Repayment of loan by person giving security is allowed as a business expense u/s 37

Facts in Brief:

1.  One 'E' took a loan from several sources. The said loan was secured by execution of bills of exchange of four others including the assessee and the said bills of exchange were accepted on behalf of the assessee by its managing director - 'A'.

2.  When default was committed, the creditors moved to the High Court for repayment of loan against 'E'.

3.  The High Court decreed the suit and in terms of the decree, the assessee had to pay a sum of Rs. 2.70 crores which it claimed as deduction under section 37.

4.  The Assessing Officer disallowed said deduction on ground that payment was not in connection with business activity of the assessee.

5.  On appeal, the Commissioner (Appeals) deleted disallowance.

6.  The Tribunal dismissed the revenue's appeal.

On appeal to the High Court:

7.  When once the co-acceptance of bill of exchange is not in dispute and when the material placed on record shows that it was validly accepted by the managing director, it binds the company and, therefore, it proceeded to decree the suit of the plaintiff against the assessee and three others. Therefore, in order to avoid execution of the said decree against it by way of attachment, arrest and to protect the name of the assessee, the said amount is paid by the assessee. 

8.  In Explanations (1) and (2) of section 37(1) provide for an exception that any expenditure incurred by the 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. Barring that exception, all amounts incurred by the company are to be treated as for the purpose of business and the same are allowable as deduction.

9.  The amount paid by the company in terms of a decree passed by the High Court cannot be construed as either prohibited by law or as an offence. Even if the assessee was in no way benefited by the said transaction and even if the managing director without the authority has bound the assessee, when once a decree is passed by a competent Court, there is a threat to the business of the company. 

10.  If the decretal amount is not paid, the decree holder could have executed the decree against the property of the company; could have attached the property of the company and the creditors in the alternative also could have filed for winding up of the company. In those circumstnaces, to avoid such legal complications, if the decretal amount is paid, it cannot be construed that there was no 'commercial expediency' in payment of such amount. All the appellate authorities, on careful consideration of the entire material on record, have rightly held that the said expenditure falls within section 37 and rightly directed the assessing authority to delete the said amount.