Section 40(a)(ia) disallowance applies to unpaid and paid amounts alike when tax deductible under Chapter XVII-B is not deducted.

Section 40(a)(ia) was applied as a deeming disallowance where tax deductible under Chapter XVII-B had not been deducted, even though the assessee claimed exemption under section 10(20) and argued that the receipt was not business income. The Tribunal treated the composite contract for supply, erection, testing and commissioning as attracting TDS under section 194C, and held that the exemption claim did not neutralise the statutory consequence of non-deduction. It further held that section 40(a)(ia) is not limited to amounts outstanding at year-end; it also covers expenditure already paid during the year if tax was deductible but not deducted. The disallowance was therefore sustained.

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Issues: (i) whether disallowance under section 40(a)(ia) of the Income-tax Act, 1961 could be sustained where the assessee claimed exemption under section 10(20) and contended that the income was not under the head profits and gains of business or profession; (ii) whether section 40(a)(ia) applied only to amounts outstanding as payable at the year end and not to amounts already paid.

Issue (i): whether disallowance under section 40(a)(ia) of the Income-tax Act, 1961 could be sustained where the assessee claimed exemption under section 10(20) and contended that the income was not under the head profits and gains of business or profession.

Analysis: The payment related to a consolidated contract for supply, erection, testing and commissioning of high mast lights, attracting the TDS provisions in section 194C of the Income-tax Act, 1961. The provision in section 40(a)(ia) was treated as a deeming disallowance operating notwithstanding other claims under the Act. The exemption under section 10(20) did not override the statutory consequence of failure to deduct tax at source. The Tribunal also relied on Circular No. 715 dated 08.08.1995 to hold that TDS was required on the composite bill for material and services.

Conclusion: The disallowance under section 40(a)(ia) was valid and the exemption plea under section 10(20) did not help the assessee.

Issue (ii): whether section 40(a)(ia) applied only to amounts outstanding as payable at the year end and not to amounts already paid.

Analysis: The Tribunal followed its earlier decision and later High Court authority to hold that the expression in section 40(a)(ia) could not be read narrowly so as to confine it only to unpaid balances. The provision was applied to expenditure on which tax was deductible but was not deducted, irrespective of whether the payment had already been made during the year.

Conclusion: Section 40(a)(ia) applied to the impugned payments as well, and the amount could not escape disallowance merely because it had been paid during the year.

Final Conclusion: The statutory disallowance was sustained in full and the assessee's appeal failed.

Ratio Decidendi: Section 40(a)(ia) operates as a mandatory disallowance for expenditure on which tax was deductible under Chapter XVII-B but was not deducted, and its operation is not confined to sums remaining payable at the year end or defeated by a general exemption claim under the Act.

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