TaxTMI 
TaxTMI 
2010 (7) TMI 455
X X X X Extracts X X X X
X X X X Extracts X X X X
....sp; The return of income for the year under consideration was filed by him on 2.11.1998 declaring total income of Rs. 67,797/-. In the said return, deduction of Rs. 28,24,296/- was claimed by the assessee on account of business loss. According to the assessee, the said amount represented the amount due to him by his clients on account of transactions of shares effected by him on their behalf. It was stated that the said amount has become irrecoverable and the same is claimed as deduction after having written it off as irrecoverable from the books of account. The copies of ledger accounts of the concerned parties were filed by the assessee before the A.O. in support. According to the A.O., there was no other evidence filed by the assessee except the said copies of the ledger accounts to show that any action was taken against the concerned parties to recover the amounts due from them. He also noted that the Bombay Stock Exchange Card held by the assessee was already sold by him and the business in respect of which the debts in question had arisen was ceased to exist in the year under consideration. He, therefore, disallowed the deduction clai....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... effected by it on behalf of his clients. It was held that the claim of the assessee in respect of deduction on account of bad debts u/s 36(1)(vii) therefore cannot be denied on the ground that the amount of bad debts has not been taken into consideration for the purpose of computing his income of the relevant previous year or any earlier year. Keeping in view these contrary views expressed by the co-ordinate Benches on the issue, the question as indicated above was sought to be referred by the Division Bench to the Special Bench and accordingly this Special Bench has been constituted by Hon'ble President to decide the said question. 5. The ld. D.R., at the outset referred to the provisions of section 36(1)(vii) as amended by Finance Act 1987 w.e.f. 1.4.89 to point out that the deduction provided in section 36(1)(vii) on account of bad debts is subject to the fulfillment of condition as laid down in section 36(2). He contended that as per the provisions of section 36(2), no deduction on account of bad debt shall be allowed unless such debt or part thereof has been taken into account in computing the income of the assessee of the relevant previous year or of any earli....
X X X X Extracts X X X X
X X X X Extracts X X X X
....underlined security in the form of shares purchased against the amount receivable from client and there is hardly any possibility of the said debts becoming bad if the broker has ensured receipt of prescribed 20% margin money from the client. He contended that it cannot therefore be said that by virtue of brokerage being taken into account in computation of income that the value of purchase of shares on behalf of client has also been taken into account in the computation of income of the assessee who is broker. He contended that the debt representing the amount receivable by the broker against purchase of shares on behalf of clients is not taken to the credit of the P&L account of the broker as income and the condition stipulated in section 36(2) thus cannot be said to be satisfied. 7. The ld. D.R. once again referred to the provisions of section 36(2) and pointed out that there is only one specific exception provided from satisfying the condition stipulated therein and that is in respect of money lending/banking business. He submitted that as provided specifically in this context, the claim of the assessee engaged in money lending/banking business for bad debts is a....
X X X X Extracts X X X X
X X X X Extracts X X X X
....y have the risk of suffering loss as a result of bad debts and such loss would rise only when there is infraction of law laid down by SEBI under SEBI Act. He contended that this aspect therefore needs to be taken into consideration while examining the claim of the share broker for deduction on account of bad debts. 9. The ld. D.R. then took us through the various decisions of the Tribunal wherein a similar issue has been decided in favour of the Revenue. For instance, he pointed out that in the case of India Infoline Securities (P) Ltd. (supra), it is held by the Tribunal after analyzing the nature of share transactions and relationship between the share broker and his clients that the value of shares purchased by the brokers on behalf of the clients could not be said to have been taken into account in computing the income of the assessee and the deduction on account of bad debts representing the said value could not be allowed u/s 36(1)(vii) because the condition prescribed u/s 36(2)(i) was not fulfilled. He also invited our attention to the decision of the Tribunal in the case of B.S. Vasa vs. ITO 26 SOT 462 wherein a similar view as taken in the case o....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... submitted that the fundamental issue involved for the consideration of the Special Bench relates to the satisfaction of condition prescribed in section 36(2) in the case of a broker where only the brokerage income is credited to the P&L account and not the value of purchase of shares made on behalf of the clients. Referring to the provisions of section 36(2), he submitted that the expression used therein is "taken into account in computing the income of the assessee". He contended that in the case of CIT vs. T. Veerabhadra Rao K. Koteshwar Rao & Co. 155 ITR 152 (SC), Hon'ble Supreme Court has explained the meaning of this expression by holding that when the interest income accrued on a debt was taxed in the hands of the assessee in the earlier year, the said debt was to be considered as taken into account in computing the income of the assessee. It was also held that interest was taxed as income because it represented an accretion accruing during the earlier year on money owed to the assessee by the debtor and the item constituted income because it represented interest on loan. It was held that the nature of the income indicated the transaction from which it is e....
