration as it is applicable only w.e.f. A.Y. 2013-14.

AO has not doubted the genuineness of the expenditure incurred by the assessee but the disallowance was made by the AO only on the ground that the said expenditure is hit by the explanation to Section 37(1) being prohibited by the MCI Regulations, 2002 issued on 10.12.2012 w.e.f. 14.12.2012 and consequently CBDT Circular no. 5/2012 dated 01.01.2012. Thus, when the genuineness of the expenditure is not doubted then the claim of the assessee cannot be disallowed .

FULL TEXT OF THE ITAT ORDER IS AS FOLLOWS:-

This is an appeal filed by the assessee against the order of ld. CIT (A)-III, Jaipur dated 25.09.2014 for the A.Y. 2010-11. The assessee has raised the following grounds are as under:-

“1. The ld. CIT(A) erred in law as well as on the facts of the case in confirming the application of explanation to sec. 37(1) of the Act and consequently erred in confirming the dis allowances made of various expenses, separately agitated in the ensuing grounds of appeal. The provisions so invoked being totally contrary to the provisions of law and facts of the case hence, the dis allowances so made kindly be deleted in full.

2. The ld. CIT(A) erred in law as well as on the facts of the case in considering the operation of the CBDT Circular No. 5/2012 dated 01.08.2012 as retrospectively applicable and erred in confirming the application of the same for the subjected assessment year. The application of the said CBDT circular be held prospectively, not applicable in the subjected assessment year and accordingly the dis allowance based thereupon, kindly be deleted in full.

3. Rs. 71,97585/-: The ld. CIT(A) erred in law as well as on the facts of the case in confirming the adhoc dis allowances totaling to Rs. 45,75,552/- out of the total expenditure Rs. 71,97,585/- incurred by the assessee on account of advertisement, publicity, sales promotion, traveling and other business expenditure incurred wholly and exclusively for business purposes fully in accordance with the law of land and without any contravention and violation thereof. The details of the impugned dis allowance made and confirmed are as under:

The dis allowance so made and confirmed by the CIT(A) being totally contrary to the provisions of law and facts of the case, kindly be deleted in full

4. The appellant prays your honour indulgences to add, amend or alter of or any of the grounds of the appeal on or before the date of hearing.”

2. The assessee is a pharmaceutical company engaged in manufacturing of formulations of non patent/ generic drugs and sells them in brand names. During the course of the assessment proceedings, the AO noted that the assessee has debited various expenses in the profit and loss account of gifts to business guest, entertainment expenses, conference expenses on Doctors, traveling and conveyance expenses, miscellaneous expenses on Doctors. The AO analysis the details of the expenses and found that these expenses incurred in giving gifts and freebies to the Directors which is against the regulations issued by the Medical Council of India (MCI), therefore, the said expenditure is in violation of regulations issued by the Medical Council of India. The AO also placed reliance on the CBDT Circular No. 5/2012 and accordingly disallowed 60% of the total expenditure of Rs. 71,97,585/- amounting to Rs. 45,75,552/-. The assessee challenged the action before the AO before the ld (CIT)A and contended that the entire expenditure incurred by the assessee is wholly and exclusively for the purpose of business. Further, these expenses are fully vouched and duly supported with proper bills and vouchers received etc. The ld. CIT(A) did not accept the contention of the assessee and confirmed the dis allowances made by the AO on the basis of MCI Regulations and CBDT circular dated 01.08.2012.

