Liquidated damages for breach of contract treated as business loss, not speculative loss under income-tax rules.

Where a dealer had sufficient stock to perform a forward contract but chose not to deliver and instead paid the buyer damages after market prices rose, the payment was treated as liquidated damages for breach of contract and not as a speculative loss under section 43(5) of the Income-tax Act, 1961. The amount was therefore allowable as an ordinary business loss. The facts also supported the protective principle applicable to hedging transactions, since the deal was within normal business dealings and was not a speculative settlement. On that basis, section 73 was not attracted.

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Issues: Whether the amount paid to the buyer on non-delivery of contracted goods was a speculative loss within section 43(5) of the Income-tax Act, 1961, or was only liquidated damages for breach of contract allowable as an ordinary business loss.

Analysis: The assessee had entered into a forward contract for supply of linseed oil, but at the time fixed for performance it held sufficient stock to fulfil the contract. The market price had risen sharply, and the assessee chose not to perform the contract, paying the buyer an amount described as damages while selling the goods in the open market at a higher price. On these facts, the payment was referable to breach of contract and not to settlement of a speculative transaction. A contract ceases to be the basis of the claim after breach, and the amount paid as damages does not become speculation loss merely because actual delivery did not take place. The facts also brought the case within the protective principle applicable to hedging where ready stock existed and the transaction was not outside normal business dealing.

Conclusion: The amount paid constituted liquidated damages and was allowable as a business loss. It was not a speculative loss under section 43(5), and section 73 was not attracted. The finding was in favour of the assessee.

Ratio Decidendi: Where a dealer has sufficient stock to perform a contract but instead commits a breach and pays damages, the payment is not a speculative loss under section 43(5) of the Income-tax Act, 1961; it is an allowable business loss, particularly where the transaction is in the nature of a hedging arrangement.

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