I.T.A. NO. 208/IB OF 1993-94, DECIDED ON 28TH SEPTEMBER, 1995. VS I.T.A. NO. 208/IB OF 1993-94, DECIDED ON 28TH SEPTEMBER, 1995.
1996 P T D (Trib.) 248
[Income-tax Appellate Tribunal Pakistan]
Before Irshad Ahmad, Judicial Member and Junejo M. Iqbal, Accountant
Member
I.T.A. No. 208/IB of 1993-94, decided on 28/09/1995.
(a) Income Tax Ordinance (XXXI of 1979)---
----Ss. 24 & 23---Deduction---Admissibility---Principles---Director of Company (a batteries manufacturer) was said to have received injury while on duty-- Expenditure incurred on the treatment of such director was not laid out to provide the director any perquisite or benefit as the terms and condition of director's employment---Restriction contained in S. 24(2); Income Tax Ordinance; 1979 would not apply to such expenditure---For an expenditure to be deductible in computing income from business; profession or trade; the expenditure must have been incurred in the assessee's character as a trader and be inseparably connected with the business etc.---Remote connection of expenditure with the business etc. would not qualify same as a deduction.
The expenditure incurred by the company on the treatment of the lady director was not laid out to provide her any perquisite or benefit as the terms and conditions of her employment as director; and as such the restriction contained to section 24(i) of the Ordinance did not apply to the expenditure when the company was not claiming that it had incurred the expenditure to provide any perquisite, allowance or other benefit to the lady director. The Assessing Officer: without examining the admissibility of the expenditure as having been incurred for the purpose of the Company's business: was not justified to assume and treat the incurrence of the expenditure to prove perquisite or other benefit to the lady director as an employee of the company. Before any expenditure incurred by an assessee is allowed to be deducted; it must qualify as an expenditure having been laid out or expended for the purpose of the assessees; business or profession. Any expenditure which is incurred by an assessee as an employer to pay salary, wages and perquisites or other benefits to his employee is deductible in computing his income from business or profession only if it was laid out or expended for the purposes of business or profession. Section 23 of the Ordinance does not specify the payment by an assessee as employer of any salary etc. to his employee under any clause other than clause (xviii) under which for an expenditure to be allowable must either directly relate or be incidental to the purpose of his business or profession.
Before allowing the deduction of such expenditure basic question to be adverted to is whether or not the said expenditure was deductible under section 23 of the Ordinance.
Before the company is allowed to deduct the sum expended on the treatment of the lady director it has to show that the expenditure qualified as one of the deductions specified in section 23 of the Ordinance and not disallowed under section 24. Section 23 specified various allowances and deductions which can be made in computing the income under the head "income from business or profession" for the purposes of income-tax. No allowance or deduction except that specified in clause (xviii) of subsection (1) of section 23 of the Ordinance seems relevant to provide answer to the question if the company is or is not authorized to deduct the expenditure.
For an expenditure to be deductible in computing income from business, profession or trade; the expenditure must have been incurred in the assessee's character as a trader and be inseparably connected with or incidental to the business etc. Its remote connection with the business etc. would not qualify it as a deduction.
In a case raising the question whether an expenditure incurred by the assessee to pay damages or compensation to any of his employee or a third person has been laid out or expended for purposes of the assessee, business or profession as provided for in clause (xviii) of subsection (1) of section 23 of the Ordinance what is to be considered is whether the damages or compensation have been paid to remedy the grievance connected with the assessee's trade, and the act causing the grievance to the person to whom the damages and compensation were paid was connected with the trade in the sense that it was really incidental to the trade itself, and the disbursement of the money paid as damage or compensation was made for the purpose of earning the profit. The remote connection of the act causing the grievance to the person sought to be compensated to the trade or the mere fact that the disbursement of the money paid as compensation was made in the course of, and out of the profits of the trade shall not make the disbursement a deductible expenditure. Even if it is assumed that the lady director had broken her hip-bone in the company's office while on duty, there seems to be no connection of the expenditure laid out by the company on the treatment of the lady director with the company's trade in the sense that it was really incidental to the trade of the company. The mere presence of the lady director at the company's office premises was remote connection with the company's trade. Without being exhaustive and only by way of an illustration it can be said that if the company is obliged to disburse money on the treatment of any of its director of employees or even a third person who is injured by spill acid at the company's premises then keeping in view the company's character as trader of batteries it can reasonably be construed that the expenditure was incurred for the purposes of the business because the spilling of acid is incidental to its business, and such an expenditure shall be a deductible expense.
