Income Tax Appellate Tribunal - Chandigarh
Deputy Commissioner Of Income-Tax vs V.K. Construction Works (P.) Ltd. on 21 March, 1995
Equivalent citations: [1996]56ITD399(CHD)
ORDER
N.K. Agrawal, Judicial Member
1. This is an appeal by the revenue relating to the assessment year 1985-86.
2. Ground No. 1 relates to the deletion of addition of Rs. 4,97,912 and Rs. 3,21,000 on account of forfeiture of security deposit and payment of compensation respectively.
3. The assessee-company was engaged in the business of construction of buildings as a contractor. Accounting period closed on 30-9-1984. The assessee had written off a sum of Rs. 4,97,812 under the head "Security" as under:-
Rs.
(i) Ganga-Nagar Co.-op. Oil Seeds 1,53,847
Processing Mills
(ii) Shri Dashmesh Academy, 2,15,690
Anandpur Sahib
(iii) Ganganagar Co-op. Sahkari 1,00,000
Spinning Mills, Ganganagar
(iv) Food Corporation of India, 28,275
Narwana --------------
4,97,812
--------------
4. The Assessing Officer was of the view that forfeiture of the security was nothing but a penalty on account of breach of contract. Similarly, the amount of compensation paid by the assessee at Rs. 3,21,000 was also not allowed as a deduction on the ground that this compensation was paid for the delay in the execution of certain works. The Assessing Officer (for short, the AO) was also of the view that these deductions had actually been claimed by the assessee as a provision and not as any ascertained liability.
5. The assessee went in appeal with the plea that certain contracts had been cancelled for different reasons. Since delay in the execution of work was an incidence of the business of contract, the for feiture of security as well as payment of compensation were only incidental to the assessee's nature of business. The forfeiture as well as payment of compensation were not on account of any violation of any statutory rules or buy-laws but on account of breach of contract. Therefore, deductions were claimed as normal expenditure in the normal course of business because the work could not be completed in time. Ganganagar Co-operative Oil Seeds Processing Mills forfeited the bank guarantee amount by informing the Laxmi Commercial Bank on 7-6-1983, for encashing the bank guarantee and remitting the sum of Rs. 1 lakh and Rs. 68,000. This direction was given to the bank because there was a breach of contract and the assessee-contractor was said to have left the site without completing the work. The assessee's plea was that on account of this step taken by M/s. Ganganagar Co-operative Oil Seeds Processing Mills, the assessee had no option but to claim deduction though that matter had been referred for arbitration also. It was also pleaded that an award had been given which was pending in the Court for making it the rule of the Court. The award was given entitling the assessee to receive a sum of Rs. 40,82,978 as against its claim for Rs. 4,59,62,920. Similarly, in the case of Ganganagar Co-op. Sahakari Spinning Mills, the matter again went before the Arbitrator because the work of the factory building was required to be completed on or before 3-3-1980 and of the residential building before 3-6-1980 but was not so done. Since the work was not completed by the assessee before the due date, extension of time was sought and initially 6 months' extension was given by the Mill on an ad hoc basis. Further extension of time was sought by the assessee but it was refused. Since the work could not be completed and the assessee's demand for increase in the rates was rejected, the aforesaid spinning mill withdrew the work and the sum of Rs. 1 lakh as security and Rs. 50,000 as earnest-money given by the assessee at the time of filing tender was deducted from the running bills @ 50%. Here also, the assessee went before the Arbitrator as per the provisions of the contract. In the case of Food Corporation of India, it was submitted by the assessee that award was given by the Sole Arbitrator, Hon'ble Mr. Justice Jaswant Singh (Retd.), on 2-9-1994. As per the award, the assessee had left the work and, therefore, the contract was rescinded in the month of December 1981. The FCI gave work to some other contractor for completion. The assessee had undertaken to construct certain foodgrain-godowns along with the ancillary buildings at Narwana. The work was to be completed within 16 months. Action was taken for forfeiture of the security by the FCI because the work was very, slow and it was treated as a breach of contract. Since the assessee left the work, it was rescinded.
6. This is how the first appellate authority allowed the assessee's appeal after coming to the conclusion that in all the cases, forfeiture had been effected on account of breach of contract and not for any infringement of law.
