We know that there are five heads of income, in which income of any assessee has been taxed. There may be different types of income an assessee earned during previous year such as income from salary, House Property, Profit and gain from business or profession, Capital Gain and Income from other sources. 

Section 28 is the charging section in case Profits and Gains from business or profession and expenditure described in sections 30 to 36 are allowed as deductions from turnover or receipt of an assessee. 

Those expenditures which are not covered under expenditure mentioned in Section 30 to 36 of the Income Tax Act, 1961 and not being in nature of Capital or Personal Expenditure of the assessee, laid out or wholly expended and exclusively for the purpose of the business or profession, shall be allowed as deduction in computing the income chargeable under the Head” Profit and gain from business or profession”.

Tax deductions notepad writing concept on dark background with pen and calculator.



1. Expenditure which is an offence or prohibited by law not to be allowed as deduction [Section37(1)]: – any expenditure which an assessee incurred during previous year, such as for payment of hapta, freebies, donations, protection or extortion money will not be allowed as deduction. Since these acts are prohibited under land of law.

2. Freebies given to medical practitioner not to be allowed as deduction:-CBDT has issued Circular No. 5/2012, dated 1.8.2012 stating that as the Indian Medical Council has imposed a prohibition on medical practitioner for taking any gift, travel facility, hospitality , cash or monetary grant from pharmaceutical and allied health sector industries , the expenditure incurred by an assessee in providing such “ freebies” has to be regarded as incurred “ for a purpose which is either an offence or prohibited by law” and disallowed under Section 37(1) of the Act.

 3. Payment to Police Personnel and others as protection money or bribe not to be allowed as deduction. If assessee has incurred expenditure on his/her security then that expenditure is allowed. 

Note: Section 37 is a residuary Section. Hence this section covers only those items of business expenditure which are not covered by the specific sections i.e. Sections 30 to 36 of the Act,1961.


Dr. T.A. Qureshi Vs. CIT (2006)287ITR547(SC): – stock of heroin of the assessee doctor was seized as he was found to be engaged in manufacture and sale of the same. The assessee doctor claimed such confiscation of illegally activity stock as a business loss but High Court held that such deduction is not allowed due to Explanation 1 to Section 37(1). The Supreme Court while reversing the High Court decision held that Explanation to Section 37 only deals with business expenditure and has not relevance in regard to loss sustained in business which is deductible on ordinary commercial principal of computing profits.

Usha Micro Process Controls Limited vs.CIT (2013)218 Taxman 68 (Del)(Mag): –the redemption fine paid by the assessee to custom authorities for re-exporting the software is compensatory in nature and not penal , as the was paid in order to free the confiscated goods from the authorities , such amount paid would fall outside the ambit of Explanation to Section 37 and thus allowable as deduction.

The Stock and Bond Trading Company Vs. CIT: –   in this case assessee paid penalty/fine to BSE/NSE for infringement of procedural rules such as failure to maintain margins, trading beyond exposure limits, late submission of margin certificate etc. The AO has disallowed the expenditure on the basis of explanation to the Section 37 of the Act. The High Court held that, as the payments made by the assessee to the Stock Exchange for violation of their regulation was not on account of an offence or which is prohibited by law. Thus, the invocation of Explanation to the Section 37 was not valid in this case.

EXPLANATION 2: [SECTION 37(2)] provides that any expenditure incurred by an assessee in compliance with  Corporate Social Responsibility according to the provisions of Section 135 of the Companies Act, 2013 shall not be considered as an expenditure for the purpose of business and same shall not be allowed as deduction under provision of Section 37 of the Income Tax Act, 1961. 


a) Such expenditure should not be covered by the provisions of Sections 30 to 36 of the Act;

b) Expenditure should not be of Capital nature;

c) The expenditure should have been incurred during previous year under consideration;

d) The expenditure should not be of personal nature;

e) The expenditure should have incurred wholly for business or profession. 

Note: in determining whether a particular item of expenditure is or is not deductible under Section 37(1) (or other sections 30 to 36) it is necessary to examine whether the deduction is subject to any overriding provisions contained in Sections 37(2B), 40,40A and 43B. 


1. Expenditure should not be covered under Sections 30 to 36: Section is a residuary section. Any expenditure which does not fall under provisions of Section 30 to 36 and satisfying conditions of Section 37 is allowed as deduction hereunder. Thus, is any particular expenditure falls within ambit of any of the sections 30 to 36 and it is found not to be fulfilling the conditions and allowances laid down in that section, it cannot be claimed under the residuary section.

 2. Expenditure should not be of Capital Nature: 

The separation of expenditures as revenue and capital is very important under Income Tax Act, 1961. The nature of an expense decides allowability as deductible expenditure. Since all revenue expenditure held by an assessee during previous year shall be allowed as deduction. The Capital Expenditure is not allowed as deduction and same will be capitalised in books of account of the assessee. 

