1981 (2) TMI 106 - AT - Income Tax

Summary

Issues Involved:
1. Deductibility of gratuity liability under Section 40A(7) of the Income-tax Act, 1961.
2. Applicability of Section 40A(7) to cases without entries in books of account.
3. System of accounting for gratuity liability - mercantile vs. cash basis.

Detailed Analysis:

1. Deductibility of Gratuity Liability under Section 40A(7):
The primary issue was whether the assessee's claim for a deduction of Rs. 7,541, representing the incremental liability for gratuity, should be allowed. The assessee argued that since no provision for this liability was made in the books of account, the conditions laid down in Section 40A(7) did not apply. However, the Commissioner (Appeals) rejected this claim, relying on the Special Bench decision which held that Section 40A(7) applies equally to cases where no entries are made in the books of account.

2. Applicability of Section 40A(7) to Cases Without Entries in Books of Account:
The Tribunal examined whether Section 40A(7) applies to cases where no provision for gratuity liability is made in the books of account. The Special Bench had concluded that the conditions of Section 40A(7) apply irrespective of whether entries are made in the books of account. The Tribunal upheld this view, stating that the meaning of 'provision' in Section 40A(7) extends to all claims for deduction made during assessment, not just those recorded in the books of account. This interpretation was supported by the legislative intent to prevent misuse of gratuity provisions, as highlighted by the Finance Minister during the introduction of the amendment.

3. System of Accounting for Gratuity Liability - Mercantile vs. Cash Basis:
The Tribunal also considered whether the assessee was following the mercantile system of accounting for gratuity liability. It was noted that the assessee had agreed to the disallowance of gratuity liability on an accrual basis in the assessment year 1973-74 and had been claiming deductions on an actual payment basis since then. The Tribunal concluded that the assessee had effectively switched to the cash system of accounting for gratuity liability. Consequently, the assessee could not revert to claiming deductions on an accrual basis.

Conclusion:
The Tribunal upheld the order of the Commissioner (Appeals), dismissing the appeal. It affirmed that Section 40A(7) prohibits the deduction of gratuity liability unless it falls within the specific provisions of Section 36(1)(v) or the exceptions in Section 40A(7)(b). The Tribunal also confirmed that the assessee had adopted the cash system of accounting for gratuity liability, precluding any claims on an accrual basis.