1990 (11) TMI 200 - AT - Income Tax

Warranty Provision Not Deductible: Tribunal Rules on Contingent Liability

INCOME TAX OFFICER. Versus ALLENA AUTO INDUSTRIES (P) LTD.

The Tribunal held that a provision for warranty, being contingent on future claims, cannot be considered as deductible expenditure. The decision was based ... - Issues:Allowance of provision for warranty as expenditure while computing income for the assessment year.Analysis:The appeal by the Revenue concerns the allowance of Rs. 91,492 as expenditure for provision for warranty during the assessment year 1982-83. The assessee, engaged in selling water pumps and car pumps, changed its method of accounting for warranty claims from actual expenses to a combination of actual expenses and provision. The Revenue disallowed the provision, alleging it would result in a double claim for the same expenses. The CIT(A) allowed the claim, citing the bona fide nature of the change and past court decisions permitting such accounting method changes. The CIT(A) relied on the decision in the case of Wanson (India) Ltd. vs. ITO, where a similar provision was considered justifiable based on the assessee's experience. The Department challenged this decision, arguing that the provision was a contingent liability, and true profit could not be determined accurately. The Department referred to various court decisions supporting its stance that contingent liabilities cannot be allowed as deductible expenditure.The Tribunal analyzed the nature of warranty as defined in the Sale of Goods Act, stating that warranty is a collateral contract leading to a claim for damages, not a right to reject goods. The provision for warranty claims remains a contingent liability until actual claims are made. The Tribunal concurred with the Department's argument that a provision for warranty, being contingent on future claims, cannot be allowed as deductible expenditure. The Tribunal cited court decisions, including the Supreme Court ruling in Shri Sajjan Mills Ltd. vs. CIT, emphasizing that contingent liabilities do not constitute expenditure eligible for deduction. The Tribunal concluded that the provision for warranty, being a contingent liability, cannot be allowed as deductible expenditure. Consequently, the Tribunal set aside the CIT(A)'s decision and reinstated the IAC(Asst)'s order disallowing the provision for warranty.In summary, the Tribunal upheld that a provision for warranty, being contingent on future claims, cannot be considered as deductible expenditure. The decision was based on the nature of warranty as a contingent liability until actual claims are made, as per the Sale of Goods Act and relevant court precedents.