Prior period expenses are deductible when liability crystallizes and becomes enforceable, not when the underlying expense arose.

Prior period expenditure is deductible only when the corresponding liability crystallizes and becomes enforceable, not merely because the underlying services or expenses relate to an earlier year. On the facts, the obligation arose under an agreement executed in August 2002 with retrospective effect, so the assessee could claim the deduction when that liability came into existence. The distinction from contingent liability cases was material, because the issue here was the year of crystallisation, not mere accrual of an estimated obligation. The prior period disallowance was therefore unsustainable, and the deduction was allowable in assessment year 2003-04.

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Issues: Whether the assessee was entitled to claim deduction of prior period expenses in assessment year 2003-04 on the footing that the liability under the agreement crystallized only when the agreement was executed in August 2002.

Analysis: The liability did not become enforceable merely because the expenses related to an earlier period. The decisive factor was when the liability arose and crystallized. On the facts, the agreement creating the obligation was executed in August 2002 with retrospective effect, and the assessee could claim the expenditure only when that liability came into existence. The reliance on the decision concerning leave encashment was held inapposite because that case turned on contingent liability, while the present dispute concerned the year in which the liability crystallized. The Court applied the principle that expenditure linked to an earlier period is deductible in the year in which the liability is determined and becomes enforceable.

Conclusion: The assessee was entitled to the deduction in assessment year 2003-04, and the disallowance of prior period expenses was unsustainable.

Ratio Decidendi: An expenditure related to an earlier period is deductible in the year in which the corresponding liability crystallizes and becomes enforceable, not merely in the year to which the underlying services or expenses relate.

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