The facts leading to the present appeals in nutshell are as under: 2.1 A search was conducted by the Directorate of Revenue Intelligence (DRI) officers at the premises situated at A-11, 12, Sector – VII, NOIDA taken on rent by the assessee, Shri Prakash Chand Lunia.
During the course of the assessment proceedings the Assessing Officer observed that the assessee was not able to explain the nature and source of acquisition of silver of which he is held to be the owner, therefore the deeming provisions of Section 69A of the Income Tax Act, 1961 (hereinafter referred to as ‘the Act, 1961) would be applicable. The ITAT, Jaipur also upheld the order of the CIT(A) so far as Section 69A is concerned, however, partly allowed the appeal of the assessee. (ii) If the answer to the above question is in affirmative then, whether, on the facts and in the circumstances of the case, the Tribunal was right in law in distinguishing the ratio laid down by their Lordships of the Supreme Court in the case of Piara Singh v/s CIT, 124 ITR 41 and thereby not allowing the loss on account of confiscation of silver bars?” 2.3 While the reference was pending before the High Court, penalty proceedings were initiated against the assessee. 1 Shri Balbir Singh, learned ASG appearing on behalf of the Revenue has vehemently submitted that in the facts and circumstances of the case and while dealing with the relevant provisions of the Act, 1961, the High Court has materially erred in relying upon the decision of this Court in the case of Piara Singh (supra). It is submitted that in two relied upon cases of Andhra Pradesh High Court and the Bombay High Court the assessees claimed the value of gold seized as a trading/business loss which is identical to the Respondent-Assessee’s claim in the facts of the present SLP. 2 It is submitted that the Andhra Pradesh High Court observed in para 10 of the judgment in case of Soni Hinduji Kushalji (supra) that when a claim for deduction is made, the loss must be one that springs directly from or is incidental to the business which the assessee carries on and not every sort or kind of loss which has absolutely no nexus or connection with his business.
Similarly, the case of JS Parkar (supra) would also be applicable to the present case as in the former case, the assessee not only claimed the value of the gold confiscated as a trading loss but also set off of the said loss against his assumed and assessed income from undisclosed sources. However, in this case also the Bombay High Court rejected the contention that Section 110 of the Evidence Act (where a person found in possession of anything, the onus of proving that he was not the owner is on the person who affirmed that he was not owner) was inapplicable to taxation proceedings and agreed that tax authorities had rightly inferred assessee to be owner of seized gold based on circumstantial evidence and assessee was not entitled to claim value of such gold as a trading loss. It is submitted that Explanation 1 to Section 37(1) of the Act expressly disallows any expenditure incurred by an assessee for any purpose which is an offence or is prohibited by law, which may be claimed as an expenditure incurred for the purpose of business/profession. It is submitted that the case of Apex Laboratories (supra) distinguishes the judgment in TA Quereshi (supra) and states that the case relating to the assessee bribing doctors, did not deal with business loss but business expenditure which was disallowable under Explanation 1 to Section 37(1). The Collector of Customs ordered absolute confiscation of the said 146 slabs of silver valued at Rs.3,06,036,909/- was proposed to be added as deemed income under Section 69A of the Act. It is submitted that it is through that before the High Court, the assessee did not press the argument regarding the ownership of the silver slabs and therefore, the said question was not answered by the High Court. 4 It is submitted that however as the respondent – assessee was engaged in the business of trading of silver and the said silver slabs were in possession of the assessee for the purpose of trading, absolute confiscation of the said silver slabs would result in loss of stock in trade and the value thereof would be available as deduction as business/trading loss.
Quereshi (Supra) this Court has drawn a distinction between claim of deduction as expenditure of penalty/fine as against claim of business loss on confiscation of account of goods which are unaccounted stock in trade. Thus, there is an evident distinction between a case where deduction is sought of any penalty and/or fine as allowable expenditure and a case where business loss is claimed on account of absolute confiscation of the goods which results in loss of stock in trade. 04.1962 whereby Explanation 1 was added to clarify 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.
