Summary: The tax treatment of educational sponsorship by an employer involves a dual analysis: the employer’s ability to claim a deduction and the employee’s tax liability. Under Section 37(1) of the Income-tax Act, an employer can deduct expenses for an employee’s education if it is directly related to the business and enhances the employee’s skills for the company’s benefit. Judicial precedents, such as CIT v. Koustub Investments Ltd., affirm that such expenditures are deductible, provided there is a clear nexus between the education and the business purpose. For the employee, such sponsorship may be exempt from tax under Section 10(16) if it’s structured as a scholarship to meet the cost of education. This prevents it from being classified as a taxable perquisite under Section 17(2). Courts, in cases like CIT v. M.N. Nadkarni, have consistently held that scholarships, even to an employee’s children, are not taxable perquisites when the employer grants them at its sole discretion, without a contractual right vested in the employee. For businesses, meticulous documentation—including sponsorship agreements, board resolutions, and proof of the educational course’s relevance—is crucial to support the tax claim and avoid disallowance.
The tax treatment of educational sponsorship provided by an employer involves two aspects:
1. Employer’s deduction under Section 37(1).
2. Employee’s taxation (whether treated as perquisite or exempt scholarship).
Judicial pronouncements across different High Courts establish that such expenses are deductible to the employer and not taxable in the hands of the employee or their children if structured as scholarships.
Statutory Framework
– Section 37(1): General deduction provision for business expenditure.
– Section 17(2): Defines perquisite; requires a vested benefit to employe.
-Section 10(16): Exempts scholarships granted to meet cost of education.
EMPLOYER’S DEDUCTION U/S 37(1)
CIT v. Koustub Investments Ltd. (Delhi HC)
Held: Expenses incurred by employer on higher studies/training of employees abroad are deductible u/s 37(1).
Reasoning: Expenditure was wholly for business purposes; skills gained directly enhanced efficiency of the company’s business.
In this case, the Assessing Officer disallowed certain expenditure claimed by assessee-company on higher education, an employee of company, who was son of directors, for undertaking an MBA course in UK. Assessee submitted that the Employee wished to pursue an MBA after serving for an year with company and committed himself, by signing a bond to work for further five years tenure after finishing his MBA. The employee was a brilliant student and company was in need of Manager who would study market and, therefore, Board of Director took decision to send him for pursuing MBA from UK.
On appeal, the Commissioner (Appeals) and the Tribunal upheld the disallowance in the appellate proceedings.
The High Court, on Appeal, however ruled in favour of the Assessee and held that-
There can be no doubt that the burden of showing that expenditure would be wholly and exclusively for the purpose of business under section 37(1) is upon the assessee and that personal expenditure cannot be claimed as business expenditure. The question is whether these twin requirements are said to have been satisfied in the circumstances of this case. The first is what are the materials on record? The assessee furnished its resolution authorizing disbursement of the expenses to fund MBA programme of the Employee. It secured a bond from him, by which he undertook to word for five years after return within a salary band and he had in fact worked after graduating from the University for about a year before starting his MBA course. The assessee’s business is in investments and securities he wished to pursue an MBA after serving for an year with the company and committed himself to work for a further five years after finishing his MBA. There is nothing on record to suggest that such a transaction is not honest.
Whilst there may be some grain of truth that there might be a tendency in business concerns to claim deductions under section 37, and foist personal expenditure, such a tendency itself cannot result in an unspoken bias against claims for funding higher education abroad of the employees of the concern. As to whether the assessee would have similarly assisted another employee unrelated to its management is not a question which has to consider. But that it has chosen to fund the higher education of one of its Director’s sons in a field intimately connected with its business is a crucial factor cannot ignore. It would be unwise for to require all assessees and business concerns to frame a policy with respect to how educational funding of its employees generally and a class thereof, i.e., children of its management or Directors would be done. Nor would it be wise to universalize or rationalize that in the absence of such a policy, funding of employees of one class – unrelated to the management – would qualify for deduction under section 37(1). There is no intent in the statute which prescribes that only expenditure strictly for business can be considered for deduction. Necessarily, the decision to deduct is to be case-dependent.
In view of the above discussion, the expenditure claimed by the assessee to fund the higher education of its employee to the tune of Rs. 23,16,942 had an intimate and direct connection with its business, i.e., dealing in security and investments. It was, therefore, appropriately deductible under Section 37(1).
Aswathanarayana & Eswara LLP v. DCIT (Madras HC, 2018) [258 Taxman 210]
Sponsorship of partners for advanced education abroad allowed as business expenditure. Court emphasized nexus between expenditure and business efficiency.