In the absence of any evidence on record, -the Company has failed to Establish that it had incurred the expenditure on the treatment of lady director for the injury she suffered due to any negligent act of the company and such an act was directly incidental to, and not remotely connected with, the business of the company.
The entire expenditure incurred by the company, on the treatment of the lady director is to be disallowed to be deducted from its income but since the Income Tax Officer has restricted the disallowance beyond fifty per cent of the lady director's salary including other allowances, Tribunal did not direct that the entire amount shall be added to the income as it is likely to enhance the assessee's liability for which the income Tax
Officer has not made any request.
(b) Income Tax Ordinance (XXXI of 1979)--
----S. 2(44)---Total income---Tax is not payable on the real income of an assessee but is payable on the income computed in the manner laid down in the Ordinance.
Abdul Hafeez, D.R. for Appellant.
A. Rahman Mir, F.C.A. for Respondent.
Date of hearing: 17th August, 1995.
ORDER
CH. IRSHAD AHMAD (JUDICIAL MEMBER).--The Assesses, a private limited company, derives income from sale/service of batteries, motor parts, electric equipments etc. The account statement submitted by the company alongwith its return of income for the assessment year 1990-91 showed that the company had expended a sum of Rs.1, 72,912.71 on the treatment of a lady director of the company who had broken her hip-bone. The assessing officer was of the view that the company has expended the said sum to provide health cover to the lady director and as such the expenditure was laid out to provide perquisite, perk or other benefit to the director. The annual salary of the director was Rs.40,500 and besides the salary the director had, during the year, received another sum of Rs.19.000 in the form of house rent allowance, conveyance allowance etc. Clause (i) of section 24 of the Income Tax Ordinance provides that in computing the income from business or profession an Assessee as an employer shall not be allowed to deduct any expenditure incurred on the provision of perquisites, allowances and other benefits to any Employee in excess of fifty per cent of his salary. Thus, the assessing officer found that the company could not lay out any expenditure to provide perk and other benefits to the lady director in excess of fifty per cent of her salary which amounted to Rs.20,250 and since the lady director had already drawn a sum of Rs.19,000 in the form of house rent etc., the company could further expend only a sum of Rs.1,250 that is to say the difference between Rs.20,250 and Rs.19,000 to provide medical cover to the director. Thus, the expenditure to the tune of Rs.1,71,662 was disallowed and added to the income of the company.
On appeal by the company, the Appeal Commissioner has allowed the company to deduct the expenditure incurred on the treatment of the lady director. The Appeal Commissioner was of the view that the amount has not been expended by the company to provide perquisites or other benefits to the director rather the said amount has been expended to compensate the lady director who had broken her hip-bone while on duty in the office of the company.
The I.T.O. has objected to the order of the Appeal Commissioner on the ground that the Appeal Commissioner was not justified .to allow the company to deduct the amount spent by the company on the treatment of lady director from its gains and profits. The I.T.O. has submitted that the expenditure has, in fact, been incurred to provide, a benefit to an employee which inclusive of other benefits cannot exceed fifty per cent of the employee's salary.
We have heard Mr. Abdul Hafeez D.R. for the I.T.O. and Mr. A. Rehman Mir, F.C.A. for the Company.
