High Court allows customs duty as deductible expenditure for Assessment Year 1985-86

The High Court ruled in favor of the Respondent-Assessee, allowing the customs duty liability of Rs. 1.78 crores as an allowable expenditure for the Assessment Year 1985-86. The Court held that the liability was certain and quantified, making it deductible under the mercantile system of accounting. The Tribunal's decision to set aside the Commissioner of Income Tax's order was upheld, emphasizing that the customs duty liability was part of the purchase cost and not contingent. The High Court also rejected the argument that the Reference to the High Court was time-barred, affirming the validity of the Respondent's position based on the specific circumstances of the case.

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Issues Involved:
1. Whether the customs duty liability of Rs. 1,78,83,846/- was an allowable expenditure for the Assessment Year 1985-86.
2. Whether the Tribunal was correct in setting aside the order of the Commissioner of Income Tax and restoring the order of the Income Tax Officer.
3. Whether the liability was a contingent liability or an ascertained liability.
4. Whether the Reference made to the High Court was time-barred.
5. Applicability of the decision in Mcdowell & Co. Ltd. v. ITO to the present case.

Issue-wise Detailed Analysis:

1. Allowability of Customs Duty Liability as Expenditure:
The Respondent-Assessee, a firm, had purchased goods under agreements which stipulated that any customs duty liability would be borne by the buyer. Subsequent to the agreements, there was an increase in customs duty, resulting in a liability of Rs. 1.78 crores. The Respondent-Assessee debited this amount to its Profit & Loss Account for the Assessment Year 1985-86. The Assessing Officer accepted this expenditure, but the Commissioner of Income Tax (CIT) later reversed this decision, considering the liability contingent as it was under dispute in the Supreme Court. The Tribunal, however, held that the liability was certain and quantified, thus allowable as a deduction on an accrual basis under the mercantile system of accounting.

2. Tribunal Setting Aside CIT's Order:
The Tribunal allowed the Respondent-Assessee's appeal, holding that the customs duty liability was a part of the purchase cost and thus deductible. The Tribunal noted that the Respondent-Assessee followed the mercantile system of accounting, where liabilities are accounted for when they are incurred, not when they are paid. The Tribunal also observed that the liability was quantified by the Customs Department and was part of the sale price agreed upon in the contracts.

3. Contingent vs. Ascertained Liability:
The CIT had considered the customs duty liability as contingent because the seller had challenged the duty in the Supreme Court, which had granted a stay on payment. However, the Tribunal and the High Court found that the customs duty demand by the Customs Department was a definite liability, regardless of the ongoing dispute. The High Court referred to the Supreme Court's decision in Kedarnath Jute Mills Co. Ltd. v. CIT, which held that a liability does not cease to be an actual liability merely because it is disputed in court.

4. Timeliness of the Reference to the High Court:
The Respondent-Assessee argued that the Reference to the High Court was time-barred as it was made nine years after the Tribunal's order. However, the High Court found this objection without merit, noting that the time taken by the Tribunal to dispose of the Reference Application could not be held against the Revenue. The High Court emphasized that the Reference Application was filed within the statutory period by the CIT.

5. Applicability of Mcdowell & Co. Ltd. v. ITO:
The Revenue argued that the decision in Mcdowell & Co. Ltd. v. ITO applied, suggesting that the arrangement was a tax avoidance scheme. However, the High Court distinguished the facts of the present case from Mcdowell, noting that the customs duty was a genuine part of the purchase cost agreed upon in the contracts. The High Court also referred to UOI v. Azadi Bachao Andolan, which held that a valid legal act cannot be disregarded based on the perceived motive of tax avoidance.

Conclusion:
The High Court answered the question in favor of the Respondent-Assessee, affirming that the customs duty liability was an allowable expenditure for the Assessment Year 1985-86. The Reference Application was disposed of with no order as to costs.

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