X X X X Extracts X X X X
X X X X Extracts X X X X
....y the share broker from his clients against purchase of shares had to be treated as debt and since it became bad, it was rightly considered as bad debt and claimed as such by the assessee in the books of account. It was also held that since the brokerage payable by the client was a part of the debt and that debt had been taken into account in the computation of income of the assessee, the conditions stipulated in section 36 (1)(vii) and 36(2) stood satisfied. 14. The ld. Counsel for the assessee submitted that the issue involved for consideration of the Special Bench thus stands squarely covered in favour of the assessee by the aforesaid two decisions of Hon'ble Delhi High Court in the case of CIT vs. DB (India) Securities Ltd.(supra) and CIT vs. Bonanza Portfolio Ltd. (supra). He contended that the benefit of these decisions rendered subsequently by the Hon'ble Delhi High Court was not available to the Tribunal while deciding a similar issue in some of the cases against the assessee which have been relied upon by the ld. D.R. He also contended that even the decision of Hon'ble Supreme Court in the case of T. Veerabhadra Rao K. Koteshwar ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....account of one of the clients of the assessee to show that the amount receivable from the said party was written off from the books of account of the assessee as irrecoverable. He submitted that such copies of ledger account of all the concerned parties were filed by the assessee before the A.O. during the course of assessment proceedings to show that the amounts receivable from them were duly written off as irrecoverable. 17. As regards the other objection raised by the ld. D.R. as to whether the brokerage income in respect of transactions in question claimed as bad debts were actually offered by the assessee as its income in the year under consideration or any earlier years, the ld. Counsel for the assessee submitted that even the A.O. has not disputed this position in the assessment order. He submitted that if at all this matter is required to be verified, the assessee has no objection if it is got verified from the A.O. 18. We have considered the rival submissions and also perused the relevant material on record. We have also carefully gone through the various judicial pronouncements cited by the learned representatives of both the sides.....
X X X X Extracts X X X X
X X X X Extracts X X X X
....s share broker from his clients against purchase of shares on their behalf or part thereof can be said to have been taken into account in computing the income of the assessee. The stand of the assessee in this regard is that the brokerage receivable by the assessee on the transactions of purchase of shares made on behalf of the clients is part of the debt receivable from the clients on account of the said transaction and the amount of brokerage having been taken into account in computing the income of the assessee, the condition stipulated in the first limb of section 36(2)(i) stands satisfied. In support of this contention, reliance has been placed on behalf of the assessee, inter alia, on the decision of Hon'ble Supreme Court in the case of T. Veerabhadra Rao K. Koteshwar Rao & Co (supra). 19. In the case of T. Veerabhadra Rao K. Koteshwar Rao & Co (supra), the assessee was a partnership firm which took over the business of earlier firm. All the liabilities of the predecessor firm passed to the assessee firm including a debt of Rs. 23,577/- due from Lakshmi Trading Co. to the predecessor firm. The total amount due in the account relating to ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ion 36(2)(i) does not require that the whole amount of bad debt claimed u/s 36(1)(vii) should have been taxed as income, such amount atleast should have been reflected on the credit side of the P&L account so that the net amount after deducting the corresponding expenses is included in the total income of the assessee chargeable to tax. He has contended that in the case of a share broker, only the brokerage amount is credited to the P&L account and not the value of shares purchased on behalf of the clients. He has also contended that the transaction of sale/purchase of shares actually belong to the clients of the share broker and it is not necessary that brokerage is always relatable to the value of share transactions. He has contended that even the accrual of brokerage income and accrual of debt against clients in respect of share purchases are two different events that happen at two different times. He has contended that the brokerage income thus cannot be treated as part of the debts receivable by the share broker from clients in respect of share purchases and it cannot be said that the assessee having assessed in respect of share brokerage income, ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....he transaction from which it emerges. It therefore follows that even if accrual of brokerage income and accrual of debt against client in respect of share purchase are two different events which happen at two different times, brokerage income accrues to the share broker as a result of transaction of purchase of shares on behalf of the clients and this nature of brokerage income indicates that it emerges from the transaction of purchase of shares by the assessee on behalf of his clients in the capacity of share broker. The amount receivable by the assessee on account of brokerage thus is a part of debt receivable by the share broker from his clients against purchase of shares and once such brokerage is credited to the P&L account of the broker and the same is taken into account in computing his income, the condition stipulated in section 36(2)(i) gets satisfied. 22. The learned D.R. has laid great emphasis on the guidelines issued by SEBI to safeguard the interest of brokers in respect of amount receivable from the clients against purchase of shares. According to him, if the said guidelines are strictly followed, there will be hardly any occasion for the broker t....