In support of the proposition that the company was authorized to incur the expenditure on the treatment of the lady director, the following submissions were made before the Appeal Commissioner on behalf of the company:---
"The A.R. submitted that provisions of section 24(i) had wrongly been applied on the instant case. That the director received injury while on duty in the office of the company. Hence she had a moral as well as legal right to get compensation for the injury, inconvenience and agony she went through in addition to the reimbursement of expenses which had to be necessarily incurred in setting the injury right. That the payment, being compensation for injury suffered when on duty, cannot be classified as a 'perquisite'. Moreover, medical treatment expense of a working partner/director was a business expense deductible from the profits of the business and could not be considered as a perquisite in the hands of a director/partner. The A.R. added that payment of compensation to the, lady director had not resulted in a 'personal advantage to her and it hardly compensates the injury she suffered. In this connection, he referred to the decision in a case reported as CIT v. S. G. PGNATLE (1980) 124 ITR 391 (Guj.) where it was held that mere reimbursement of a disbursement would not amount to a perquisite'. The A.R. also referred to another case reported as. CIT v. Vinay Bharat Ram (1981) 129 ITR 128 (Delhi) where it was held that premium paid by an employer on accident policies of an employee was not a perquisite. On the basis of above arguments, the A.R. contended that reimbursement of medical expenses in the instant case did not fall in the definition of 'perquisite' and hence the provisions of section 24(i) of the Ordinance were not attracted at all, "
The Appeal Commissioner found that the Assessee's submissions had substantial force and were supported by case-law. The Appeal Commissioner further remarked that "In India the matter has been put beyond any doubt by the revenue authorities by issuing several circulars excluding reimbursement of medical expenses from the definition of perquisites. Tax should not be construed as a tax on pure humanitarianism. Such facilities and reimbursement cannot be treated as a benefit or personal advantage in more than sports facilities or concessional meal during the working hours. As a matter of fact this is on type of perquisite which no employee would desire to have occasions to enjoy".
The D.R. has contended that since the expenditure incurred by the company to remedy the injury to the lady director was not laid out in connection with the company's business the Appeal Commissioner was not Justified to allow the company to deduct the expenditure from its business gains and profits.
As stated earlier the assessing officer has held that the company has incurred the expenditure to provide perquisite or other benefit to an employee and as such the expenditure is subject to the restriction contained in section 24(i) of the Ordinance, and the appeal Commissioner has held that the expenditure was not laid out by the company as an employer to provide a perquisite or other benefit to its employee but to compensate a person who has been injured at company's premises while on duty.
We too, but for reasons different from those given by the Appeal Commissioner, hold that the expenditure incurred by the company on the treatment of the lady director was not laid out to provide her any perquisite or benefit as the terms and conditions of her employment as director, and .as such the restriction contained in section 24(i) of the Ordinance did not apply to the expenditure. Our reasons for the above holding are that when the company was not claiming that it had incurred the expenditure to provide any perquisite, allowance or other benefit to the lady director. The Assessing Officer, without examining the admissibility of the expenditure as having been incurred for the purpose of the company's business, was not justified to assume and treat the incurrence of the expenditure to provide perquisite or other benefit to the lady director as an employee of the company. Before any expenditure incurred by an assessee is allowed to be deducted it must qualify as an expenditure having been laid out or expended for the purpose of the Assessee's business or profession. Any expenditure which is incurred by an Assessee as an employer to pay salary, wages and perquisites or other benefits to his employee is deductible in computing his income from business or profession only if it was laid out or expended for the purposes of business or profession. Section 23 of the Ordinance does not specify the payment by an Assessee as an employer of any salary etc. to his employee under any clause other than clause (xviii) under which for and expenditure to be allowable must either directly relate, or be incidental, to the purpose of his business or profession.
We regret to note that before allowing the deduction of the said expenditure the Appeal Commissioner has not adverted to the basic question whether or not the said expenditure was deductible under section 23 of the Ordinance. We have also noticed that while allowing the deduction the Appeal Commissioner has entered the area of judicial legislation rather to interpret and apply the legislation, as it exists. The Appeal Commissioner's observation that in India the matter has been put beyond any doubt by revenue authorities by issuing several circulars excluding the reimbursement of medical expenses from the definition of perquisite is self-contradiction in the term because if we have to allow an Assessee being an employer to expend any money on the treatment of its employee as a business expense and not as a part of the terms and conditions of his employee's employment then there will be no question of excluding the reimbursement of medical expenses from the definition of perquisites. The specific exclusion of the amount reimbursed to any employee expended by him on medical treatment in India, as mentioned by the Appeal Commissioner (we have not checked the position) from the definition of the salary or perquisite paid or payable to an employee presupposes the position that but for the exclusion the amount formed part of the salary. The Appeal Commissioner's observations that in India the reimbursement of medical expenses has been excluded from the definition of perquisite tends to show as if he was recording his findings in the matter of an assessment made on the employee and not on an employer, because the question whether reimbursement of the medical expenses by the employer to the employee in accordance with the terms and conditions of the service is or is not a perquisite to be taxed in the hands of the employee may arise only when an assessment is to be made on an employee. Here we are not concerned in the matter of an assessment on the employee but on an employer.
