1976 (11) TMI 60 - HC - Income Tax

Summary

Issues Involved:
1. Deduction Claim under Section 37 of the Income-tax Act, 1961.
2. Commercial Expediency of the Payment.
3. Established Practice or Scheme for Gratuity.
4. Expectation of Gratuity by the Employee.

Issue-wise Detailed Analysis:

1. Deduction Claim under Section 37 of the Income-tax Act, 1961:
The primary issue was whether the payment of Rs. 24,000 to the widow of the ex-managing director could be considered an allowable deduction under Section 37 of the Income-tax Act, 1961. The assessee-company argued that this payment was a proper deduction either under section 28(1) or section 37 of the Act.

2. Commercial Expediency of the Payment:
The Tribunal held that the payment could be regarded as having been made out of considerations of commercial expediency. This payment could serve as an inducement to directors and other employees to make sacrifices for the company, in the expectation that if they do not live long enough to see the company's prosperous days, at least some provision will be made for their legal heirs. The Tribunal observed that the Supreme Court in Gordon Woodroffe's case [1962] 44 ITR 551 (SC) indicated that the test about commercial expediency is independent of other tests and that even if there was no specific understanding or regular scheme, a payment might still be dictated by commercial expediency.

3. Established Practice or Scheme for Gratuity:
The revenue argued that there was no established practice or approved scheme for paying gratuities by the assessee-company. The Tribunal, however, noted that even payments outside an approved scheme could become eligible for deduction if the condition of commercial expediency is satisfied.

4. Expectation of Gratuity by the Employee:
The revenue contended that there was no evidence to show that the ex-managing director had accepted a lower salary in expectation of gratuity on retirement or death. The Tribunal, however, found that the payment was reasonable and justified given the significant sacrifices made by the ex-managing director, who had forgone a substantial part of his remuneration and commission over several years to help the company during its financial difficulties.

Comprehensive Analysis:

The judgment dealt extensively with the question of whether the payment made to the widow of the ex-managing director could be allowed as a deduction under section 37 of the Income-tax Act, 1961. The facts revealed that the ex-managing director had served the company for nearly 19 years and had forgone a significant portion of his entitled remuneration and commission to support the company during its financial struggles.

The Tribunal's view was that the payment could be justified on the grounds of commercial expediency. This view was supported by the fact that the ex-managing director had made considerable sacrifices for the company, and the payment to his widow could be seen as an inducement for other employees to make similar sacrifices, knowing that their legal heirs might be taken care of in case of their untimely demise.

The Tribunal also noted that the Supreme Court in Gordon Woodroffe's case had laid down three independent tests to determine the deductibility of such payments: (1) whether the payment was made as a matter of practice affecting the quantum of salary, (2) whether there was an expectation by the employee of getting a gratuity, and (3) whether the sum was expended on the ground of commercial expediency to facilitate the carrying on of the business. The Tribunal found that the payment in question satisfied the test of commercial expediency.

The Tribunal's decision was further supported by the Gujarat High Court's ruling in Commissioner of Income-tax v. Laxmi Cement Distributors Pvt. Ltd. [1976] 104 ITR 711 (Guj), which held that the tests laid down in Gordon Woodroffe's case are independent and that the reasonableness of the expenditure should be judged from the point of view of the businessman, not the revenue.

In conclusion, the High Court upheld the Tribunal's view that the payment to the widow was dictated by commercial prudence and commercial expediency. The question was answered in the affirmative and in favor of the assessee, allowing the deduction under section 37 of the Income-tax Act, 1961.