Having gone through the decision of this Court in the case of Piara Singh (supra), we are of the opinion that the High Court has materially erred in relying upon the decision of this Court in the case of Piara Singh (supra). 3 In the case of Piara Singh (supra) the assessee was found to be in the business of smuggling of currency notes and to that it was found that confiscation of currency notes was a loss occasioned in pursuing his business i.e. 5 In the case of Soni Hinduji (supra), the Andhra Pradesh High Court held that when a claim for deduction is made, the loss must be one that springs directly from or is incidental to the business which the assessee carries on and not every sort or kind of loss which has absolutely no nexus or connection with his business.
However, the Bombay High Court held the assessee to be the owner of the smuggled confiscated gold and the assessee was not entitled to claim value of such gold as a trading loss.
Therefore, the next question which is posed for consideration before this Court is whether the assessee can claim the business loss of the value of the silver bar confiscated and whether the decision of this Court in the case of Piara Singh (supra) would be applicable? In view of the above and for the reason stated above and looking to the business of the assessee namely silver business and was not in the business of smuggling silver, the decision of this Court in the case of Piara Singh (supra) shall not be applicable and therefore the impugned judgment and order passed by the High Court quashing and setting aside the order passed by the Assessing Officer, CIT(A) and the ITAT rejecting the claim of the Assessee to treat the silver bars confiscated by the customs authorities as business loss and consequently value allowing the same as business loss is unsustainable and the same deserves to be quashed and set side. … RESPONDENTS J U D G M E N T M.
The present appeal is filed by the Revenue, challenging the decision of the Division Bench of the Rajasthan High Court at Jaipur, drawing a distinction between a claim for deduction of a loss incurred in an illegal business, as against a claim of a loss qua a legitimate business, though an illegality is attached to it. AK Shrivastava, learned senior counsel for the Appellant and Mr. Arjit Prasad, learned senior counsel for the Respondents. The plea of ownership was given up by the Respondent/assessee before the High Court, and therefore, the decision of the assessing officer in bringing the loss suffered under Section 69A of the Income Tax Act, 1961 (hereinafter referred to as “the Act”), has become final. Section 37: “ 37 General.- (1) Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head “Profits and gains of business or profession”. 3 [Explanation 1.]—For the removal of doubts, it is hereby 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.” Section 37 of the Act, being one of the provisions meant for computing income from profits or gains of business or profession, is a residuary and omnibus provision which intends to cover all expenditure to the exclusion of those mentioned under Section 30 to 36 of the Act, apart from being in the nature of capital expenditure or personal expenses of the assessee. The purpose of the insertion of the aforesaid Explanation was explained by the Central Board of Direct Taxes Circular No 772 dated 23.12.1998, “Disallowance of illegal expenses 20.1 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 ex- penditure. 2 This amendment will take effect retrospectively from 1st April, 1962 and will, accordingly, apply in relation to the assessment year 1962-63 and subsequent years.” Explanation-I makes a declaration to remove any possible doubts to reckon a loss suffered in the form of expenditure for any purpose which is an offence or one that is prohibited by law. Though the provision speaks of expenditure while not making a specific reference to loss, one has to press into service the accepted commercial practice and trading principles. If one is to treat the expenditure as a genus, a loss would become a specie. Section 115BBE “Section 115BBE.- “Tax on income referred to in section 68 or section 69 or section 69A or section 69B or section 69C or section 69D.- (1) Where the total income of an assessee,— 6 (a) includes any income referred to in section 68, section 69, section 69A, section 69B, section 69C or section 69D and reflected in the return of income furnished under section 139; or (b) determined by the Assessing Officer includes any income referred to in section 68, section 69, section 69A, section 69B, section 69C or section 69D, if such income is not covered under clause (a), the income-tax payable shall be the aggregate of— (i) the amount of income-tax calculated on the income referred to in clause (a) and clause (b), at the rate of sixty per cent; and (ii) the amount of income-tax with which the assessee would have been chargeable had his total income been reduced by the amount of income referred to in clause (i).