7. The Id. D.R. has contended before us that forfeiture of the security money as well as payment of compensation did involve the element of penalty and, therefore, could not be claimed as a deduction. Reference has been made to a decision of the Madras High Court in the case of Mask & Co. v. CIT [1943] 11 ITR 454 for the proposition that the award of damages was not incidental to the assessee's trade and did not constitute an expenditure because the assessee's action in disregarding the undertaking given was palpably dishonest. In that case, the assessee was carrying on the business in crackers and had entered into a contract under which the assessee's goods were to be sold at certain specified rates. The assessee, however, in breach of this contract, sold crackers at lower rates. In a suit for damages for breach of contract instituted by other parties, a decree was passed for Rs. 5,000 and cost. We, however, find that the case before the Madras High Court was entirely on different set of facts inasmuch as there the assessee had committed a breach with an element of dishonest actions. The Id. D.R. has also placed reliance on a decision of the Punjab High Court (at Shimla) in the case of CIT v. Himalaya Rosin-Turpentine Mfg. Co. [ 1953] 24 ITR 132 for the proposition that where a fine was paid under a penalty clause for transgressing the terms of agreement, that could not be allowed as a deduction. There, the assessee was carrying on the business of extracting rosin from forest leased for that purpose. The assessee entered into an agreement with the Tehri Garhwal State to extract rosin according to the terms and conditions of the agreement and was liable to pay compensation for failure to observe the same. The assessee was accused of having transgressed the terms of the agreement and was called upon to pay a sum of Rs. 5,000 as fine. It was held that amount paid was not an item which was expended for the purpose of enabling the assessee to earn the profits in the trade but was imposed as a penalty for the breach of the rules and was, therefore, not deducted. Here also the question was slightly different because certain rules were found to have been violated and, therefore, the fine imposed was held to be not a business expenditure. In the case of Cineramas v. CIT [1977] 110 ITR 762, the Punjab and Haryana High Court had again an occasion to examine a question whether expenditure had been laid out wholly and exclusively for the purposes of the assessee's business. It was held that the expenditure must be in some way connected with the trade and must be an ordinary or contemplable incident of trade. Infractions of law, including breaches of obligation, are not normal incidents of business. Penalty and damages paid in connection with such infractions and breaches cannot be expenditure laid out or expended wholly and exclusively for the assessee's business.
8. We have considered the plea raised by the learned Departmental Representative and have also perused the judicial pronouncements but we find that the facts in each case have to be examined looking to the nature of the payment as well as the background. In the case of the present assessee, we do not find any violation of rules or the by-laws but a breach of contract only. In all the cases, forfeiture of security took place because the assessee could not complete the work in time. The assessee also raised certain demands for increase in the rates but that was refused.
9. The Id. counsel for the assessee has argued, in reply, that the assessee had to pay compensation simply because of delay in the execution of the works. When the matter went to the arbitrators, the assessee had no choice but to claim deduction in respect of the forfeiture of security as well as payment of compensation. Ultimately, very small amount was awarded in assessee's favour by the arbitrators. Reliance has been placed by the learned counsel on a decision of the Gujarat High Court in the case of Addl. CIT v. Rustam Jehangir Vakil Mills Ltd. [1976] 103 ITR 298 for the proposition that where the payment made by the assessee was not in the nature of penalty but was incidental to the carrying on of the assessee's business, it could be allowed Under Section 37 of the Income-tax Act. In that case, the assessee had failed to produce the minimum quantity of cloth specified by the Textile Commissioner. It was held that this failure could not be treated to be an infraction of law. Similarly, in the case of CIT v. Tarun Commercial Mills Co. Ltd.[ 1977] 107 ITR 172, a view has been taken by the Gujarat High Court that there was a distinction between the expenditure and penalty and amount paid by the assessee for short export was a business expenditure incurred wholly and exclusively for the purposes of the assessee's business. Similarly, the Madras High Court in the case of CIT v. Surya Prabha Mills (P.) Ltd. [1980] 123 ITR 654 also took a similar view where the assessee could not import the allotted quantity of foreign cotton and had to make payment of the guarantee amount for the bales not imported. This was held to be not a penalty. The Gujarat High Court again had an occasion to examine a similar question in the case of CIT v. Bharat Vijay Mills Ltd. [1981] 128 ITR 633. In that case also, the assessee had to pay certain amounts for failure to carry out the directions of the Textile Commissioner for production or packing of the minimum of the particular types of cloth. It was held that compensation paid to the Textile Commissioner for the non-production of the controlled variety of cloth was an allowable deduction.
10. We have looked to the facts of the case and we are of the view that the first appellate authority has taken a correct view in the matter inasmuch as the forfeiture of the security as well as payment of compensation were incidental to the assessee's business and such deductions were to be allowed as expenditure in the normal course of business. The assessee could not complete the work in time and that resulted in the forfeiture of the security. There is nothing on the record to indicate that the assessee did commit any infringement of any provision of law. The assessee in the best interest of the business left the work because completing the work would have resulted in greater loss than the for feiture of the security. We are, therefore, of the view that the deduction had rightly been allowed. Ground No. 1, therefore, fails.
11. to 16. [These paras are not reproduced here as they involved minor issues.]