M/S APEX LABORATORIES PVT. LTD. VERSUS DEPUTY COMMISSIONER OF INCOME TAX, LARGE TAX PAYER UNIT – II[2022 (2) TMI 1114 - Supreme Court]

Question before Apex court:

Whether expenses incurred by pharmaceutical and allied health sector industries for distribution of incentives (i.e., “freebies”) to medical practitioners are ineligible for the benefit of Explanation 1 to Section 37(1), which denies the application of the benefit for any purpose which is an ‘offence’ or ‘prohibited by law?

Scope of the CBDT Circular No.5/2012 dated 01.08.2012.

Origin of the issue:

Appellant (“Apex”) is aggrieved by a judgment of the High Court of Judicature of Madras 2019 (5) TMI 110 - MADRAS HIGH COURT upheld an order of the Income Tax Appellate 2018 (1) TMI 1671 - ITAT CHENNAI which in turn upheld an order of the Commissioner of Income Tax (Appeals who partly allowed an appeal from an order of the respondent Deputy Commissioner of Income Tax which partially allowed amounts claimed by Apex as ‘business expenditure’ under Section 37(1) of the Income Tax Act, 1961  

Contentions of assessee:

While medical practitioners were expressly prohibited from accepting freebies, no corresponding prohibition in the form of any binding norm was imposed on the pharmaceutical companies gifting them. In the absence of any express prohibition by law, he could not be denied the benefit of seeking exclusion of the expenditure incurred on supply of such freebies under Section 37(1).

Contentions of Revenue Authorities:

Revenue authorities, submitted that while the act of pharmaceutical companies gifting freebies to medical practitioners for promotion of their products may not be classified as an ‘offence’ under any statue, it was squarely covered within the scope of Explanation 1 to Section 37(1) by use of the words “prohibited by law”, as it was specifically prohibited by the amended 2002 Regulations. While Apex[assessee] could not be ‘punished’, it should not be allowed to benefit by claiming a tax exemption on the freebies distributed.

Analysis and Conclusions:

Considering the amended Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002, Explanation 1 to Section 37 (1) of the Income Tax Act, 1961, Circular No. 5/2012 dated 1st April, 2012 issued by Central Board of Direct Taxes our answer is in negative to the question as to whether Petitioner hospital is eligible and entitled to get deduction on expenditure by way of commission to the doctors as ‘referral to doctors’ for referring patients for treatment in its hospital as business expenditure under Section 37(1) of the Income Tax Act, 1961.

It is not entitled for deduction on such expenditure as a business expenditure and in view of the relevant regulations of amended Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 under which receiving of the same by the medical practitioner is prohibited and violation of which invites punishment and disciplinary proceedings against doctors. In my considered opinion petitioner being a participant in an act which is an offence and is prohibited by law is not entitled for any deduction under Section 37 (1) of the Income Tax Act, 1961, and the aforesaid nature of expenses are disallowable under Explanation 1 to Section 37.

Section 37 is a residuary provision. Any business or professional expenditure which does not ordinarily fall under Sections 30-36, and which are not in the nature of capital expenditure or personal expenses, can claim the benefit of this exemption. But the same is not absolute.

Narrow interpretation of Explanation 1 to Section 37(1) defeats the purpose for which it was inserted, i.e., to disallow an assessee from claiming a tax benefit for its participation in an illegal activity. Though the memorandum to the Finance Bill, 1998 elucidated the ambit of Explanation 1 to include “protection money, extortion, hafta, bribes, etc.”, yet, ipso facto, by no means is the embargo envisaged restricted to those examples. It is but logical that when acceptance of freebies is punishable by the MCI (the range of penalties and sanction extending to ban imposed on the medical practitioner), pharmaceutical companies cannot be granted the tax benefit for providing such freebies, and thereby (actively and with full knowledge) enabling the commission of the act which attracts such opprobrium.

Medical practitioners have a quasi-fiduciary relationship with their patients. A doctor’s prescription is considered the final word on the medication to be availed by the patient, even if the cost of such medication is unaffordable or barely within the economic reach of the patient – such is the level of trust reposed in doctors. Therefore, it is a matter of great public importance and concern, when it is demonstrated that a doctor’s prescription can be manipulated, and driven by the motive to avail the freebies offered to them by pharmaceutical companies, ranging from gifts such as gold coins, fridges and LCD TVs to funding international trips for vacations or to attend medical conferences. These freebies are technically not ‘free’ – the cost of supplying such freebies is usually factored into the drug, driving prices up, thus creating a perpetual publicly injurious cycle.

Pharmaceutical companies’ gifting freebies to doctors, etc. is clearly “prohibited by law”, and not allowed to be claimed as a deduction under Section 37(1). Doing so would wholly undermine public policy. The well-established principle of interpretation of taxing statutes – that they need to be interpreted strictly – cannot sustain when it results in an absurdity contrary to the intentions of the Parliament.

In our case the incentives (or “freebies”) given by Apex, to the doctors, had a direct result of exposing the recipients to the odium of sanctions, leading to a ban on their practice of medicine. Those sanctions are mandated by law, as they are embodied in the code of conduct and ethics, which are normative, and have legally binding effect. The conceded participation of the assessee- i.e., the provider or donor- was plainly prohibited, as far as their receipt by the medical practitioners was concerned. That medical practitioners were forbidden from accepting such gifts, or “freebies” was no less a prohibition on the part of their giver, or donor, i.e., Apex.

The impugned judgment cannot be faulted with.

Full Text:

2022 (2) TMI 1114 - Supreme Court