(2) Notwithstanding anything contained in this Act, no deduction in respect of any expenditure or allowance or set off of any loss shall be allowed to the assessee under any provision of this Act in computing his income referred to in clause (a) and clause (b) of sub-section (1).” Section 115BBE of the Act deals with levy of tax on income as mentioned in Section 68, 69, and 69A to 69D of the Act. Sub-section (2) once again does not speak about loss but the fact that it makes a reference to ‘set off of any loss’ would reiterate the view taken earlier, while considering the scope and ambit of Section 37 of the Act, that such a loss has to be read into expenditure, at least while applying the test for the purpose of deduction. The loss in pursuance to an offence or prohibited business cannot be brought under Section 115BBE of the Act for income assessed under 68, 69 and 69A to 69D of the Act, which deals with unexplained income, expenditure etc., it can never be said that the same would be brought under Section 37(1) of the Act, despite the fact that the objective behind both the provisions are overlapping with some connection.
Thus, the Court has made it clear that in the absence of any prohibition, as stated above, a claim for deduction of a loss is allowable so long as it emanates directly from the carrying on of the business, being incidental to it. 4 Relevant paragraphs: “The question whether monies embezzled by an agent or employee are allowable as deduction in computing the profits of a business under s. A debt arises out of a contract between the parties, express or implied, and when an agent misappropriates monies belonging to his employer in fraud of him and in breach of his obligations to him, it cannot be said that he owes those monies under any agreement. Chitnavis [(1932) LR 59 IA 290, 296, 297] the point for decision was whether a bad debt could be 10 deducted under s. Styles [(1892) AC 309, 315 : 3 TC 185, 188] “in its natural and proper sense — in a sense which no commercial man would misunderstand”. 10(2), whether it is admissible or not will depend on whether, having regard to accepted commercial practice and trading principles, it can be said to arise out of the carrying on of the business and to be incidental to it. If, for example, a thief were to break overnight into the premises of a moneylender and run away with funds secured therein, that must result in the depletion of the resources available to him for lending and the loss must, in that sense, be a business loss, but it is not one incurred in the running of the business, but is one to which all owners of properties are exposed whether they do business or not. To put it simply, this Court has made the position abundantly clear that a penalty can never be understood as a commercial expenditure/loss for the purpose of the business 12 nor a disbursement made to earn profit.
742 where Bhagwati, J., said: “Confiscation is no doubt one of the penalties which the Customs Authorities can impose but that is more in the nature of proceedings in rem than proceedings in personam, the object being to confiscate the offending goods which have been dealt with contrary to the provisions of the law and in respect of the confiscation also an option is given to the owner of the goods to pay in lieu of confiscation such fine as the officer thinks fit.
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836] where it was said that a distinction must be drawn between an action in rem and proceeding in personam and that confiscation of the goods is a proceeding in rem and the penalties are enforced against the goods whether the offender is known or not. In Dana case [(1959) SCR 821 at p. It follows that in the case of confiscation there is no prosecution against the person or imposition of a penalty on him.” 13
In Maqbool Hussain’s case [(1953) SCR 730] the question for decision was whether after proceedings had been taken under the Sea Customs Act an accused person could be prosecuted and could or could not rely upon the plea of double jeopardy, it was held that he could not. “any expenditure (not being in the nature of capital expenditure or personal expenses of the assessee) laid out or expended wholly and exclusively for the purpose of such business, profession or vocation.” The words “for the purpose of such business” have been construed in Inland Revenue v.
I think that a loss connected with or arising out of a trade must, at any rate, amount to something in the nature of a loss which is contemplable and in the nature of a commercial loss. [(1920) 2 KB 553] where also in similar circumstances by consent of the assessee penalty of £ 3,000 was paid and the penalty plus the costs were claimed as deduction in arriving at the profits. The Special Commissioners had found that the penalty and costs were incurred by the assessee in the course of carrying on their trade and so incidental thereto and were admissible deductions. Woodifield [(1906) AC 448] appeared to Lord Davey to be, a disbursement or expense which was laid out or expended for the purpose of such trade….” Warrington, L.J.