3. Before us, the ld. AR of the assessee has submitted that the CBDT circular dated 01.08.2012 is not applicable in the assessment year under consideration as it is applicable only w.e.f. A.Y. 2013-14. Further, he has submitted that the MCI regulations are in the nature of advice for its members constituents which includes doctors, medical practitioners, etc. Therefore, the MCI regulations has put an ethics prohibition upon them not to accept freebies like gifts, fee travel arrangements etc. But the said MCI regulation is completely silent so far as medical companies incurring the expenditure like assessee are concerned and therefore, it does not prohibit the pharmaceutical companies for incurring such expenditure for the purpose of their business. Hence, the ld. AR has argued that the MCI Regulations is not applicable on the pharmaceutical companies and consequential CBDT circular cannot be applied blindly. The authorities below have proceeded on misconception and purported confusion by understanding the MCI Regulations to be restriction put on pharmaceutical companies and not on the doctors. Such interpretation is completely contrary to the very contents of the regulations issued by MCI as it has been clearly put some restrictions and prohibitions on the medical practitioners who fall within the jurisdiction of the MCI and not on the pharmaceutical companies. As per the MCI Regulations only medical practitioners were prohibited to receive gifts and other freebies facilities from the medical companies/ individuals etc. and therefore, it was not a prohibition put on the medical companies/ individuals dealing with the manufacturing and sales of the medicine to the public. The ld. AR has further contended that even otherwise putting a prohibition upon medical companies is beyond the jurisdiction of MCI. Consequently the MCI Regulations could not have an effect as provided for any dis allowance of expenses incurred by the pharmaceutical companies. In support of his contention the ld. AR of the assessee has relied upon the decision dated 12.01.2017 of Mumbai Benches of the Tribunal in case of Dy. CIT v/s PHL Pharma P. Ltd in ITA No. 4605/Mum/2014. The ld. AR has also relied upon the decision of the Hon’ble jurisdiction Rajasthan High Court dated 18.07.2017 in case of Dr. Anil Gupta Vs. Addl. CIT in ITA No. 485/2008. Alternatively, the ld. AR has submitted that as per the explanation to Section 37(1) of the Act an expenditure is not allowable if it is incurred for any purpose which is offence and prohibited by law. However, in the instant case the various dis allowances made by the AO are only minor irregularities or the contravention inviting fines but are not the expenditure incurred in the nature as contemplated by explanation to Section 37(1). The expenditure incurred by the assessee even it is in contravention of the MCI Regulations it cannot be held as an offence. The words “offence” is not defined in the Income Tax Act, however, it is defined in Section 3(38) of the General Clauses Act, 1887 which means by any act or omission made punishable by any law for the time being in force. The expression “prohibited by law” is also not defined in the Income Tax Act however, when the expenditure incurred by the assessee is not prohibited by law and the ethical guidance issued by the MCI cannot be applied as prohibition. He has also relied upon the decision of the Mumbai Benches of the Tribunal in case of Macleods Pharmaceuticals Ltd. Vs. Addl. CIT (2016 74 Taxmann.com 250.

4. On the other hand, ld. DR has submitted that the MCI Regulations are equally applied to pharmaceutical and allied industries, therefore, the gift and other expenses are covered by the explanation to Section 37(1) of the Income Tax Act. In support of his contention he has relied upon the decision in case of Apex Laboratories (P.) Ltd. v. ACIT (2017) [TS-5503-ITAT-2017 ( Chennai)-O] and submitted that the Tribunal held that in view of the Medical Council of India (Professional conduct, ethiquette Ethics) Regulation, 2002, expenditure incurred by the taxpayer by way of freebies and gifts to doctors and medical practitioners was not allowable business expenditure u/s 37(1) of the Income Tax Act. The ld. DR has submitted that the assessee in the said case claimed that the provisions of MCI Regulations, 2002 applied to Directors only. The ld. DR has also relied upon the decision of Hon’ble Punjab & Haryana High Court in the case of CIT v. KAP Scan and Diagnostic Center (P.) Ltd. TS-5878-HC-2010 (Punjab & Haryana). Thus the ld. DR has submitted that the Hon’ble High Court has held Commission paid by the diagnostic center to private doctors for referring patients for diagnosis could not be allowed as a business expenditure. He has also relied upon the decision of Mumbai Benches of the Tribunal in the case of ACT v. Liva Healthcare Ltd. [TS-6132-ITAT (Mumbai)-O] wherein the Tribunal held that expenses incurred by taxpayer pharmaceutical company on overseas tours of doctors to increase their sales and profitability was not an allowable expenditure as overseas trip were directed towards leisure and entertainment of doctors and their spouses rather than being directed towards seminar for product information. Further, expenses incurred towards free samples distributed to physicians will be allowable only if free samples of physicians/ doctors at initial stage of introduction to test efficacy of products. He has relied upon the orders of the authorities below.

5. We have considered the rivals submissions as well as relevant material on record. The assessee is engaged in the business of manufacturing of pharmaceuticals. The assessee has claimed to have incurred advertisement, sales promotion, entertainment, traveling, business and miscellaneous expenses on doctors and business guests total amount to Rs. 71,97,585/-. The AO noted that the expenditure incurred by the assessee is hit by explanation to Section 37(1) of the Act in view of the MCI Regulations, 2002 which were issued on 10.12.2009 w.e.f. 14.12.2009 prohibiting the doctors and medical practitioners from receiving gifts, freebies from the pharmaceutical companies/ individuals. Accordingly, the AO disallowed 60% of the said expenditure amounting to Rs. 45,75552/-. The details of the expenditure and dis-allowance made by the AO are as under:-

Aggrieved by the action of the AO in disallowing the expenditure the assessee filed an appeal before the CIT(A), however, it could not succeed as the ld. CIT(A) has decided in this issue in para 4.3 is as under:-