X X X X Extracts X X X X
X X X X Extracts X X X X
....e as a result of not following the said rules and regulations and guidelines or even after following the same. Moreover, even if it is assumed that such loss has been incurred by the assessee as a result of not following the rules and regulations and guidelines issued by the SEBI, the same cannot be equated to expenditure incurred by the assessee for any purpose which is an offence or which is prohibited by law. The reliance of the ld. D.R. on the said rules and regulations of stock exchange and guidelines issued by SEBI thus is clearly misplaced and the arguments raised by him relying thereon cannot be accepted being devoid of merits. In the case of CIT vs. Pranlal Kesurdas 49 ITR 931, the claim of the assessee for bad debts was disallowed by the A.O. on the ground that the said debt was arising out of forbidden wayada transactions and was unenforceable. However, the Hon'ble Bombay High Court held that if the profits of a trade even though it may be illegal are to be taxed, the computation of the profits will have to be done in accordance with the mode prescribed by the statute. It was held that profits chargeable to tax have to be arrived in a commer....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the test laid down in first limb of section 36(2)(i) to ascertain whether the debt representing money lent in the ordinary course of banking or money lending business is trading debt or not since the said debt going by the very nature of banking/money lending business itself is a trading debt. In our opinion, this is the rationale behind the exception provided in the second limb of section 36(2)(i) in respect of banking/money lending business and therefore no adverse inference on the basis of the said exception can be drawn against the assessee carrying on the business of share broking as sought by the ld. D.R. 25. At the time of hearing before us, the ld. D.R. has relied, inter alia, on the decisions of the tribunal in the case of India Infoline Securities (P) Ltd. Vs. ACIT (supra), Addl. CIT vs. B.N. Khandelwal (supra) and Mahesh J. Patel vs. ACIT 109 ITD 35 (TM) in support of the Revenue's case on the issue under consideration. A perusal of the said decisions shows that the issue was decided against the assessee and in favour of the Revenue by the Tribunal holding that the debt representing unpaid purchase price of shares did not fulfill the requirement of section....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ourt was concerned with section 10(2)(xi) of the 1922 Act. This section is the forerunner of section 36(2)(i) of the 1961 Act, but there was no condition that the debt should have been taken into account in computing the income of the assessee for the relevant assessment year or any earlier year. Despite this, Hon'ble Madras High Court held that such a condition must be read into the section. The relevant portion of the judgment in this context is extracted below from page 421 of the report:- ".............the question is whether it is necessary for the assessee to show, in order that it may be eligible for the deduction under the first part of the clause, that the bad debt, if realized, would have gone to swell its profits. There is no express indication in the language of the first part of this clause that it should be such a debt. But it is obvious to us that, in the context of the section, the debt, in order to be deductible must be one which, when realized, would have gone to swell the profits............. It is no doubt true that the amount lent as principal will not by itself swell the profits and what is meant is that it is taken into account in the context o....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the decisions of Hon'ble Delhi High Court in the case of CIT vs. DB (India) Securities Ltd.(supra) and in the case of CIT vs. Bonanza Portfolio Ltd. (supra) stating that the same are directly on the point in issue and there being no contrary decision of the Hon'ble jurisdictional High Court or any other High Courts, this Special Bench has to follow the same. We have carefully perused the said decisions of the Hon'ble Delhi High Court. In the case of DB (India) Securities Ltd.(supra), the assessee was a member of Delhi Stock Exchange and was carrying on the business of shares and stock broking. The assessee had purchased shares on behalf of his client for the total value of Rs. 1.06 crores at an average price of Rs. 55 per share. The said client made a payment to the extent of Rs. 65 lacs only to the assessee and the remaining amount of Rs. 41 lacs had remained unpaid. The brokerage income earned by the assessee in respect of the said transaction of purchase of shares was duly declared in its return of income and was assessed as well in the earlier year. The balance amount of Rs. 41 lacs remained unpaid even in the next year also apparently becaus....
X X X X Extracts X X X X
X X X X Extracts X X X X
....itions stipulated in section 36(1)(vii) and 36(2) stood satisfied and the assessee was entitled for deduction in respect of the said amount since it had become bad. In our opinion, the ratio of these decisions of the Hon'ble Delhi High Court in the case of CIT vs. DB (India) Securities Ltd.(supra) and in the case of CIT vs. Bonanza Portfolio Ltd. (supra) is squarely applicable to the issue which is under consideration in the present case before this Special Bench. 30. The learned D.R. has contended before us that the rules and regulations of stock exchange governing relations between broker and his clients as well as the guidelines issued by the SEBI from time to time protecting the interest of share broker were not brought to the notice of the Hon'ble Delhi High Court in the cases of CIT vs. DB (India) Securities Ltd.(supra) and CIT vs. Bonanza Portfolio Ltd. (supra) and Their Lordships thus had no occasion to consider the issue in the light of the same. However, as already held by us, the said rules and regulations as well as guidelines are not relevant in the context of issue referred to this special bench which raises a specific question of law. We hav....