It is not enough that the disbursement is made in the course of, or arise out of, or is connected with the trade or is made out of the profits of the trade. It is perhaps a little difficult to put the distinction into very exact language, but there seems to me to be a difference between a commercial loss in trading and a penalty imposed upon a person or a company for a breach of the law which they have committed in that trading. Glider [(1945) 26 TC 310] the assessee was a firm of chartered accountants, who claimed a deduction for certain legal costs paid in connection with a successful defence of one of the partners in a Police Court. 459] where it was said that if the expenditure is incurred by the tax-payer for more than one purpose including the commercial purposes in the sense that it is incurred for the purposes of earning profits of the trade and also some outside purpose then the expenses cannot be claimed at all as not being wholly and exclusively laid out or expended for the purpose of the trade. Commissioner of Income- tax, Madras [(1943) 11 ITR 454] the assessee in breach of his contract sold crackers at a lower rate and a decree was passed against him for damages for breach of contract which he claimed as an allowable deduction. 10(2)( xv ) must depend on the nature and purpose of the legal proceedings in relation to the business whose profits are in computation and are unaffected by the final outcome of the proceedings. Such penalties which are incurred by an assessee in proceedings launched against him for an infraction of the law cannot be called commercial losses incurred by an assessee in carrying on his business. Therefore where a penalty is incurred for the contravention of any specific statutory provision, it cannot be said to be a commercial loss falling on the assessee as a trader the test being that the expenses which are for the purpose of enabling a person to carry on trade for making profits in the business are permitted but not if they are merely connected with the business. The distinction sought to be drawn between a personal liability and a liability of the kind now before us is not sustainable because anything done which is an infraction of the law and is visited with a penalty cannot on grounds of public policy be said to be a commercial expense for the purpose of a business or a disbursement made for the purposes of earning the profits of such business.” CIT v. This Court in SC Kothari (supra) had merely laid down the general proposition of law by taking note of the position prevailing in other countries, but in any case, it has got no application over a case of either a penalty or confiscation.
State of Bombay etc., (1953) SCR 730 and Haji Aziz (supra), held that a confiscation of a contraband being an action in rem is not available for deduction, as the same, by no process of reasoning can be said to be trading or commercial loss connected with or incidental to the assessee’s business. Swamy appearing for the assessee-firm strongly contended that when the profits earned from an illegal business are not exempt from tax, the loss sustained in such business should be allowed to be deducted from the profits or gains for purposes of computing the tax payable by the assessee. The learned judges in that case were of the view that, when illegal business is business within the meaning of the Income-tax Act and if profits from illegal business are assessable to tax, there is no reason either in principle or on authority for refusing to take into account losses from illegal business.
1 (Guj.). ], as may be noticed from the facts stated therein, was not a case where a claim for deduction was made by the assessee, as he did not say that a particular expenditure incurred by him should be allowed as a permissible deduction. Here is a specific claim made by the assessee for deduction of the value of the gold confiscated by the Central Government on the ground that it is a trading or commercial loss, though the trade was an illegal one. 845.] that, so far as the confiscation of the goods is concerned, it is a proceeding in rem and the penalties 21 are enforced against the goods whether the offender is known or not known and the order of confiscation under section 182 of the Sea Customs Act operates directly upon the status of the property and under section 184 transfers an absolute title to the Government.
That, as it seems to me, was not a loss connected with the business, but was a fine imposed upon the company personally, so far as a company can be considered to be a person, for a breach of the law which it had committed. It is perhaps a little difficult to put the distinction into very exact language, but there seems to me to be a difference between a commercial loss in trading and a penalty imposed upon a person or a company for a breach of the law which they have committed in that trading.” Commissioner of Income-tax [[1961] 43 I.T.R. observed: “When a claim is made for a deduction for which there is no specific provision in section 10(2), whether it is admissible or not will depend on whether, having regard to accepted commercial pratice and trading principles, it can be said to arise out of the carrying on of the business and to be incidental to it. Judged from the test laid down by their Lordships, it is impossible to hold that the confiscation of contraband gold, which is in the nature of a proceeding in rem, is a loss that springs directly from the business or trade carried on by the assessee- firm and is incidental to its business. 249 (A.P.).
