Second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) is declaratory and curative in nature and has retrospective effect from 1st April 2005.

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Case Name:

Commissioner of Income Tax vs. Ansal Land Mark Township (P) Ltd. (High Court of Delhi)

ITA 160/2015

Key Takeaways:

1. The second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) is retrospective from April 1, 2005.

2. The provision aims to prevent disallowance of expenses when there's no loss to the exchequer.

3. The court emphasized that the provision is not meant to penalize but to compensate for potential revenue loss.

Issue:

Whether the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961), inserted in 2012, should have retrospective effect from April 1, 2005?

Facts:

- The case involves Ansal Land Mark Township (P) Ltd. for Assessment Years 2008-09 and 2009-10 .

- The Assessing Officer disallowed payments made by the Assessee to Ansal Properties and Infrastructure Ltd. (APIL) for not deducting tax at source under Section 194J (of Income Tax Act, 1961) .

- The second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) was inserted by the Finance Act 2012, effective from April 1, 2013 .

- The first proviso to Section 201(1) (of Income Tax Act, 1961) was inserted with effect from July 1, 2012 .

Arguments:

- The Assessee argued that the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) should apply retrospectively, preventing disallowance of the payment .

- The Revenue initially did not raise this question in their appeal but later sought to amend their memorandum to include it .

Key Legal Precedents:

- The court relied heavily on the decision of the Agra Bench of ITAT in Rajiv Kumar Agarwal v. ACIT (ITA No. 337/Agra/2013), which held that the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) is declaratory and curative, with retrospective effect from April 1, 2005 .

Judgement:

1. The court dismissed the appeal, finding no substantial question of law .

2. It held that the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) is declaratory and curative in nature, with retrospective effect from April 1, 2005 .

3. The court agreed with the ITAT's reasoning that the provision aims to prevent undue hardships when there's no loss to the exchequer .

FAQs:

Q1: What is the significance of this judgment?

A1: It allows taxpayers to claim deductions for expenses even if they failed to deduct tax at source, provided the payee has paid tax on the income, retrospectively from 2005.

Q2: Does this mean tax deduction at source is no longer important?

A2: No, the judgment emphasizes that the provision deincentivizes non-deduction of tax but is not meant to penalize when there's no revenue loss .

Q3: How does this judgment affect past assessments?

A3: It may allow reassessment of cases where deductions were disallowed due to non-deduction of tax at source, potentially benefiting many taxpayers.

Q4: What conditions must be met for this provision to apply?

A4: The payee must have filed their tax return, included the income in their return, and paid the due tax .

Q5: How does this judgment interpret the intention of Section 40(a)(ia) (of Income Tax Act, 1961)?

A5: The court views it as a measure to ensure tax compliance and prevent revenue loss, not as a punitive measure .

CM APPL No. 3774 of 2015 in ITA No. 160 of 2015 CM APPL No. 3775 of 2015 in ITA No. 161 of 2015

1. Allowed, subject to all just exceptions.

2. The applications are disposed of.

3. These two appeals by the Revenue under Section 260A (of Income Tax Act, 1961) („Act‟) are directed against the common order dated 21st July 2014 passed by the Income Tax Appellate Tribunal („ITAT‟) in ITA No. 2972/Del/2012 and ITA No. 877/Del/2013 for the Assessment Years („AYs‟) 2008-09 and 2009-10 respectively.

4. At the outset, it is pointed out by learned counsel for the Revenue that the questions (a) to (e) as projected by the Revenue in para 2 of the memorandum of appeal concerning ITAT‟s order deleting certain additions stand answered in favour of the Assessee by the order dated 2nd March 2015 in ITA No. 162 of 2015 (CIT v. Ansal Land Mark Township (P) Ltd.) concerning and earlier AY. Consequently, those questions for the present AYs also stand answered in favour of the Assessee and against the Revenue.