“4.3 I have carefully considered the findings of the A.O. and also the submission of the appellant. It may be noted that as per explanation to the sec. 37(1) of IT Act any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure. In this background it may be noted that as per the regulations issued by MCI, Notified on 14.12.2009 which is a statutory body of Govt. of India certain payments/ expenditure incurred on account of gifts/travel facilities/ hospitality and cash and monitory grants to the medical practitioners by any pharmaceutical companies or any individual dealing in health care for pharmaceutical sectors was prohibited and accordingly as per explanation to Sec. 37(1), such claim of expenditure under the income tax act was not to be allowed. There is no dispute on the fact that such prohibition came into effect w.e.f. 14.12.2009 as also that the assessee is a pharmaceutical company and covered under such regulation issued by MCI. The only dispute of the assessee is that the Circular issued by the CBDT w.e.f. 01.08.2012 subsequent to such regulation issued by MCI on 14.12.2009 should be effective from 01.08.2012 i.e. from A.Y. 2013-14. However, such contention is devoid of any merit in as much as the prohibition of law in respect of such expenditure was introduced by the MCI w.e.f. 14.12.2009 and not by the CBDT by way of Circular dated 01.08.2012. In fact the Circular issued by the CBDT is only of clarificatory nature explaining the same facts which have been stated by the MCI. The important issue to be noted is that even if such Circular would not have been issued by the CBDT such type of expenses/ payments would certainly qualified for dis allowance because of the prohibition/ illegality fixed by the MCI. It is also a settled law that the Circulars of clarificatory nature are to be enforced with retrospective effect. Accordingly prima facie there is no merit in the contention of the appellant. As regards the case laws relied upon by the appellant, it may be stated that as the Circular issue by the CBDT is of clarificatory nature therefore the case laws relied upon by the appellant will not have any applicability in this case. Accordingly the ground of appeal is dismissed.”

Before us, the assessee as well as Department has placed reliance on series of decisions wherein two divergent views were taken by this Tribunal. However, the Hon’ble jurisdiction High Court in case of Dr. Anil Gupta Vs. ACIT (supra) while dealing with an identical issue has held in para 5 to 11 are as under:-

“5. The Tribunal while considering the case of the appellant has observed as under:-

“8. We may submit that expenses are vouched, comparable from earlier year, incurred wholly and exclusively for the purpose of business. On test chech basis few person were produced and examined by AO. Section 37(1) provides that:-

(i) any expenditure,

(ii) not being in the nature of capital expenditure or

(iii) personal expenses of the assessee

(iv) expended wholly and exclusively for the purpose of the business or profession shall be allowed in computing the income chargeable under the head “profits and gain of Business or profession”.

6. Counsel for the appellant contended that in view of the decision of the Delhi High Court in case of Max hospital, Pitampura vs. Medical Council of India; ILR (2014) 1 Delhi 620 where expenses are required to be allowed to the hospital as business expenses and wherein the Delhi High court has observed as under:-

“In the counter affidavit filed by the Respondent, it is not disputed that the MCI under the 2002 Regulations has jurisdiction limited to taking action only against the registered medical practitioners. It’s plea however, is that it has not passed any petitioner cannot have any grievance against the impugned order. At the same time, it is stated that only simple observations were made by the ethics committee of the MCI about the state of affairs in the petitioner hospital and the same did not harm any legal right or interest of the petitioner. It will be apposite to extract the relevant paragraphs of the counter affidavit filed by the MCI as under:-

4. Preliminary objections:

(i) That the instant writ petition is not maintainable under Article 226 of the Constitution of India as there is not cause of action for filing of this instant petition. The MCI has not passed any order against the petitioner in the impugned minutes of meeting dated  7.10.2012, therefore, there is no cause of action for filing the instant writ petition.

(ii) That the MCI has not passed any order against the petitioner and nor does the impugned minutes of meeting dated 27.10.2012 affect any legal right or interest of the petitioner which the petitioner seeks to enforce by filing this writ petition and thus the same is not maintainable.

(iii) That the jurisdiction of MCI is limited only to take action against the registered medical professionals under the Indian Medical Council ( Professional Conduct, Etiquette and Ethics) Regulations, 2002 (hereinafter the ‘Ethics Regulations’) and has no jurisdiction to pass any order affecting rights/interests of any Hospital, therefore the MCI could not have passed and has not be assailed before this Honorable court in writ jurisdiction.

(iv) That a simple observation made by the Ethics committee of MCI about the state of affairs in the petitioner Hospital has harmed no legal right/interest of the petitioner for which a writ can be issued by this Honorable Court against the answering respondent.