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], in a case of loss sustained by an assessee on account of theft at a railway station, held that the loss resulting thereof was not incidental to the assessee’s business and was not an allowable deduction and that the mere fact that there was some remote connection between the loss and the business would not bring the loss within the expression “loss incidental to the the”. Infraction or violation of the law is not a normal incident of a trade or business and, therefore, the penalty by way of confiscation of the contraband gold is not a commercial loss so as to be allowed as a permissible deduction.” 3 The aforesaid reasoning of the Andhra Pradesh High Court arrived at after taking note of the earlier decisions rendered by this Court in its support, deserves to be approved. The Court held that the decision of the Punjab and Haryana High Court in Piara Singh (1970) SCC OnLine P&H 429, was not in line with the decision of this Court in Haji Aziz(supra). The Tribunal, however, declined to entertain this plea, as it was raised for the first time before it and it thought that the same cannot be adjudicated without investigation of further facts. It, however, gave the assessee, under section 183 of the Act, an option to pay the fine in lieu of confiscation and get the goods released.
, it shall have to be held that confiscation of goods incurred for infraction of law cannot be said to be a normal incident of business and loss suffered therefrom falls on the assessee in some character other than that of a trader. Penalty and confiscation of goods even when incurred or suffered in the course of prohibited trade or business still cannot be said to be the normal incident even of such unlawful business and the loss so suffered can still be not said to be a commercial loss in the trade for the same reason as gains of theft, dacoity, misappropriation or cheating cannot be treated as taxable income from any business or commerce. that 26 the confiscation of property or penalty incurred while indulging in prohibited trading activities does not amount to commercial loss though it happens in fact to be a loss according to the ordinary meaning of the word “loss” as understood in common parlance. Though deduction was claimed under section 10(1) of the Act, rejection of the claim is based on the broader basis that penalties and confiscations are not the normal incidents of business and do not constitute commercial loss. When, however, net result of all sources under any one head of income is loss, the same is liable to be deducted from the income under another head under section 71. In my view, the aforesaid authorities make the position very clear that before any loss could be claimed as deductible loss under section 10(1) of the Act, it must be a trading loss or commercial loss arising out of carrying on business or it must be incidental to the business and such loss must also fall on the assessee in his character as a trader. The question in the present case is as to whether the loss consequent upon confiscation of goods for an infraction of law suffered by the assessee could be regarded as a commercial loss or could it be said to be loss incidental to the business and, what is of importance, could it be said to have been suffered by him in his character as a trader? Kothari’s case is concerned—which decision has been confirmed by the Supreme Court— it must be observed that the judgment is an authority only for the proposition that illegality of any business is irrelevant for the purpose of computing the net income thereof under the Income-tax Act and while the revenue is entitled to levy tax on the income of the assessee earned even from unlawful business, the assessee is also entitled to insist on deduction of loss arising out of such unlawful business.
But even there, the loss in respect of which deduction could be claimed while computing the profits of the unlawful business must be a trade loss or commercial loss or loss incidental thereto but suffered by the assessee in his character as a trader and not loss suffered as a result of confiscation of goods for an infraction of law which would be a loss suffered by him in some capacity other than as a trader. Kothari is unexceptionable but, with respect, I would like to point out that the decision is no authority for the proposition that the loss suffered by way of penalty or confiscation of goods amounts to commercial loss that could be deducted while computing the net profits of a business under section 10(1) of the Act. With great deference, I am unable to persuade myself to agree with the view of the Punjab High Court expressed in Piara Singh’s case, especially when it runs counter to the tests laid down by the Supreme Court in Haji Aziz’s case and in English cases to which the Supreme Court has referred while deciding Haji Aziz’s case. 2 Law as laid down in Haji Aziz (supra) on both the issues have not been taken note of by inadvertence, particularly the nature of proceedings involved in the imposition of confiscation or penalty, being proceedings in rem.
Commissioner of Income Tax, Bhopal (2007) 2 SCC 759 30 25.1
Case Title: THE COMMISSIONER OF INCOME TAX JAIPUR Vs. PRAKASH CHAND LUNIA (D) THR LRS (2023 INSC 416)
Case Number: C.A. No.-007689-007690 / 2022