5. The other issue urged by the Revenue during the course of arguments pertains to the retrospectivity of the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) which reads as under:

“Provided further that where an assessee fails to deduct the whole or any part of the tax in accordance with the provisions of Chapter XVII-B on any such sum but is not deemed to be an assessee in default under the first proviso to sub-section (1) of Section 201 (of Income Tax Act, 1961), then, for the purpose of this sub-clause, it shall be deemed that the assessee has deducted and paid the tax on such sum on the date of furnishing of return of income by the resident payee referred to in the said proviso”

6.When it was pointed out to learned counsel for the Appellant that no question as such has been sought to be urged by the Revenue in the memorandum of appeal, learned counsel stated that an application has been filed to amend the memorandum of appeal to include such a question and that perhaps the said application is lying under objection.

7. Notwithstanding the above, the Court has heard learned counsel for the Revenue on the above issue as well.

8. It is seen that the issue in these AYs arises in the context of the disallowance by the Assessing Officer of the payment made by the Respondent Assessee to Ansal Properties and Infrastructure Ltd. („APIL‟) which payment, according to the Revenue, ought to have been made only after deducting tax at source under Section 194J (of Income Tax Act, 1961). Before the ITAT, it was urged by the Assessee that in view of the insertion of the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961), the payment made could not have been disallowed. Reliance was placed on the decision of the Agra Bench of ITAT in ITA No. 337/Agra/2013 (Rajiv Kumar Agarwal v. ACIT) in which it was held that the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) is declaratory and curative in nature and should be given retrospective effect from 1st April 2005.

9. It is seen that the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) was inserted by the Finance Act 2012 with effect from 1st April 2013. The effect of the said proviso is to introduce a legal fiction where an Assessee fails to deduct tax in accordance with the provisions of Chapter XVII B. Where such Assessee is deemed not to be an assessee in default in terms of the first proviso to sub-Section (1) of Section 201 (of Income Tax Act, 1961), then, in such event, “it shall be deemed that the assessee has deducted and paid the tax on such sum on the date of furnishing of return of income by the resident payee referred to in the said proviso”.

10. It is pointed out by learned counsel for the Revenue that the first proviso to Section 201(1) (of Income Tax Act, 1961) was inserted with effect from 1st July 2012. The said proviso reads as under:

“Provided that any person, including the principal officer of a company, who fails to deduct the whole or any part of the tax in accordance with the provisions of this Chapter on the sum paid to a resident or on the sum credited to the account of a resident shall not be deemed to be an assessee in default in respect of such tax if such resident-

(i) has furnished his return of income under section 139 (of Income Tax Act, 1961);

(ii) has taken into account such sum for computing income in such return of income; and

(iii) has paid the tax due on the income declared by him in such return of income;

And the person furnishes a certificate to this effect from an accountant in such form as may be prescribed.

11. The first proviso to Section 210(1) (of Income Tax Act, 1961) has been inserted to benefit the Assessee. It also states that where a person fails to deduct tax at source on the sum paid to a resident or on the sum credited to the account of a resident such person shall not be deemed to be an assessee in default in respect of such tax if such resident has furnished his return of income under Section 139 (of Income Tax Act, 1961). No doubt, there is a mandatory requirement under Section 201 (of Income Tax Act, 1961) to deduct tax at source under certain contingencies, but the intention of the legislature is not to treat the Assessee as a person in default subject to the fulfilment of the conditions as stipulated in the first proviso to Section 201(1) (of Income Tax Act, 1961). The insertion of the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) also requires to be viewed in the same manner. This again is a proviso intended to benefit the Assessee. The effect of the legal fiction created thereby is to treat the Assessee as a person not in default of deducting tax at source under certain contingencies.

12. Relevant to the case in hand, what is common to both the provisos to Section 40(a)(ia) (of Income Tax Act, 1961) and Section 210(1) (of Income Tax Act, 1961) is that the as long as the payee/resident (which in this case is ALIP) has filed its return of income disclosing the payment received by and in which the income earned by it is embedded and has also paid tax on such income, the Assessee would not be treated as a person in default. As far as the present case is concerned, it is not disputed by the Revenue that the payee has filed returns and offered the sum received to tax.

