Law:

Section:

Section 37(1) of the Income-tax Act, 1961 - Business expenditure - Allowability of - Assessee-firm entered into certain export contracts but was unable to execute contracts due to high export duty levied by Government - Assessee paid compensation for breach of contract - Whether such amount was deductible under section 37(1) - Held, yes - Whether impugned amount paid, without undertaking any business activity could be treated as business expenditure - Held, yes FACTS The assessee-firm entered into certain export contracts. However, the assessee was unable to execute the contracts because the Government levied a high rate of export duty and the assessee would have suffered a substantial loss had it gone through with the contracts. The assessee, therefore, paid damages/compensation of Rs. 31,500 for breach of contract. Deduction under section 37(1) was claimed in respect of the said amount by the assessee on the ground that the payment was made in the interest of business. The claim was rejected by the ITO but the AAC allowed deduction treating the same as trading loss and in the interest of business. The Tribunal dismissed the appeal of the revenue and referred two questions to the High Court: (i) whether the amount paid by the assessee towards breach of contract was allowable as trading loss, (ii) whether the amount paid for breach of contract without undertaking any business activity could be a business loss. HELD In ITO v. Rajasthan Wool Agencies [D.B. IT Reference No. 16 of 1986, dated 2-1-1986] on similar facts the Court held that the payment of damages made by the assessee was an expenditure wholly or exclusively for the purpose of business and was an allowable deduction under section 37(1) and that too it was in the interest of business and commercial exigency. Further, the loss had arisen in the course of business and the claim for damages was allowable under section 37(1). The amount paid on non-fulfilment of contract was wholly and exclusively for the purpose of business and was in the interest of business and commercial exigency. Therefore, the compensation paid for breach of contract without undertaking any business activity was a business loss. CASE…

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