2017 (10) TMI 1587 - AT - Income Tax

Disallowance of expenses incurred - assessee did not had any business activity - legal and professional fees relating to legal proceedings/appeals incurred towards defending the legal rights with respect to the business activities carried out by the assessee - assessee explained that the expenses involved are broadly legal expenses and the assessee was continuously doing business activities for which he took us to various pages of the paper book - whether the payment of legal fee is an allowable deduction? - HELD THAT - We find that Section 37(1) does not make any distinction between expenditure incurred in civil litigation and that incurred in criminal litigation. All that the court has to see is whether the legal expenses were incurred by the assessee in his character as a trader in other words whether the transaction in respect of which proceedings are taken arose out of and was incidential to assessee s business. Further it is to be seen whether the expenditure was bonafidely incurred wholly and exclusively for the purpose of the business. Issue of quantum of the expenditure to be incurred is concerned we are of the view it is for the assessee to decide how best to protect his own interest. It is not open to the department to prescribe what expenditure an assessee should incur and in what circumstances he should incur that expenditure. In the case of Gannon Dunkarlay and Co. Pvt. Ltd. 1997 (12) TMI 22 - MADRAS HIGH COURT where the expenditure was incurred by the official liquidator to maintain the infrastructure of the company held that the expenditure was deductible u/s 57(iii) as it would not have been possible to earn the interest income without incurring such expenditure. As we are of the considered opinion that in defending the litigation the fee/legal expenses paid by the assessee is an allowable deduction more specifically when the expenses were incurred to safeguard the business of the assessee. The payment of legal expenses even has not been disputed by the Revenue and were merely disallowed that during the period no business activity was carried out by the assessee. However as mentioned earlier we find that the assessee did business activity therefore in the absence of any contrary material we allow this ground as the legal expenses/fees were incurred by the assessee wholly and exclusively to safeguard its business interest - as admitted by assessee that professional fee stand disallowed u/s 40(a)(ia) as tax deducted at source was not deposited to the credit of Central Government before the due date of filing of return of income u/s 139(1) of the Act. This ground of the assessee is partly allowed.

Issues Involved:
1. Disallowance of expenses incurred due to the claim of no business activity.
2. Allowability of legal and professional fees as business expenses under sections 37(1) and 57 of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Disallowance of Expenses Incurred Due to the Claim of No Business Activity:

During the hearing, the assessee challenged the disallowance of expenses amounting to ?9,02,149/- on the grounds of no business activity. The counsel for the assessee argued that the expenses were primarily legal and professional fees related to ongoing business activities. The Revenue contended that no business activity was conducted during the relevant period, thus justifying the disallowance.

The Tribunal considered the submissions and reviewed the material on record. The assessee had declared an income of ?1,05,99,100/- in the return filed on 31/07/2012, which was processed under section 143(1) of the Act. The assessment was completed under section 143(3) determining the total income at ?1,16,79,830/- after certain additions/disallowances. On appeal, the First Appellate Authority affirmed the disallowance of ?10,25,576/- on the same grounds.

The Tribunal found that the expenses claimed were mainly legal and professional fees related to defending legal rights concerning business activities. Evidence from the paper book indicated that the assessee generated revenue from business operations amounting to ?1,96,99,410/- as on 31/03/2011, which implied ongoing business activities. Thus, the disallowance by the Assessing Officer was deemed unjustified.

2. Allowability of Legal and Professional Fees as Business Expenses under Sections 37(1) and 57 of the Income Tax Act:

The Tribunal analyzed whether the payment of legal fees is an allowable deduction. Section 37(1) of the Act allows any expenditure (not being capital or personal expenses) laid out wholly and exclusively for business purposes. Section 57 pertains to deductions for income chargeable under "Income from Other Sources."

The Tribunal reviewed various judicial precedents, including CIT vs New Savan Sugar and Good Refining Co. Ltd. and Dalmia Jain & Co. Ltd. vs CIT, which support the view that litigation expenses incurred to protect business interests are revenue expenditures. It was emphasized that legal expenses incurred to defend or maintain existing business titles are deductible.

The Tribunal also considered cases where legal expenses in criminal litigation were allowed, provided they were incurred in the character of a trader and were incidental to the business. The Tribunal reiterated that the quantum of expenditure is a business decision and not subject to departmental prescription.

In conclusion, the Tribunal held that the legal and professional fees incurred by the assessee were allowable deductions as they were incurred wholly and exclusively to safeguard business interests. However, professional fees of ?55,150/- were disallowed under section 40(a)(ia) as the tax deducted at source was not deposited before the due date of filing the return.

Final Judgment:

The appeal of the assessee was partly allowed, with the legal expenses being recognized as deductible, except for the professional fees disallowed under section 40(a)(ia). The order was pronounced in the open court on 28/09/2017.

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