Law:

Section:

Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Under a contract assessee was to supply goods to G and in case of default in supply of goods according to stipulation, G could arrange for supply from alternative sources and recover expenditure so incurred by it from assessee - G rejected certain goods supplied by assessee to it as they were not in accordance with specifications and obtained same from alternative sources - Whether amount paid under that contract by assessee to G was allowable as a business expenditure - Held, yes Facts The assessee-company entered into a contract with G for supply of goods to the latter and the relevant contract deed provided, inter alia,that in case of default in supply of goods according to the stipulation, the buyer could arrange for supply from alternative sources and recover the expenditure so incurred by it from the assessee. Some of the goods supplied by the assessee to G were rejected as not found in accordance with the specifications and G obtained the same from alternative sources and also recovered certain amount from the assessee under the terms of the contract. The assessee claimed deduction of the amount paid to G as a business loss. The ITO disallowed the assessee's claim holding that the said amount represented penalty imposed on the assessee for default in supply of goods according to the contract and, therefore, it was not an expenditure incidental to the carrying on of the business. The Tribunal upheld the order of the ITO on the ground that supply of the sub-standard goods giving rise to recovery of the amount from the assessee could not be said to be in the ordinary course of the assessee's business. On reference : Held In Haji Aziz & Abdul Shakoor Bros. v. CIT [1961] 41 ITR 350 , the Supreme Court held that the expenditure in order to be allowed as a deduction must not only be made in the course of or arise out of or be concerned with or made out of the profits of the business, but it must also be for the purpose of earning the profits of the business. In the present case, admittedly the amount was not paid by the assessee as penalty for infraction of any law, but was…

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