2010 (11) TMI 960 - AT - Income Tax

Disallowance of bad debts/irrecoverable balance written off - allowable business expenditure or not? - As contended that these are expenses incurred in the normal course of business and the same is allowable as bad debts or alternatively as business expenditure - suppliers did not refund the advance paid to them and the amount could not be recovered as they have failed in the business or have closed shutters - HELD THAT - All the above payments are made in the ordinary course of its business. Normal business of the assessee involves many such risks and expenditure which are unavoidable and has to be incurred by all businessmen in their business. All such expenditure is allowable under section 28 (i) of the IT Act - From the reading of the provisions of Section 28 it is very clear that what law envisages to tax is only the profits or gains of the business. In arriving at the profits or gains of the business all legitimate and normal expenditure of the business are to be deducted unless otherwise specifically provided in the IT Act - the order of the CIT (A) is in accordance with law and no interference is called for. The Hon ble Supreme Court in HASIMARA INDUSTRIES LTD. 1998 (5) TMI 7 - SUPREME COURT held that assessee s business was of manufacture and sale of tea and it was not engaged in cotton manufacturing business at all; that while it intended to enter into cotton manufacturing business it did not set up a cotton mill but obtained operating rights from another company under the leave and licence agreement for the purpose of acquiring the profit making apparatus for a duration of 3 years or a little more; that the amount of advance in a sum of 20 lakhs was given not for its own purpose by way of business expenditure for modernizing the mill but as capital to the lessor who in turn had to modernize the mill. In the resolutions made by the board of directors it was clear that the transaction entered into was not in the nature of a loan transaction or money-lending transaction and thus the loss suffered by the assessee was a capital loss and hence the amount could not be deducted from the assessee s income as business loss (decision thus relied on by the learned DR is distinguishable on the facts) - both the grounds dismissed. Disallowance of bonus paid to shareholders - Whether against the provisions of section 36 (1) (ii) of the Act? - HELD THAT - One of the conditions mentioned in section 36 (1) (ii) is that the amount payable to employees as bonus or commission should not otherwise have been payable to them as profit or dividend. The plain reading of the clause means that the profits of a business will not be allowed to be dwindled by merely describing the payment as bonus or commission if the payment is in lieu of dividend or profits. This is provided to check the employer from avoiding tax by distributing his/its profits by way of bonus among the member employees of his/its concern instead of distributing the sum as dividend or profits. However the sum paid as bonus or commission is not affected by this condition if the same is not otherwise payable as profit or dividend - the bonus will not be allowed only if such sum paid to him or her is otherwise payable to him or her as profits or dividends. In the present case the bonus is paid for the services of the working directors and the same cannot be disallowed just because they hold a few shares in the assessee company. They will not be entitled to such sum in entirety as dividends or profits in case such sum is not paid as bonus to them. Whatever dividend if any payable to them will be only a fraction of such sum - this ground also dismissed. Appeal filed by Revenue dismissed.

Summary

Issues:
1. Disallowance of bad debts on advances written off.
2. Disallowance of claim of capital advance as bad debt.
3. Disallowance of bonus paid to shareholders.

Issue 1: Disallowance of Bad Debts on Advances Written Off

The Assessing Officer disallowed a significant portion of the bad debts claimed by the assessee, arguing that certain advances written off were not allowable as deductions. The CIT (A) allowed the appeal, stating that these were normal business expenses and should be considered as bad debts or business expenditure. The revenue challenged this decision, claiming it was against the provisions of the Income Tax Act. However, the ITAT upheld the CIT (A)'s decision, emphasizing that the amounts were written off due to non-recovery from suppliers and contractors, and were incurred in the ordinary course of business. The ITAT highlighted that such expenditure is allowable under section 28 of the IT Act, which focuses on taxing only profits and gains of the business, deducting legitimate business expenses.

Issue 2: Disallowance of Claim of Capital Advance as Bad Debt

The revenue also contested the disallowance of a capital advance as bad debt, citing a legal precedent. However, the ITAT distinguished the cited case from the current scenario, where the advance was made in the normal course of business and subsequently written off due to non-recovery. The ITAT emphasized that the business risks and unavoidable expenditures incurred by the assessee were permissible under section 28 of the IT Act. Consequently, the ITAT dismissed the revenue's appeal regarding the disallowance of the capital advance as bad debt.

Issue 3: Disallowance of Bonus Paid to Shareholders

The Assessing Officer disallowed a bonus paid to employees who were also shareholders, invoking section 36(1)(ii) of the Act. The CIT (A) overturned this decision, stating that the bonus was paid for services rendered and was not otherwise payable as profits or dividends. The revenue challenged this ruling, arguing that the bonus payment contravened the Act. However, the ITAT upheld the CIT (A)'s decision, clarifying that the bonus paid to working directors, who were also shareholders, was for their services and not as dividends. The ITAT referenced legal precedents to support its conclusion that such bonus payments were allowable deductions under section 36(1)(ii), dismissing the revenue's appeal on this ground.

In conclusion, the ITAT dismissed the revenue's appeal on all grounds, affirming the CIT (A)'s decisions regarding the disallowance of bad debts and bonus payments to shareholders.