Bad debts or other losses - section 14A is not applicable.

[C.A. DEV KUMAR KOTHARI]

Relevant provisions:

 Chapter III, Chapter VIA and sections 14A, 28, 36,  145 of the Income-tax Act, 1961.

CIT v. Kings Exports (2009) 30 (I) ITCL 528 (P&H-HC)

Bad-debts is a loss and not an expenditure:

Bad-debt or any sum paid in course of business may be allowable under specific provision or as a loss incidental to business for computing real business income. Such loss are not in nature of expenditure.

Section 14A:

Section 14A is applicable to expenses and not losses.   This is very clear from the heading as well as wordings used in section 14A. There should not be any doubt in this regard. However, revenue is litigating on such issue also.

Exemption under Chapter III and deductions under Chapter VIA:

Exemption under Chapter III and deductions from Gross Total Income under chapter VIA are two different things and are governed by different schemes of incentives or benefits allowed. In case of Chapter III items the incomes does not go in computation at all. Whereas in case of deduction under Chapter VIA, a deduction is allowed from Gross Total income. Therefore, S. 14A is applicable only in case of incomes which does not form part of 'total income' under the Act. In case of Chapter III items, first of all the income does not enter into income falling under nay head so it does not go into 'gross total income', whereas in case of deduction under Chapter VIA, the income is computed and it falls under specific head of income, and then it goes in 'gross total income'. From GTI only a deduction can be allowed to compute 'total income', if specified conditions are fulfilled.  The difference can be made out from the provisions of set off of current losses and past losses also. In case of income which is exempt under Chapter III, there is no need to set off of loss from other taxable sources for the year and past carried forward loss as well. Whereas in case of income which is eligible for deduction under chapter VI A, in case after set off of loss from some other source in same head or loss under other head, or set off of past loss, there remains no positive income, then deduction under chapter VI will be allowed. This makes it clear that chapter III exemptions and Chapter VI A deductions are not one and the same thing. Chapter III items are income which does not go even in income under particular head and  GTI, whereas items for which deduction under Chapter VI A are allowed  the income first goes in specific head, and then in GTI and hereafter deduction is allowed, only if there is some GTI.

Therefore, S. 14A is not applicable at all in relation to incomes referred to in Chapter VI-A, even if deduction of 100% of any income is allowed.

CIT v. Kings Exports (2009) 30 (I) ITCL 528 (P&H-HC) 

In this case assessee enjoyed deductions under section 80HHC and not exemption under Chapter III.

The A.O. disallowed certain sums under S. 14A. That included bad debts also. The Tribunal restricted disallowance to Rs. 8,37,978 instead of Rs.29,25,622 made by the A.O. Itt is not clear as to what were nature of expenses which ultimately remained disallowed.

Question before the high Court:

In  appeal under section 260A of the Income Tax Act, 1961 (for short, "the Act") the revenue  proposed to raise the following  question as substantial question of law :

"Whether, on the facts and in law, the hon'ble Income Tax Appellate Tribunal was justified in restricting the addition of Rs. 8,37,978 instead of Rs. 29,25,622 made by the assessing officer in view of the provisions of section 14A of the Income Tax Act, 1961, by disallowing the deduction claimed on account of 'bad debts' written off under section 36(1)(vii) of the Income Tax Act, 1961, as these 'bad debts' written off included incomes not received, which were declared on accrual basis in the assessment years 2000-01, 2002-03 and 2003-04 and deduction under section 80HHC was claimed on the same by the assessee in the respective years ?"

The facts and orders of lower authorities:

The assessee is engaged in manufacturing and export of engineering goods.

 The assessing officer disallowed the claim for bad debts under section 36(1) (vii) on the ground that the assessee had claimed deduction under section 80HHC and in such a situation claim for bad debts will be hit by section 14A of the Act.

The Commissioner (Appeals) partly upheld the claim of the assessee with the following observations (with highlights):

"Coming to the application of the provisions of section 14A of the Act, though the assessing officer is of the view that the provision of this section is applicable in the facts and circumstances of the appellant's case, I do not agree with him. First of all, this amount cannot be said to be expenditure incurred for earning some income which do not form part of total income of the appellant. Such incomes are generally incomes enumerated in section 10 of the Act. Clearly, the income earned by the appellant from the export sales could not be said to be income which do not form part of the total income. Even otherwise, as rightly pointed out by the learned counsel in the written submissions above, the entire income from export sales was not exempt and further the bad debts cannot be said to be an expenditure incurred by an assessee for earning some income. Anyhow, this amount being not relatable to any income which does not form part of the total income for the appellant for the respective assessment years, no part of the same could be disallowed under the provisions of section 14A of the Act. Therefore, the disallowance made by the assessing officer even on the basis of this alternative argument cannot be sustained."

The Tribunal affirmed the above view.

View of the Court:

 After hearing  counsel for the revenue the court considered that  on a perusal of section 80HHC and section 14A, it is clear that expenditure incurred from export income cannot be held to be for earning income which does not form part of total income, which concept is dealt with under section 10 of the Act. Section 80HHC deals with deduction of the element of profit from export from taxable income.  In these circumstances, court found that no substantial question of law arises. Therefore the appeal was dismissed by the court.

View of author:

The CIT(A) , The Tribunal and the High court have concurrently held that S. 14A was not applicable for the reason that bad debt is not an expenditure incurred to earn income, and when a deduction under Chapter VI A ( S. 80 HHC in this case) is allowed, it  cannot be said that the income is exempt and doe not form part of total income.