As stated earlier we agree with the Appeal Commissioner, that the money expended by the company on the treatment of the lady director was not laid out to provide any perquisite or benefit to the employee. Thus, the question is whether the company has laid out the said sum for the purpose of its business?
Under the law relating to income-tax the tax is not payable on the real income of an Assessee but is payable on the income computed in the manner laiddown in the relevant Income Tax statute. Section 2(44) of the Income Tax Ordinance, 1979 incorporates the above concept as follows:
"Total income" means the total amount of income referred to in section 11 computed in the manner laid down in 'this Ordinance; and includes any income which, under any provision of this Ordinance, is to be included in the total income of an Assessee.
The instances are not lacking where the real income of an Assessee is lesser or more than the income on which he is liable to pay tax. In computing "income from 'house property" an Assessee is allowed to deduct a sum equal to 1/5th of the annual value of the property in respect of repairs (section 20(l)(a). If such an Assessee does not expend any money on the repairs of the property his real income will be more than that he would be offering for tax. But, if he expends more money on repairs his real income will be less than the income he is offering for tax. Similarly, if an Assessee as an employer provides perquisites, other benefits etc. to any of his employee in excess of fifty per cent of his salary the real income will be lesser than the taxable income because the amount expended to provide such benefits to an employee in excess of fifty per cent of his salary will be disallowed and added to the taxable income.
Unfortunately the assessing officer has not recorded any finding under what circumstances the lady director of the company had broken her hip-bone. The Appeal Commissioner too has not recorded his definite finding. All that was represented before the Appeal Commissioner was that "the lady, director had received injury while on duty in the office of the company". Even if it is assumed that the lady director had suffered the injury while on duty in the company's office, there is neither any assertion on her behalf nor any finding by any tax authority that the injury was caused to her due to any negligent act of the company or any of its employees. There is also no finding whether the act responsible to cause injury to the director was incidental to the company's business.
Before the company is allowed to deduct the sum expended on the treatment of the lady director it has to show that the expenditure qualified as one of the deductions specified in section 23 of the Ordinance and not disallowed under section 24. Section 23.ibid, specifies various allowances and deductions which can be made in computing the income under the head "income from C business or profession" for the purposes of income-tax. No allowance or deduction except that specified in clause (xviii) of subsection (1) of section 23 of the Ordinance seems relevant to provide answer to the question of the company is or is not authorised to deduct the expenditure. Clause (xviii) reads as under:--- .
"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 or profession. "
The company's case is that it has incurred the said expenditure because the "lady director had a moral as well as legal right to get compensation for the injury". It is obvious from the above submission that the company has not incurred the expenditure to earn any income in relation to the business it was carrying on but has incurred to compensate the lady director. The question whether any damage or compensation paid by an assessee is allowable as an expenditure incurred by the assessee for the purpose of his business, profession or trade has copiously been dealt with in Kanga and Pakhivala's. The law and practice of Income Tax (7th Edition) Volume 1, pages 166-46) under the headnote "Damages or compensation paid by assessee" and in V. S. Sundaram's. Law of Income Tax in India (12th Edition), Volume 2, pages 808-810 under the headnote "Damages" and the unanimous answer is.; that for an expenditure to be deductible in computing income from business, profession or trade the expenditure must have been incurred in the assessee's character as a trader and be inseparably connected with or incident to the business etc, Its remote connection with the business etc. would not qualify it as a deduction.
