New Mahalaxmi Silk Mills Pvt. Ltd. vs Commissioner of Income Tax

Dr. B.P. Saraf, J.—By this reference u/s 256(1) of the Income Tax Act, 1961, at the instance of the assessee, the Income Tax Appellate Tribunal has referred the following question of law to this court for opinion :

"Whether, on the facts and in the circumstances of the case, the interest paid by the assessee, as per an order u/s 14B of the Employees'' Provident Funds and Family Pension Act, 1952, is an admissible deduction in computing the income of the assessee ?"

The controversy in this case pertains to the assessment year 1977-78 relevant to the previous year ended on March 31, 1977. During the previous year in question, the assessee committed certain defaults in payment of the provident fund contributions under the Employees'' Provident Funds and Family Pension Act, 1952 (hereinafter "the Act"). For the said default, the Regional Provident Fund Commissioner, Maharashtra and Goa, levied damages u/s 14B of the Act to the tune of Rs. 28,489. This amount was claimed by the assessee as a deduction in computation of its income as business expenditure. The claim was rejected by the Income Tax Officer on the ground that the levy of damages was in the nature of penalty u/s 14B and, as such, it could not be allowed to be deducted as business expenditure. On appeal by the assessee, the Commissioner of Income Tax (Appeals) made a distinction between interest for delayed payment and damages imposed by way of penalty for non-payment in time. He bifurcated the total impost into interest and penalty. Out of the total sum of Rs. 28,489, he disallowed Rs. 6,499 being the penalty amount and allowed deduction of Rs. 21,990 being the interest amount. The order of the commissioner (Appeals) was reversed by the Tribunal. It was held by the Tribunal that even interest payable for delayed payment was penalty as it became payable by a specific order of a competent authority. Aggrieved by the order of the Tribunal, the assessee has come to this court by way of this reference.

We have heard counsel for the parties. The controversy in this case revolves round the question whether damages u/s 14B of the Act are imposed by way of penalty or interest. In other words, the main question on which the answer to the question referred to us will depend upon is whether damages u/s 14B of the Act are compensatory or penal in nature. We find that this controversy is no more res integra in view of the decision of the Supreme Court in the case of Organo Chemical Industries v. Union of India [1979] 55 FJR 283; AIR 1979 SC 1803, wherein the Supreme Court clearly held that the character of "damages" u/s 14B of the Provident Funds Act was neither purely compensatory not penal. There is an element of compensation as well as penalty in damages u/s 14B of the Provident Funds Act. It was held that the question whether any impost is in essence compensatory or it is by way of penalty will have to be decided having regard to the relevant provisions of the law under which it is imposed and the circumstances under which it has been imposed. The mere nomenclature as interest, penalty or damages in the Act may not be conclusive. It was further held that the levy of damages u/s 14B comprised both an element of penal levy as well as compensatory payment. The Supreme Court clearly held that the levy of damages u/s 14B of the Provident Funds Act was meant not only to penalise defaulting employers but also to provide reparation for the amount of loss suffered by the employees. It was not only a warning to employers in general not to commit a breach of the statutory requirements, but at the same time it was meant to provide compensation or redress to the beneficiaries, i.e., to recompense the employees for the loss sustained by them.

The nature and character of "damages" u/s 14B of the Provident Funds Act against came up for consideration before the Supreme Court in M/s. Prakash Cotton Mills Pvt. ltd. Vs. Commissioner of Income Tax (Central), Bombay, . The dispute in this case related to allowability of interest and damages paid by the assessee for delayed payment of sales tax under the Bombay Sales Tax Act and for delayed payment of contribution under the Employees'' State Insurance Act, as revenue expenditure. The Supreme Court followed the ratio of its earlier decision in Organo Chemical''s case [1979] 55 FJR 283; AIR 1979 SC 1803, and held as under (at page 690) :

". . . . whenever any statutory impost paid by an assessee by way of damages or penalty or interest is claimed as an allowable expenditure u/s 37(1) of the Income Tax Act, 1961, the assessing authority is required to examine the scheme of the provisions of the relevant statute providing for payment of such impost notwithstanding the nomenclature of the impost as given by the statute, to find whether it is compensatory or penal in nature. The authority has to allow deduction u/s 37(1) of the Income Tax Act, wherever such examination reveals the concerned impost to be purely compensatory in nature. Wherever such impost is found to be of a composite nature, that is, partly of compensatory nature and partly of penal nature, the authorities are obligated to bifurcate the two components of the impost and give deduction to that component which is compensatory in nature and refuse to give deduction to that component which is penal in nature."

The above decision of the Supreme Court is a complete answer to the controversy involved in the present case. The Supreme Court has clearly laid down that wherever an impost is found to be of a composite nature, i.e., partly of compensatory nature and partly of penal nature, the authorities are obligated to bifurcate the two components of the impost and give deduction to that component which is of compensatory nature. The Commissioner (Appeals) acted correctly in bifurcating the damages imposed by the Regional Provident Fund Commissioner into two parts and allowing deduction for that part of the amount which constituted interest. The Tribunal erred in reversing the order of the Commissioner which now stands fully supported by the above decision of the Supreme Court.

In view of the foregoing, we find that the Tribunal was not justified in reversing the order of the Commissioner (Appeals). We, therefore, answer the question referred to us in the affirmative and in favour of the assessee.

We make no order as to costs.