THE COMMISSION PAID TO PRIVATE DOCTORS FOR REFERRING PATIENTS FOR DIAGNOSIS COULD NOT BE ALLOWED AS A BUSINESS EXPENDITURE.

[Mr. M. GOVINDARAJAN]

                        Section 37 of the Income Tax Act, 1961 is a residuary provision.  In order to eligible for an allowance under this residuary provision the following conditions are required to be fulfilled:

• The expenditure must not be governed by the provisions of Sections 30 to 36;
• The expenditure must have been laid out wholly and exclusively for the purpose of the business of the assessee;
• The expenditure must not be personal in nature;
• The expenditure must not be capital in nature.

The explanation to Sec. 37(1) was inserted by Finance Act, 1998 with retrospective effect from 01.04.1962 which provides that it is declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.

                        The CBDT in Circular No. 772, dated 23.12.1998 explained the above explanation as Section 37 of the Income Tax Act is amended to provide that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction or allowance shall be made in respect of such expenditure.   This amendment will result in disallowance of the claims made by certain assessees in respect of payments on account of protection money, extortion, hafta, bribes etc., as business expenditure.   It is well decided that unlawful expenditure is not an allowable deduction in computation of income.  This amendment will take effect retrospectively from 01.04.1962 and will, accordingly, apply in relation to the assessment year 1962-63and subsequent years.

                        The issue to be discussed in this article is whether soliciting patients for diagnosis by paying commission to the private doctor is unethical, against public policy and forbidden by law with reference to decided case law..

                        In ‘Commissioner of Income Tax V. KAP Scan and Diagnostic Centre Private Limited’ – (2012) 344 ITR 476 (P&H) the assessee is a private limited company doing the business of CT scan, ultra sound and X-rays.  During the assessment proceedings for the assessment year 1997-98 in which the assessee filed its return declaring a loss of Rs.24,40,650/-, it was found that the assesee had debited a sum of Rs.3,68,400/- to the Profit and Loss Account as expenditure on account of commission paid to the practicing doctors who referred the patients to the assessee for various tests.   The Assessing Officer disallowed the said claim and considered it as deemed income under Section 115J of the Act.  On appeal by the assessee the Commissioner of Income Tax (Appeals) allowed the appeal and deleted the addition made on account of the commission.  The Revenue filed appeal before the Tribunal which dismissed the appeal holding that the commission paid to the doctors was an allowable expenditure being a trade practice and this gave rise to the Department to approach the High Court in the present appeal.

                        The assessee, before the High Court put forth the following arguments:

• The question of admissibility regarding the deduction under Section 37(1) was never raised before the Tribunal and therefore the same cannot be raised before the High Court for the first time;
• Giving of commission to the private doctors referring the patients for various medical tests was a trade practice which could not be termed to be illegal and, therefore, the same cannot be disallowed under Section 37(1) of the Act even after insertion of the Explanation to the said section by the Finance Act, 1998 with effect from 01.04.1962;
• The Revenue had not shown, proved or argued that commission which was paid by the assessee was illegal practice and was not admissible as deduction.

The High Court considered the arguments of both sides.  To answer the first objection of the assessee the High Court held that the perusal of the orders passed by the Assessing Officer, the Commissioner of Income Tax (Appeals) and the Tribunal shows that the issue was with regard to admissibility of deduction of the commission paid by the assessee to the doctors for having referred the business to its diagnostic centre.  Once that is so, it cannot be said that the point with regard to Section 37(1) of the Act was never raised though it was only under the said provision.  Therefore the argument of the assessee does not carry weight.

                        The High Court further analyzed the provisions of Section 37, regulations of Medical Council of India in ‘The Indian Medical Council (Professional Conduct, Etiquette and Ethics), Regulations, 2002’ and Section 23 of the Contract Act.

                        The ‘The Medical Council (Professional Conduct, Etiquette and Ethics) Regulations 2002, describes some of the unethical acts under Chapter 6 as follows:

• Regulation 6.4 provides that no physician shall give, solicit, receive, or offer to five, solicit or receive, any gift gratuity, commission or bonus in consideration of a return for referring any patient for medical treatment;
• Regulation 6.4.1 provides that a physician shall not give, solicit or receive nor shall he offer to give solicit or receive, any gift, gratuity, commission or bonus in consideration of or return for the referring, recommending or procuring of any patient for medical, surgical or other treatment.   A physician shall not directly or indirectly, participate in or be a part to act of division, transference, assignment, subordination, rebating, splitting or refunding of any fee for medical, surgical or other treatment;
• Regulation 6.4.2 provides that the provisions of para 6.4.1 shall apply with equal force to the referring, recommending or procuring by a physician or any person, specimen or material for diagnostic purposes or other study/work.   Nothing in this section, however, shall prohibit payment of salaries by a qualified physician to other duly qualified person rendering medical care under his supervision.

On analysis the High Court held that if demanding of such commission was bad, paying it was equally bad.   Both were privies to a wrong.   Therefore, such commission paid to private doctors was opposed to public policy and should be discouraged.  The payment of commission by the assessee for referring patients to it cannot be any stretch of imagination be accepted to be legal or as per public policy.   Undoubtedly the High Court held that it is not a fair practice and has to be termed as against the public policy.

                        The High Court analyzed Section 23 of Contract Act which provides that the consideration or object of an agreement is lawful, unless-

• it is forbidden by law; or
• is of such a nature that, if permitted, it would defeat the provisions of any law; or
• is fraudulent; or
• involves or implies, injury to the person or property of another; or the court regards it as immoral, or opposed to public policy.

In each of these cases, the consideration or object of an agreement is said to be unlawful.   Every agreement of which the object or consideration is unlawful is void.

The High Court held that Section 23 of the Contract Act equates an agreement or contract opposed to public policy, with an agreement or contract by law.  Thus the commission paid to private doctors for referring patients for diagnosis could not be allowed as business expenditure.  The amount which can be allowed as business expenditure has to be legitimate and not unlawful and against public policy.    The High Court allowed the appeal of the Revenue.