Case: Prafulla Kumar Malik Vs. Commissioner of Income Tax, Bihar and Orissa

BHARGAVA J.1. This appeal on certificate granted by the High Court of Orissa under section 66A(2) of the Indian Income-tax Act, 1922, arises under the following circumstances During the calendar year 1954, which was the previous year relating to the assessment year 1955-56, the appellant worked as a paddy procuring agent under the Government of Orissa on the basis of an agreement entered into by the appellant and the Government of Orissa. Under that agreement, the appellant was required to supply paddy and rice of a certain standard quality known as "fair average quality". The criterion for the "fair average quality" was defined. There was a clause in the agreement that the quality of foodgrains supplied must conform to the "fair average quality" standard and that the Collector may, subject to the approval of the Government, levy such penalty as he may deem fit for supply of foodgrains not conforming to the "fair average quality", and such penalty shall be deducted from, the amount or amounts due to the agent on pending or future bills submitted in accordance with another clause of the agreement. In exercise of this power, during the course of the accounting year in question, penalties amounting to Rs. 25, 700 were imposed on the appellant and were realised by deduction from the bills. The appellant claimed deduction of this amount from the assessable income under section 10(1) of the Income-tax Act. The claim was negatived by the Income-tax Officer and the Appellate Assistant Commissioner, but was accepted by the Income-tax Appellate Tribunal. The Tribunal held that this amount of Rs. 25, 700 deducted by the Government from the bills of the appellant could not be brought to tax in view of section 10(1) of the Income-tax Act. Thereupon, the Commissioner of Income-tax asked for a reference to the High Court, and the Tribunal under section 66(1) of the Income-tax Act referred the following question for the opinion of the High Court"Whether, on the facts and in the circumstances of the case, the amount of Rs. 25, 700 paid by the assessee by way of penalty to the Government of Orissa shall be an admissible deduction under section 10(1) of the Income-tax Act, 1922 ?"2. The High Court, in dealing with this question, considered the provisions of section 10(2)(xv) of the Act and held that the deduction claimed by the appellant was not admissible as it amounted to a penalty imposed on the appellant for his dishonest action in supplying sub-standard quality goods, and that such penalty could not be said to be an expenditure incurred wholly and exclusively for the purpose of the business. It is quite obvious that the High Court, in answering the question on this basis, misdirected itself and totally misunderstood the question that was referred to it for opinion by the Tribunal. The appellant had at no stage contended that the Tribunal had wrongly held that this sum of Rs. 25, 700 was not deductible under section 10(2)(xv) of the Act as expenditure wholly and exclusively laid out for the purpose of the business, nor was this proposition the subject-matter of the question which was referred by the Tribunal for opinion to the High Court. In answering the question on this basis, therefore, the High Court did what it was not at all called upon to do and, thus, committed a clear error3. The High Court was actually required to answer the question whether this sum of Rs. 25, 700 which was paid by the assessee, by way of penalty to the Government of Orissa was an admissible deduction under section 10(1) of the Income-tax Act. The question was, no doubt, framed in rather unfortunate language, because section 10(1) of the Income-tax Act does not refer to any deduction. Section 10(1) lays down that the tax shall be payable by an assessee under the head " profits and gains of business, profession or vocation " in respect of the profits or gains of any business, profession or vocation carried on by him. In these circumstances, what the appellant had claimed was that, in the computation of profits and gains of business, profession or vocation under section 10(1) of the Act, this amount should be deducted, which was intended to mean that this amount should not be included in the computation of the profits and gains of the business. The word " deduction " appears to have been used by the appellant as well as by the Tribunal only because the dispute related to a sum which had been deducted by the Government of Orissa as a penalty from the amount due to the appellant for the supplies made by him in pursuance of the agreement. The High Court, therefore, in answering the question referred to it, should not have gone into the question of the applicability of section 10(2)(xv) of the Act at all, and should have confined itself to deciding whether this amount deducted from the claims of the assessee by the Government of Orissa was liable to be excluded when computing the income under section 10(1) of the Act.

Decision reasoning: 1[ds]2. The High Court, in dealing with this question, considered the provisions of section 10(2)(xv) of the Act and held that the deduction claimed by the appellant was not admissible as it amounted to a penalty imposed on the appellant for his dishonest action in supplyingquality goods, and that such penalty could not be said to be an expenditure incurred wholly and exclusively for the purpose of the business. It is quite obvious that the High Court, in answering the question on this basis, misdirected itself and totally misunderstood the question that was referred to it for opinion by the Tribunal. The appellant had at no stage contended that the Tribunal had wrongly held that this sum of Rs. 25, 700 was not deductible under section 10(2)(xv) of the Act as expenditure wholly and exclusively laid out for the purpose of the business, nor was this proposition theof the question which was referred by the Tribunal for opinion to the High Court. In answering the question on this basis, therefore, the High Court did what it was not at all called upon to do and, thus, committed a clear error3. The High Court was actually required to answer the question whether this sum of Rs. 25, 700 which was paid by the assessee, by way of penalty to the Government of Orissa was an admissible deduction under section 10(1) of theAct. The question was, no doubt, framed in rather unfortunate language, because section 10(1) of theAct does not refer to any deduction. Section 10(1) lays down that the tax shall be payable by an assessee under the head " profits and gains of business, profession or vocation " in respect of the profits or gains of any business, profession or vocation carried on by him. In these circumstances, what the appellant had claimed was that, in the computation of profits and gains of business, profession or vocation under section 10(1) of the Act, this amount should be deducted, which was intended to mean that this amount should not be included in the computation of the profits and gains of the business. The word " deduction " appears to have been used by the appellant as well as by the Tribunal only because the dispute related to a sum which had been deducted by the Government of Orissa as a penalty from the amount due to the appellant for the supplies made by him in pursuance of the agreement. The High Court, therefore, in answering the question referred to it, should not have gone into the question of the applicability of section 10(2)(xv) of the Act at all, and should have confined itself to deciding whether this amount deducted from the claims of the assessee by the Government of Orissa was liable to be excluded when computing the income under section 10(1) of the Act.