2009 (9) TMI 949 - HC - Income Tax

Expenditure incurred on payment of service charges to State Government - Nature of expenditure - ''business or personal''- Whether service charges paid by the respondent company to the State Government is eligible for deduction u/s 37(1) as held by the first appellate authority in the appeal filed against revised assessment which is confirmed by the Tribunal? - HELD THAT -The claim of deduction has to be considered with reference to the peculiar circumstances of the company which has no discretion in regard to the payment of the service charges to the Government as it is bound to comply with the Government Orders. So much so, we are of the view that the parameters applicable in the case of a private company that too with respect to the claim for business expenditure, are exactly not applicable in the case of public sector company whether it is under the control of the State Government or Central Government. In fact, many public sector companies are not formed just to make profit alone but are supposed to achieve larger objectives for the Society and the State. Section 37(1) is the residuary provision provided under the Income-tax Act enabling assessee engaged in business to claim all expenditure laid out or expended wholly and exclusively for the purposes of the business. By making payment of service charge, the respondent company has discharged only the obligation under Government Orders. It cannot carry on business by violating Government Orders and remain as a defaulter to the Government. Therefore, on the face of it, payment of service charge to the Government is a business expenditure and it is paid every year and the payment is mandatory for carrying on business. The expenditure so incurred by the company is not hit by the negative clauses in section 37 which are in the nature of capital or personal expenditure of assessee. Besides this, the payment is also not prohibited by law and so much so it is not hit by the Explanation contained in section 37(1). Therefore the payment is a bonafide expenditure incurred by the company for carrying on business which is not prohibited by law. Whether the department s case that the Government does not render service justifying payment of service charges by the company is tenable or not? - HELD THAT - Government has charged only paltry sum per year. In the affidavit filed by the MD, the new lease rental payable at normal rate to the State Government during the years 1992-93 to 2001-02 by taking the land value at moderate rate. There can be no doubt that the Government has made major sacrifices by retaining the lease rental on a paltry sum. In fact, if lease rentals were increased by the Government instead of demanding and recovering service charges from the company, the department could not have raised objection against the payment of lease rental as a claim not allowable under the Act. We notice from the Tribunal s order that in respect of other companies under the control of the Government, the Government is charging various charges for their services in some cases based on turnover income and in certain cases based on quantity produced. On the whole, we find from the Tribunal s order that the successful management of the company is mainly on account of the control and patronage from the Government. Therefore, the demand of payment of service charge is essentially a business expenditure allowable u/s 37(1). Incentive given by the Government is in the form of sacrifices to its revenue by way of reduction or exemption for sales tax when the company finds it difficult to market the products - We notice from the Tribunal s order that in respect of other companies under the control of the Government, the Government is charging various charges for their services in some cases based on turnover income and in certain cases based on quantity produced. On the whole, we find from the Tribunal s order that the successful management of the company is mainly on account of the control and patronage from the Government. Therefore, the demand of payment of service charge is essentially a business expenditure allowable u/s 37(1). Only the amount of service charges paid each year by the company. It may not be possible to exactly identify and value the services rendered by the Government every year and the incentives provided every year also may be varying. However, so long as the company made payment for all these years pursuant to Government orders, there is no justification for disallowing the amount in computation of the income. However, it will be open to the Central Board to take up the matter with the State Government so that service charges can be fixed by the Government on a rational basis. We dismiss the appeals but with the above observation.

Summary

Issues:
- Disallowance of deduction of service charges paid by respondent company under section 37(1) of the Income-tax Act
- Interpretation of nature and scope of services, sacrifices, and incentives provided by the State Government to the respondent company
- Consideration of whether service charges paid by the respondent company to the State Government are eligible for deduction under section 37(1) of the Act

Analysis:
1. The appeals were filed by the revenue against the Tribunal's order regarding income-tax assessments of the respondent company. The respondent, a State Government undertaking, was engaged in the manufacture and sale of Titanium Dioxide. The issue revolved around the disallowance of the deduction of service charges paid by the respondent, claiming it was not a business expenditure under section 37(1) of the Income-tax Act.

2. The first contention raised was that the Tribunal did not strictly follow previous court observations when remanding the matter to the Assessing Officer. The court examined the nature of services, sacrifices, and incentives provided by the State Government to justify the payment of service charges by the respondent company. The court referenced section 37(1) of the Act to determine the eligibility of the service charges for deduction.

3. The court acknowledged that the respondent company, being a Government-owned entity, was obligated to comply with Government Orders. It highlighted that the company's payment of service charges was a business expenditure necessary for its operations and not hit by negative clauses in section 37(1). The court emphasized that the company's payment was a bona fide expenditure incurred for conducting business and not prohibited by law.

4. The next issue examined was whether the Government's services justified the payment of service charges by the company. The court reviewed various services and incentives provided by the Government, including policy decisions, interventions during crises, settling liabilities, and lease rent subsidies. It noted the sacrifices made by the Government, such as sales tax reductions and financial support, contributing to the company's successful management.

5. Ultimately, the court concluded that the demand for service charges was a legitimate business expenditure under section 37(1) of the Act. It emphasized that the company's compliance with Government Orders and payment of service charges were essential for its operations. The court suggested that the Central Board could engage with the State Government to rationalize the service charges. The appeals were dismissed with this observation.