(v) That the petitioner contends that an adverse order has been passed by the MCI and that too without hearing the petitioner. Both these contentions of the petitioner are incorrect and by the MCI against the petitioner as MCI does not have any such jurisdiction; secondly, the petitioner was throughout represented before the Ethics Committee of MCI during the proceedings initiated on complaint of one Mr. Sunil Manchanda against some of the doctors working in the petitioner hospital. The petitioner was heard through is advocates on several occasions and had submitted several documents also in support of their stand.

7. It is clearly admitted by the respondent that it has no jurisdiction to pass any order against the petitioner hospital under the 2002 Regulations. In fact, it is stated that it has not passed any order against the petitioner hospital. Thus, I need not go into the question whether the adequate infrastructure facilities for appropriate post-operative care were in fact in existence or not in the petitioner hospital and whether the principles of natural justice had been followed or not while passing the impugned order. Suffice it to say that the observations dated 27.10.2012 made by the Ethics Committee do reflect upon the infrastructure facilities available in the petitioner hospital and since it had no jurisdiction to go into the same, the observations were uncalled for an cannot be sustained.”

7. he has also relied upon the decision in case of Dr. T.A. Quereshil vs. Commission of Income Tax reported in (2006) 287 ITR 0547 where the expenses were allowed for business loss as a result of seizure of heroine.

8. However, counsel for the respondent Mr. Jain contended that action of the respondent unethical and in view of the decision of Punjab & Haryana High Court in case of Commissioner of income Tax vs. Kap Scan and Diagnostic Center P. Ltd. reported in (2012) 344 ITR 476 and also the decision of Supreme Court in case of M/s Maddi Venkataraman and CO. (P) Ltd. vs. Commissioner of Income Tax reported in (1998 299 ITR 534 wherein para 24 and 25 it has been had as under:-

24. In the instant case the assessee had indulged in transactions in violation of the provisions of Foreign Exchange (Regulation) Act. The assessee’s plea is that unless it entered into such a transaction, it would have been unable to dispose of the unsold stock of inferior quality of tobacco. In other words, the assessee would have incurred a loss. Spur of loss cannot be a justification for contravention of law. The assessee was engaged in tobacco business, the assessee was expected to carry on the business in accordance with law. If the assessee contravenes the provision of ERA to cut down its losses or to make larger profits while carrying on he business, it was only to be expected what proceedings will be taken against the assessee for violation of the Act. The expenditure incurred for evading the provisions of the Act and also the penalty levied for such evasion cannot be allowed as deduction. As was laid down by Lord Sterndale in the case of Alexander Von Glehn (supra) that it was not enough that the disbursement was made in the course of trade. It must be for the purpose of the trade. The purpose must be a lawful purpose.

25. Moreover, it will be against public policy to allow the benefit of deduction under one statute, of any expenditure incurred in violation of the provisions of another statute or any penalty imposed under another statute. In the instant case, if the deductions claimed are allowed the penal provisions of FERA will become meaningless. It has also to be borne in mind that evasion of law cannot be a trade pursuit. The expenditure in this case cannot, in any way, be allowed as wholly and exclusively laid out for the purpose of assessee’s business.”

9. We have heard counsel for both the sides.

10. Section 37 of the Income Act reads as under:-

“37(1) Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head, “Profits and Gains of Business or Profession”.

[Explanation.- For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.]”

11. Counsel for the respondent has strongly relied upon explanation but in view of the observations made by the AO where he has allowed the part expenses of the hospital, in that view of the matter, we are of the opinion that the CIT(A) observations which are made by the CIT are required to be accepted. The explanation cannot come into play on appeal which was filed at this stage. Even otherwise in income tax proceedings the medical ethics will not be taken into consideration. At the most even if it is a professional misconduct it is to be dealt with my Medical Council of India. The income tax authority cannot decide the medical ethics when the original authority has partly
allowed the expenses”.

Respectfully the following the decision of the jurisdiction High Court (supra) we set aside the orders of the authorities below and allow the claim of the assessee. We make it clear that the AO has not doubted the genuineness of the expenditure incurred by the assessee but the dis allowance was made by the AO only on the ground that the said expenditure is hit by the explanation to Section 37(1) being prohibited by the MCI Regulations, 2002 issued on 10.12.2012 w.e.f. 14.12.2012 and consequently CBDT Circular no. 5/2012 dated 01.01.2012. Thus, when the genuineness of the expenditure is not doubted then the claim of the assessee cannot be disallowed in view of the binding precedent of Honorable jurisdiction High Court.

In the result, the appeal of the assessee is allowed.

Order pronounced in the open court on 12/12/2017