1997 (12) TMI 3 - SC - Income Tax

Expenditures and penalties incurred to evade foreign-exchange law are nondeductible as they violate statutory and public policy

SC dismissed the appeal and upheld the HC, holding that expenditures and penalties incurred to evade statutory provisions (FERA) are not deductible. The ... Deduction u/s 37 - Expenditure incurred for evading the provisions of the Act - Imposition of penalty for such evasion - transactions in violation of the provisions of FERA - HELD THAT:- In the instant case, the assessee had indulged in transactions in violation of the provisions of the Foreign Exchange (Regulation) Act. The assessee's plea is that unless it entered into such a transaction, it would have been unable to dispose of the unsold stock of inferior quality of tobacco. In other words, the assessee would have incurred a loss. Spur of loss cannot be a justification for contravention of law. The assessee was engaged in tobacco business. The assessee was expected to carry on the business in accordance with law. If the assessee contravenes the provisions of the FERA to cut down its losses or to make larger profits while carrying on the business, it was only to be expected that proceedings will be taken against the assessee for violation of the Act. The expenditure incurred for evading the provisions of the Act and also the penalty levied for such evasion cannot be allowed as deduction. As was laid down by Lord Sterndale in the case of Alexander von Glehn and Co. Ltd., it was not enough that the disbursement was made in the course of trade. It must be for the purpose of the trade. The purpose must be a lawful purpose. Moreover, it will be against public policy to allow the benefit of deduction under one statute, of any expenditure incurred in violation of the provisions of another statute or any penalty imposed under another statute. In the instant case, if the deductions claimed are allowed, the penal provisions of the FERA will become meaningless. It has also to be borne in mind that evasion of law cannot be a trade pursuit. The expenditure in this case cannot, in any way, be allowed as wholly and exclusively laid out for the purpose of the assessee's business. We are in agreement with the view expressed by the High Court in this case. The appeal is dismissed. Issues Involved:1. Whether the sum of Rs. 2,95,000 is to be taken into account in computing the income of the assessee from business under section 28 of the Income-tax Act, 1961.2. Whether the claim of Rs. 2,95,000 is covered by sub-rule (j) of rule 6DD, framed under section 40A(3) of the Income-tax Act, 1961.3. Whether the sum of Rs. 19,659 incurred as guest expenses is allowable as a deduction.Issue-wise Detailed Analysis:1. Computation of Income under Section 28:The Tribunal referred the question of whether Rs. 2,95,000 should be included in the assessee's business income under section 28 of the Income-tax Act, 1961. The assessee claimed this amount as business expenditure/loss, arguing that it was necessary to dispose of sub-standard tobacco stock at a discount, which involved remitting 20% of the sale price back to a Singapore party through an intermediary, Shamsuddin. The Income-tax Officer disallowed this claim, deeming the payment non-genuine and in contravention of section 40A(3) of FERA. The Tribunal, however, found that the amount should reduce the assessee's income from the export transaction, effectively recognizing the transaction's reality but not its legality.2. Applicability of Rule 6DD(j) under Section 40A(3):The Tribunal also considered whether the payment to Shamsuddin fell under the exceptions of rule 6DD(j), which allows cash payments in exceptional and unavoidable circumstances. The Tribunal concluded that the payment did not attract section 40A(3) because it was made under exceptional and unavoidable circumstances. However, the High Court disagreed, asserting that expenses tainted with illegality could not be allowed as business expenditure under section 37 or as business loss. The High Court emphasized that the transaction was illegal and not a normal incidence of carrying on business.3. Deduction of Guest Expenses:The issue of whether Rs. 19,659 incurred as guest expenses is allowable as a deduction was also raised. However, the judgment primarily focused on the legality of the Rs. 2,95,000 payment and did not provide a detailed analysis of the guest expenses claim.High Court's Findings:The High Court held that the Tribunal erred in its conclusions, stating that payments tainted with illegality could not be claimed as deductions. The High Court emphasized that the agreement to remit 20% of the sale price back to the Singapore party was illegal and could not be recognized by the court. The High Court further stated that the real income from the export transaction was the full invoice price, not the amount minus the illegal payment. The High Court cited various precedents, including English and Indian cases, to support its view that penalties or fines for legal infractions cannot be deducted as business expenses.Supreme Court's Conclusion:The Supreme Court agreed with the High Court's view, dismissing the appeal and holding that the expenditure incurred for evading the provisions of FERA and the penalty levied for such evasion could not be allowed as deductions. The Court emphasized that allowing such deductions would undermine the penal provisions of FERA and be against public policy. The appeal was dismissed with no order as to costs.