Section 41(1) of the IT Act, 1961 - Remission or cessation of trading liability

HIGH COURT OF ALLAHABAD Commissioner of Income-tax, Meerut v. Willard India Ltd. I Section 41(1) of the Income-tax Act, 1961 - Remission or cessation of trading liability - Assessment year 1984-85 - Whether an unilateral entry on part of assessee-debtor to write back amount of liability lying unclaimed on ground of limitation having expired, would not tantamount to cessation of liability and, therefore, provisions of section 41(1) would not be attracted - Held, yes II Section 40A(5) of the Income-tax Act, 1961 - Business disallowance - Remuneration, etc., paid in excess of prescribed limits in case of company, etc. - Assessment years 1984-85 to 1987-88 - Whether provision of section 40A(5)cannot be controlled by rule 3 of Income-tax Rules, 1962 - Held, yes III Section 145 of the Income-tax Act, 1961 - Method of accounting - Change of - Assessment year 1985-86 - Whether payment of bonus to employees in respect of amount which had accrued as a liability in preceding assessment years, but could not have been allowed as assessee was following cash system of accounting, was liable to be allowed during previous years, relevant to assessment years in question on actual payment basis even where there was a change of accounting system from cash to mercantile system - Held, yes Facts - I An amount of Rs. 2,99,287, relating to sundry creditors, was written back by the assessee on the ground that the same was lying unclaimed for the last three years. The Assessing Officer, however, added the amount by invoking the provisions of section 41(1) by treating it to be a case of cessation of liability. On appeal, the Commissioner (Appeals) upheld the impugned action. On second appeal, the Tribunal holding that the addition was not justified, allowed assessee’s said appeal. On reference : Held - I It was not in dispute that a sum of Rs. 2,99,287 written back by the assessee related to sundry creditors and was lying unclaimed for the last three years. (Para 13) In view of the decision of the Apex Court in CIT v. Sugauli Sugar Works (P) Ltd. [1999] 102 Taxman 713 there cannot be any doubt that an unilateral entry on the part of the debtor to write back the amount on the ground of limitation having expired, would not tantamount to cessation of liability and, therefore, the provisions of section 41(1) would not be attracted. The Tribunal was legally correct in deleting the addition of amount in question. (Para 18) Facts - II The Assessing Officer made certain additions under section 40A(5). On appeal, the Tribunal directed the Assessing Officer to work out the impugned disallowance in terms of rule 3(c)(ii) of the Income-tax Rules. On reference: Held - II In view of the decision of the Apex Court in the case of CIT v. British Bank of Middle East [2001] 251 ITR 217, 118 Taxman 461 wherein the Apex Court has held that section 40A(5) and rule 3 deal with different situation and different set of assessee - one dealing with the employer-assessee and the other with the employee-assessee and, therefore, the provision of section 40A(5) cannot be controlled by rule 3. Therefore, the Tribunal was legally incorrect in deleting the addition made by the Assessing Officer under section 40A(5) and holding that disallowance should be worked out in view of rule 3(c)(ii). (Para 19) Facts - III The assessee had claimed deduction of Rs. 3,67,872 towards payment of bonus to its employees which pertained to the previous accounting years on the ground that same pertained to the liability of earlier years but was paid during the year in question. The assessee’s claim was disallowed on the ground that it had changed its accounting system from cash to mercantile in respect of said payment during assessment year 1985-86. The Tribunal, however, allowed the same on the ground that the change in the accounting method was bona fide and that whatever liability of the previous year, which was being allowed on cash system and had been paid during the year in question, had to be allowed apart from the liability which had accrued during the year in question. On reference: Held - III The Tribunal had recorded a categorical finding that the change of method from cash to mercantile system in respect of payment of bonus to the employee was bona fide. The law permits an assessee to change the method of accounting. In cases where change of method of accounting is adopted, there may appear some anomalies in order to arrive at the true profit and loss for the relevant assessment years and some adjustments have to be made. In the instant case, as the assessee was following the cash system of accounting in respect of payment of bonus to the employees in respect of the amount which had accrued as a liability in the preceding assessment years, but could not have been allowed as it was following the cash system of accounting, was liable to be allowed during the previous year relevant to the assessment years in question on actual payment basis even where there was a change of account system from cash to mercantile system. In that view of the matter there was no illegality in the order of the Tribunal. The Tribunal was justified in deleting Rs. 3,67,872 in that behalf. (Para 20)