1982 (3) TMI 80 - AT - Income Tax

Summary

Issues Involved:
1. Entitlement of the assessee to the deduction of Rs. 20,03,560 claimed as gratuity liability under Section 40A(7) of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Entitlement to Deduction of Gratuity Liability:
The central issue in this case was whether the assessee, a limited company running a textile mill, was entitled to a deduction of Rs. 20,03,560 claimed as gratuity liability. The assessee's claim was based on an actuarial valuation, but no actual provision for gratuity was made in the accounts.

a. Initial Disallowance by ITO:
The Income Tax Officer (ITO) disallowed the claim based on instructions from the Inspecting Assistant Commissioner (IAC) under Section 144B. The IAC noted that the assessee had not made any provision for gratuity payment but claimed the deduction based on an actuary's certificate. The IAC held that since no actual provision was made, Section 40A(7) was applicable, which required specific conditions to be fulfilled for the provision to be allowable. The IAC also referred to the Allahabad High Court decision in Swadeshi Cotton Mills Ltd. vs. ITO, stating it was not applicable as it governed provisional assessments and the conditions in Section 40A(7)(b)(ii) had to be fulfilled in the future.

b. Appeal to Commissioner (Appeals):
The Commissioner (Appeals) (CIT(A)) upheld the ITO's decision, noting that it was not established that the assessee was liable to pay gratuity under the Payment of Gratuity Act, 1972. The CIT(A) held that gratuity payments were not an annual liability and that the assessee had not made a specific provision in the accounts, making it difficult to track the claimed liability. The CIT(A) relied on the Special Bench decision in Soft Beverages Pvt. Ltd. vs. Second ITO, which held that Section 40A(7) applied even to claims not entered in the accounts.

c. Tribunal's Differing Opinions:
The matter was then carried to the Tribunal, where the Accountant Member (A.M.) and Judicial Member (J.M.) had differing opinions.

i. Accountant Member's View:
The A.M. observed that some Tribunal Benches had taken different views post the Special Bench decision. He referred to the Madras High Court decision in CIT vs. Andhra Prabha Pvt. Ltd., which held that Section 40A(7) superseded general principles regarding gratuity liability. The A.M. concluded that the assessee could not be denied the deduction as the liability was known and ascertainable with substantial accuracy, even if not entered in the books.

ii. Judicial Member's View:
The J.M. disagreed, stating that the assessee's claim was based on an actuarial report, and no provision was made in the accounts. He referred to the legislative history and the Finance Minister's speech introducing Section 40A(7), emphasizing that the provision applied to any claim for gratuity liability. The J.M. cited the Calcutta High Court decision in Peoples Engg. & Motor Works Ltd. vs. CIT, which held that the amendment to Section 40A(7) governed gratuity liability claims. He concluded that the assessee's claim was not allowable as it did not meet the conditions of Section 40A(7).

d. Hearing Before the Third Member:
The matter was referred to a third member due to the differing opinions. The assessee's counsel argued that Section 40A(7) created a statutory prohibition against the allowance of gratuity provisions, but not against claims for accrued liability based on actuarial valuation. The Departmental Representative (DR) countered that Section 40A(7) placed a statutory bar on any provision for gratuity, whether entered in the books or not.

e. Third Member's Decision:
The third member considered the method of accounting employed by the assessee and the legislative intent behind Section 40A(7). He noted that the assessee had switched to a cash system of accounting for gratuity, as indicated in the directors' report and notes to the accounts. The third member concluded that the assessee could only claim deductions for actual gratuity payments made during the year, not for accrued liability based on actuarial valuation. He agreed with the J.M. that the assessee's claim was not allowable under Section 40A(7).

Conclusion:
The majority opinion held that the assessee was not entitled to the deduction of Rs. 20,03,560 claimed as gratuity liability, as it did not meet the conditions laid down in Section 40A(7) of the Income Tax Act. The matter was to be placed before the divisional bench for final disposal in accordance with the majority opinion.