The question has also been answered in various precedents of high judicial authority. -The starting point is the decision of the House of Lords in Strong &. Co. Ltd. v. Woodsfield 1906 Appeal Cases 448. The above decision is not only leading authority on the subject but perhaps still remains unrivalled. In Strong Co. Ltd. v. Wood-filed a brewery company owned an inn. A customer staying in the inn was injured by the fall of chimney and recovered damages and cost against the company for the injuries. To provide accommodation to customers was not the character or the company trade. A question arose whether the company was entitled to deduct the amount paid as damages and cost as a sum laid out or expended wholly and exclusively for the purpose of the business. The provision of the Income Tax Act relevant to Strong & Co.'s case (section 100, Schedule D, case 1, Rules 1 and 2 of the Income Tax Act, 1842) provided that no sum can be deducted (from the gains and profits of the trade) unless it be money wholly and exclusively laid out or expended for the purposes of the assessee's trade (of clause (xviii)) of subsection (1) of section 23 of the-Ordinance which is squarely similar to the provision of the law relevant to Strong & Co.'s case. The House of Lords held that the money paid by the company as damages and cost could not be deducted in computing the incom6 of the company for the purposes of income-tax as the expenditure was not laid out or expended wholly and exclusively for the purpose of the business. Lord Loreburn the Lord Chancellor, said that what has to be assessed is the balance of the profits and gains of trade that is to say the sum left after subtracting the proper deductions from the profits and gains. A deduction may be allowed on account of loss and this (recovery of damages and costs against the company for injury) is a loss. A deduction cannot be allowed on account of loss not connected with or arising out of such trade. That is one indication. And no sum can be deducted unless it be money wholly and exclusively laid out or expended for purposes of such trade. That is another indication. Lord Chancellor further said:
In my opinion, however, it does not follow that if a loss is in any sense connected with the trade, it must always be allowed as a deduction; for it may be only remotely connected with the trade or it may be connected with something else quite as much as or even more than with the trade. I think only such losses can be deducted as are connected with in the sense that they are really incidental to the trade itself. They cannot be deducted if they are mainly incidental to some other vocation or fall on the trader in some character other than that of trader. The nature of the trade is to be considered. To give an illustration Losses sustained by a railway company in compensating passengers for accidents in travelling might be deducted. On the other hand, if a man kept a grocer's shop for keeping which a house is necessary and one of the window shutters fell upon and injured a man walking in the street the loss arising thereby to the grocer ought not to be deducted. Many cases might be put near the line, and no degree of ingenuity can frame a formula so precise and comprehensive as to solve at sight all the cases that may arise. In the present case I think that the loss sustained by the appellants was not really incidental to their trade as innkeepers and fell upon them in their character not of traders, but of householders.
Lord Davey said:
It has been argued that the deduction claimed was a loss connected with or arising out of the appellants' trade within Rule 3 applying to Case 1 only, Case I relates to trades, manufacturers, adventures, or concerns in the nature of trade, and I think that the word "loss" in Rule 3 means what is usually known as a loss in trading or in speculation. It contemplates a case in which the result of the trading or adventure is a loss. Wholly or partially of the capital employed in it I doubt whether the damages in the present case can properly be called a trading loss. I prefer to decide the case upon Rule 1, which applies to profits of trades and also to professions, employments or vocations, I think that the payment of these damages was not money expended "for the purpose of the trade." These words are used in other rules, and appear to me to mean for the purpose of enabling a person to carry on and earn profits in the trade & c. I think the disbursements permitted are such as are made for that purpose. It is not enough that the disbursement is made in the course of, or arises out of, or is connected with, the trade, or is made out of the profits of the trade. It must be made for the purpose of earning the profits. In short, I agree with the judgment of the Master of the Rolls.
The principle laid down by the House of Lords has been followed in numerous cases out of which the following may be referred-to with advantage.
In the matter of Australasia Bank Ltd., Lahore PLD 1962 Lahore 779 the bank had claimed deduction of the loss by theft of its money and the ornament from its safe. Following the principle enunciated in Strong & Co., it was held that the bank was entitled to deduct he loss, as it was incidental to its business.
In re: Amrita Bazar Patrika (1937) 5 ITR 648, the assessee was a company carrying on the business of editing and publishing and selling a newspaper. The editor, printer and publisher of the paper were prosecuted and convicted for contempt of Court in respect of an article published in the paper. The company met all the expenses in connection with the defence of the said persons and claimed that the expenditure .was incurred wholly and exclusively for the purposes of business as provided for in section 10(2)(ix) of the Indian Income-tax Act, 1922. The Calcutta High Court relying on the principle laid down in Strong & Co.'s case held that the company's motive to bear expenses to defend the editor etc. was a perfectly intelligible one but it has not the effect of making the expenditure a permissible deduction under section 10 and it is totally inconsistent with such expenditure being expenditure incurred solely for the purpose of earning profits and gains within the meaning of section 10(2)(ix).
