Retrospective interpretation of section 40(a)(ia) favours the assessee when jurisdictional precedent is absent and recipient tax compliance is verified.

Where conflicting High Court views existed on the retrospective operation of the second proviso to section 40(a)(ia), and no jurisdictional precedent was available, the Tribunal applied the construction favourable to the assessee. It also held that disallowance of interest paid to non-banking finance companies could not be confirmed without verifying whether the recipients had included the receipts in their taxable income, particularly where Form No. 26A under Rule 31ACB was furnished. The matter was restored for limited factual verification, and the disallowance was to be deleted if the Form No. 26A requirements were satisfied.

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Issues: Whether disallowance of interest paid to non-banking finance companies under section 40(a)(ia) of the Income-tax Act, 1961 could be sustained when the recipients had allegedly included the receipts in their taxable income and Form No. 26A under Rule 31ACB had been furnished, and whether the second proviso to section 40(a)(ia) was retrospective.

Analysis: The Tribunal noted that the law on the retrospective operation of the second proviso to section 40(a)(ia) had conflicting High Court views and, in the absence of a jurisdictional High Court ruling, adopted the construction favourable to the assessee. It also observed that where the recipient of income has paid tax on the amount received, the question whether the payer should still suffer disallowance required verification of the recipient's tax compliance through Form No. 26A. The matter was therefore restored for limited factual verification as to whether the recipients had included the amount in their taxable income.

Conclusion: The disallowance was not finally sustained at this stage and the issue was sent back for verification; if the Form No. 26A requirements were satisfied, the disallowance was to be deleted.

Ratio Decidendi: In the absence of a jurisdictional precedent, where two reasonable constructions of a taxing provision are possible, the interpretation favourable to the assessee is to be adopted, and disallowance under section 40(a)(ia) requires verification of the recipient's taxability where Form No. 26A is relied upon.

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