In this case, the assessee is a partnership firm consisting of two brothers, two sons of one brother. All the four partners are duly qualified Engineers (B.E.) and the firm is carrying on Engineering Consultancy Profession for leading Indian Corporate Clients. One of the partner’s son, Mr. H.E. Sriprakash Shastri, joined the firm in April 2000 after completing his B.E., degree. After graduation, he was made a working partner of the firm and he has worked on several projects, which have been mentioned by the assessee. In February 2001, he was sent to Australia for higher education. The Education expenses was claimed as deduction. The assessing officer disallowed the claim. On appeal, the CIT(A) and ITAT also confirmed the disallowance.
The High Court, on appeal held that the partner’s son, Mr. H.E. Sriprakash Shastri, after completion of the post graduate degree, continued to work for the firm and materials were placed to show that several important contracts have been secured by the firm, which they attribute to the educational qualification and expertise acquired by the partner of the firm abroad. There was no material place by the Revenue to demonstrate that any part or whole of the stand taken by the assessee was either false or untrue. Therefore, we are of the considered view that the expenditure was allowable and the authorities concurrently erred in not taking into consideration the factual position placed, in spite of specific grounds raised before the Tribunal, which would render the decision perverse.
NOT PERQUISITES IN EMPLOYEE’S HANDS
CIT v. M.N. Nadkarni (Bom HC, 1986) [161 ITR 544]
Scholarships to employees’ children held not taxable perquisites.
In this case, the assessee was an employee in a company, which had instituted a scholarship scheme for the benefit of the children of the managing staff in respect of their education. The grant of scholarship was in the sole and uncontrolled discretion of the company and no member of the managing staff had any right to claim such scholarships for his children.
The ITO included such scholarship amounts as perquisite in the assessment of the assessee, holding that the benefit to the children arose out of the source of the employment.
The Tribunal held that though the impugned amount was not exempt under section 10(16), section 17(2)(iii ) was not attracted as the terms of the scholarship did not confer any right on the part of the assessee to expect the company to pay any scholarship to the children of the assessee and, hence, the scholarships received by his children could not be said to be a benefit received or derived by the assessee. It, accordingly, quashed the ITO’s order.
On Appeal by the Department, the High Court held that the scholarships in question were granted to meet the cost of education and were exempt under section 10(16) even if these were treated as having been paid to the assessee as perquisite.
CIT v. V.K. Balachandran (Mad HC, 1984) [147 ITR 4] Scholarship received for education abroad exempt u/s 10(16).
The assessee, a professor of mathematics, was granted a grant-in-aid by a foreign institution for doing advance research work in the field of mathematics. The assessee claimed that the grant- in-aid received by him from the said foreign institution was not liable to be included in his total income in view of the provisions of section 10(16). The ITO disallowed the assessee’s claim on the ground that the grant-in-aid was nothing but salary paid by a foreign institution to the assessee as a professor of mathematics. On appeal, the Tribunal held that the grant-in-aid received by the assessee was undoubtedly of an income character, but nevertheless it must be considered to be a scholarship and on that account was to be excluded from the total income of the assessee under section 10(16).
The Department filed a reference to High Court and the High Court held that-
There are, therefore, two considerations which together make up the concept of a ‘scholarship for meeting the cost of education’ within the meaning of section 10(16). One is that the scholarship is a payment intended to be an income receipt in the hands of the scholar and the other one is that whatever is paid is intended to meet the cost of education of the recipient.
Since the purpose is to meet the cost of education, the question whether the quantum of payment is adequate or inadequate, or is or is not in excess of requirements are all beside the point. It is not the appropriation of the scholarship that matters. It is enough if the whole object of the payment is to meet the cost of education of a person and no further inquiry is called for in order to exclude the amount from the taxable total income under section 10(16). Therefore, if the grant-in-aid is paid only for meeting the cost of education, the fact that the recipient does not spend the whole amount towards education or that he is able to save something out of it would not detract from the character of payment being one for scholarship.
That apart, the CBDT has also proceeded on a liberal understanding of the provisions of section 10(16) and have accordingly, given instructions to the departmental officials at the assessment level to grant exemption from tax to scholarships apparently without making much fuss about the precise nature of the receipts so long as the receipts of the scholars can be broadly brought under the heading ‘scholarship’ and so long as the terms of the scholarship do not contain any purpose extraneous to education.
CIT v. B.L. Garg (All HC, 2007) [289 ITR 218]
Employer-sponsored scholarship for employee’s children exempt; not perquisite in employee’s hands.
In this case, the assessee claimed exemption under section 10(16) in respect of the payment made by his employer to his child as scholarship. The Assessing Officer disallowed the assessee’s claim, on ground that the amount given by the employer to the assessee’s son as scholarship, was a perquisite and liable to be taxed under the head ‘Salary’ under section 17. The Tribunal, however, allowed the assessee’s claim holding that payment was made by the employer to the children of assessee as scholarship.