13. Turning to the decision of the Agra Bench of ITAT in Rajiv Kumar Agarwal v. ACIT (supra ) , the Court finds that it has undertaken a thorough analysis of the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) and also sought to explain the rationale behind its insertion. In particular, the Court would like to refer to para 9 of the said order which reads as under:

“On a conceptual note, primary justification for such a disallowance is that such a denial of deduction is to compensate for the loss of revenue by corresponding income not being taken into account in computation of taxable income in the hands of the recipients of the payments. Such a policy motivated deduction restrictions should, therefore, not come into play when an assessee is able to establish that there is no actual loss of revenue. This disallowance does deincentivize not deducting tax at source, when such tax deductions are due, but, so far as the legal framework is concerned, this provision is not for the purpose of penalizing for the tax deduction at source lapses. There are separate penal provisions to that effect. Deincentivizing a lapse and punishing a lapse are two different things and have distinctly different, and sometimes mutually exclusive, connotations.

When we appreciate the object of scheme of section 40(a)(ia) (of Income Tax Act, 1961), as on the statute, and to examine whether or not, on a "fair, just and equitable" interpretation of law- as is the guidance from Hon'ble Delhi High Court on interpretation of this legal provision, in our humble understanding, it could not be an "intended consequence" to disallow the expenditure, due to non deduction of tax at source, even in a situation in which corresponding income is brought to tax in the hands of the recipient. The scheme of Section 40(a)(ia) (of Income Tax Act, 1961), as we see it, is aimed at ensuring that an expenditure should not be allowed as deduction in the hands of an assessee in a situation in which income embedded in such expenditure has remained untaxed due to tax withholding lapses by the assessee. It is not, in our considered view, a penalty for tax withholding lapse but it is a sort of compensatory deduction restriction for an income going untaxed due to tax withholding lapse. The penalty for tax withholding lapse per se is separately provided for in Section 271 (of Income Tax Act, 1961) C, and, section 40(a)(ia) (of Income Tax Act, 1961) does not add to the same. The provisions of Section 40(a)(ia) (of Income Tax Act, 1961), as they existed prior to insertion of second proviso thereto, went much beyond the obvious intentions of the lawmakers and created undue hardships even in cases in which the assessee's tax withholding lapses did not result in any loss to the exchequer. Now that the legislature has been compassionate enough to cure these shortcomings of provision, and thus obviate the unintended hardships, such an amendment in law, in view of the well settled legal position to the effect that a curative amendment to avoid unintended consequences is to be treated as retrospective in nature even though it may not state so specifically, the insertion of second proviso must be given retrospective effect from the point of time when the related legal provision was introduced. In view of these discussions, as also for the detailed reasons set out earlier, we cannot subscribe to the view that it could have been an "intended consequence" to punish the assessees for non deduction of tax at source by declining the deduction in respect of related payments, even when the corresponding income is duly brought to tax. That will be going much beyond the obvious intention of the section. Accordingly, we hold that the insertion of second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) is declaratory and curative in nature and it has retrospective effect from 1st April, 2005, being the date from which sub clause (ia) of section 40(a) (of Income Tax Act, 1961) was inserted by the Finance (No. 2) Act, 2004.”

14. The Court is of the view that the above reasoning of the Agra Bench of ITAT as regards the rationale behind the insertion of the second proviso to Section 40(a)(ia) (of Income Tax Act, 1961) and its conclusion that the said proviso is declaratory and curative and has retrospective effect from 1st April 2005, merits acceptance.

15. In that view of the matter, the Court is unable to find any legal infirmity in the impugned order of the ITAT in adopting the ratio of the decision of the Agra Bench, ITAT in (Rajiv Kumar Agarwal v. ACIT).

16. No substantial question of law arises in the facts and circumstances of the present case. The appeal is dismissed.

S.MURALIDHAR, J

VIBHU BAKHRU, J

AUGUST 26, 2015