CIT Vs. Madras Auto Service (P) Ltd., (1998)233ITR468(SC); The Supreme Court summarised the general principles applicable in determining whether a particular expenditure is capital or revenue expenditure as follows; 

1) Outlay is deemed to be capital when it is made for the initiation of a business, for extension of a business, or for a substantial replacement of equipment;

2) Expenditure may be treated as property attributable to capital when it is made not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade. If what is got rid of by a lump sum payment is an annual business expense chargeable against revenue, the lump sum payment should equally be regarded as a business expenses, but if the lump sum payment brings in a capital asset, then that puts the business on another footing altogether;

3)  Whether for the purpose of the expenditure, any capital was withdrawn, or, in other words whether object of incurring the expenditure was to employ what was taken in as capital of the business. Again, it is to be seen whether expenditure incurred was part of fixed capital of the business or part of circulating capital.

4) Quantum of expenditure is irrelevant for deciding whether it is of revenue or capital nature.

3. Expenditure should have been incurred during previous year; 

1) Where an assessee adopts mercantile system of accounting, in order to be allowable under these provisions, the expenditure must be incurred in that year. [Mysore Spinning & Manufacturing Co Ltd. Vs. CIT (1966)65 ITR 572(BOM)] 

2) There must in the year of account be a present obligation capable of commercial valuation and in respect of which expenditure incurred. [ CIT vs. Gemini Cashew Sales Corporation (1967) 65 ITR 643 (SC)] 

3) An order to claim an amount as revenue expenditure the assessee must be able to establish that either the expenditure was incurred in that particular year or something happen which has created or crystallised a liability of the assessee in that year so that the amount can be claimed deduction on accrual basis.[ Kanoria Chemicals & Industries Ltd. Vs. CIT(1995) 78 Taxman 455 (Cal)].

4)  A provision for a contingent or unaccrued liability is not allowable as deduction. However, where the discounted present value of a contingent liability is ascertainable on a reasonable basis same may be taken into consideration for allowing deduction. [ Indian Molasses Co. P. Ltd. Vs. CIT (1959) 37 ITR 66 (SC)].

5)  The provisions for warranty, although a contingent in nature is allowable as business expenditure.

 6) The provisions of warranty made on the basis of past experience by an assessee is allowable as deduction.

4. Expenditure should not be of personal nature;

The personal expenses of an assessee shall not be allowed as deduction under Section 37. Since personal expenses cannot be characterised as an expense for purpose of business or profession. 

State of Madras Vs. Coelho(G.J.) (1964) 53 ITR 186(SC): the Supreme Court explained that personal expenses would include expenses on the person of the assessee or to satisfy his personal needs such as cloths, food etc., for the purpose and not related to business for which deduction is claimed.

It was further explained that every expense to discharge personal obligation cannot become a personal expense. Suppose a director has taken in his name loan and has given the same the company, then interest paid by director on behalf of company cannot be said that his personal expense and same shall be allowed as deduction.

Madhav Prasad Jatia Vs. CIT (1979) 118 ITR 200(SC); interest paid on borrowing to enable an assessee to make gift to meet personal obligation canon be deducted.  

UP Asbestos Ltd. Vs. CIT (2014) 52 Taxman 452: where in a case expenditure is incurred by a company to send son of a director for further higher studies abroad on a condition that after completion of studies, he should join the company. The expenditure held allowed as deduction and considered as for the purpose of business. 

5. Wholly and exclusively for the purpose of business;

The word “wholly” refers to quantum of expenditure and “exclusively” refers to the motive, objective and purpose of expenditure. The expression wholly and exclusively does not mean the expenditure should be necessarily incurred for the purpose of business. It is for an assessee to decide whether expenditure incurred in the course of his business. The expenditure may be incurred voluntarily without any necessity, but it is for the purpose of business or business earn profit after that expenditure, then it will be deductible under provisions of Section 37. 


1) Motive of earning from expenditure is not an essential factor;

2) Gaining a direct benefit is not an essential factor;

3) Direct concern and direct purpose to be considered;

4) Nexus between expenditure and business is essential;

5) Expenditure is allowable even if third part is benefited;

6) Prudence is a basis principle of accountancy;

7) Commercial expediency to be looked.

Conclusion:  there are lot of judicial proceedings, clarifications, notifications on this matter. We shall find out in details along with various case laws related to general principles for claiming expenditure under Section 37(1).


The entire contents of this document have been prepared on the basis of relevant provisions and as per the information existing at the time of the preparation. Although care has been taken to ensure the accuracy, completeness, and reliability of the information provided, author assume no responsibility, therefore. Users of this information are expected to refer to the relevant existing provisions of applicable Laws and take appropriate advice of consultants. The user of the information agrees that the information is not professional advice and is subject to change without notice. Author assume no responsibility for the consequences of the use of such information.

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A Qualified Company Secretary, LLB from Purvanchal University UP and a Science Graducate , Alumni of Banaras Hindu University (Bsc.), having more than 19 years of experience in the field of Secretarial Practice, Project Finance, Direct Taxes ,GST, Accounts & Finance and recently working as a M View Full Profile

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