The Department filed a reference to High Court and the High Court held that-
The department’s contention that the payment of scholarship was nothing but a perquisite to the assessee and as such it was liable to be included in the hands of the assessee under section 17, was misconceived and liable to be rejected. The fact that the amount of scholarship was received by the assessee’s son and not by the assessee had not been in dispute. In CIT v. M.N. Nad Karni, the Bombay High Court has held that when the scholarship was paid entirely gratuitously by the company and in its sole discretion and payment of scholarship amount was never received by the employee but the children concerned, the scholarship amount cannot be treated as a perquisite received by the assessee as contemplated under section 17(2)(iii)(c).
Contra Judgements:
Pushpsons International v. Asstt. CIT [IT Appeal No. 417(Del)/2007 dated 21st April, 2011]
In this case the Tribunal held that in the absence of written agreement to join back the firm, the expenditure incurred on higher education abroad of grandson of firm’s partner who was working in the firm as an apprentice could not be allowed as business expenditure under section 37 of the Act.
CIT v. Hindustan Hosiery Industries [1994] 73 Taxman 521
In the case which arose before the Bombay High Court in the facts were that the assessee-firm was a family concern of mother and four sons and it was carrying on business of manufacture of nylon socks and underwears and one of the sons aged 21 years was sent abroad for higher studies at the same time when he was taken in as a partner. The High Court on reference (appeal) by the Revenue reversing the order of the Tribunal held that when there was no nexus between expenditure incurred and business carried on by the assessee, such expenditure could not be allowed as a deduction under section 37 of the Act.
MAC Explotec (P.) Ltd. v. CIT [2006] 155 Taxman 247
In a family company belonging to husband and wife, who were directors, sent their son abroad for education and it was established by the Revenue that no specialised training was given to him nor was the training necessary for the purpose of running the business of the company and disallowed the education expenses. The CIT(A) and ITAT also confirmed the disallowance. On these facts agreeing with the decision of the Tribunal, the Karnataka High Court dismissed the references (appeals) preferred by the assessee by holding that such expenses incurred by the assessee-company were personal expenses of the directors and not allowable as business expenditure under section 37 of the Act.
Practical Guidance
The assessee is advised to take care of the following aspects, though the list is not exhaustive. Even one minor change/difference in the facts and circumstances of each case may make a major alteration. Moreover, presentation of the case lucidly before the authorities is essential at each stage.
Document business purpose in employee-education cases (e.g., bond to serve, relevance to role).
- Grant scholarships directly in the child’s name and at employer’s discretion.
- Avoid contractual right in employee (to prevent perquisite classification).
- Separate from CSR activities (else deduction in not allowed u/s 37).
- It is to be ensured that such person is a qualified person and his qualification is commensurate with the needs of the business.
- The higher educational course to be undertaken by such person should have intimate connection with (the needs of) the business carried on by the assessee.
- An undertaking should be executed with such person beforehand, i.e., prior to undertaking of foreign trip—that such person would work for the assessee’s business entity for a specified number of years after completion of the course and the specified number of years should be commensurate with the expenditure incurred, type of educational experience gained and business needs of the company.
- The package to be offered to such person after return on completion of the course should fall in line with the business needs, market conditions and the qualification acquired.
- Sponsorship agreement should be comprehensively drafted in such a way that the business interest of the assessee is kept at the forefront.
- Detailed record of contribution made by such person after his return has to be maintained on a “live basis” to substantiate facts at the time of assessment, as there is always a gap of a few years between incurring of expenditure and starting/conclusion of assessment proceedings.
- A detailed list of expenses incurred on such person duly supported by vouchers and proper authentication have to be maintained in the form of a folder. Only expenses pertaining to education and incidentals related to such educational activities, such as boarding and lodging should be covered in such a folder kept as record for expenses incurred while at the same time keeping the personal expenses of such person to be met by him/her out of total purview, thus leaving no room for probable disallowance on such personal account.
- Copies of the educational qualification of such a person testified by certificates issued by the educational institutions including universities have to be preserved carefully.
- In the case of a company, a Board Resolution passed in the Meeting of Board of Directors listing out in detail the qualification of such person, business requirements, copy of sponsorship letter, copy of agreement entered with such person and other related and necessary documents will have to be maintained. In the case of partnership firms also minutes of the meeting of partners in the book form is desired to be maintained with the list of requirements mentioned herein before.
- As the allowability of the claim of expenditure is based on documents and evidences, one is advised to preserve them and produce them before the authorities when directed to do so. Moreover, allowability of expenditure is essentially: (i) a question of fact, and (ii) based on evidences duly supported by documents.
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