In Anamalai Timber Trust Ltd. v. CIT, Kerala (1963) 47 ITR 814 the assessee, a company carrying on business in timber, hired an elephant for hauling timber from, forest. During the hauling of the timber, the mahouts inflicted such injuries on the elephant that the elephant died of the injuries. The assessee had to pay damages to the owner, of the elephant. The question was whether the assessee was entitled to deduct the amount paid as damages/compensation from its profits. The Kerala High Court held: that the real test to be applied in these types of cases appears to be what has been laid down by the House of Lords in Strong & Co. v. Woodsfield and finding that as the business of the assessee involved the hauling of timber for which the services of elephant were necessary and the elephant was injured by the mahouts in the course of business the money paid as damages was expended for the purpose of business. The above principle has been approved by the Supreme Court of India in Haji Aziz and Abdul Shakoor Brothers v. CIT (1961) 41 ITR 350. In the above case the question was whether the fine the assessee had to pay for releasing the dates he had imported by steamer at a time when the import of, dates by steamer was prohibited could be deducted in computing the assessee's income. The Supreme Court approving the principle laid down in Strong & Co., came to the conclusion "that the expenses which are permitted as deductions are such as are made for the purpose of carrying on the business, i.e. to enable a person to carry on and earn profit in that business. It is not enough that the disbursements are made in the course of or arise out of or are concerned with or made out of the profits of the business but they must also be for the purpose of earning the profits of the business It must be a commercial loss and in its nature must be contemplable as such They cannot be deducted if they fall on the assessee in some character other than that of 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".
In the light of the above statement of law in a case raising the question, whether any expenditure incurred by the assessee to pay damages or compensation to any of his employee or a third person has been laid out or expended for purposes of the assessee s, business or profession as provided for in clause (xviii) of subsection (1) of section 23 of the Ordinance what is to be considered is whether the damages or compensation have been paid to remedy the grievance connected with the assessee's trade, and the act causing the grievance to the person to whom the damages and compensation was paid was connected with the trade in the sense that it was really incidental to the trade itself, and the disbursement of the money paid as damage or compensation was made for the' purpose of earning the profit. The remote connection of the act causing the-grievance to the person sought to be compensated to the trade or the mere fact that the disbursement of the money paid as compensation was made in the course of, and out of the profits of the trade shall not make the disbursement a deductible expenditure. Even if it is assumed that the lady director had broken her hip bone in the company's office while on duty, we have not been able to discern any connection of the expenditure laid out by the company on the treatment of the lady director with the company's trade in the sense that it was really incidental to the trade of the company. The mere presence of the lady director at the company's office premises was remote connection with the company's trade. Without being exhaustive and only by way of an illustration it can be said that if the company is obliged to disburse money on the treatment of any of its director or employee or even a third person who is injured by spill acid at the company's premises then keeping in view the company's character as trader of batteries it can reasonably be construed that the expenditure was incurred for the purposes of the business because the spilling of acid it incidental to its business, and such an expenditure shall be a deductible expense.
While allowing the assessee to deduct the expenditure from its income the Appeal Commissioner seems to have been swayed by human considerations. His feelings are against well, known principle of tax law contained in the aphorism: "There is no equity about the tax". In the absence of any evidence on record, the company has failed to establish that it had incurred the expenditure on the treatment of lady director for the injury she suffered due to any negligent act of the company and such an act was directly incidental to, and not remotely connected with, the business of the company.
In view of our above finding the entire expenditure incurred by the company on the treatment of the lady director is to be disallowed to be deducted from its income but since the Income Tax Officer has restricted the disallowance beyond fifty percent. of the lady director's salary including other allowances, we would not like to direct that the entire amount shall be added to the income as it is likely to enhance the Assessee's liability for which the Income Tax' Officer has not made any request.
Resultantly the Appeal Commissioner's Order so far as it relates to the expenditure incurred by the company on the treatment of the lady director is vacated and that of the I.T.O. is restored.
M.B.A./149/Trib.
Order accordingly.