For claiming deduction of Bad Debt written off conditions of section 36(1) & 36(2) needs to be satisfied – Supreme Court

Facts of the Case:

• Khyati Realtors Pvt. Ltd. (hereinafter referred as “Assessee”) was engaged in real estate development business, trading in transferable development rights (TDR) and finance.
• The Assessee had deposited ₹ 10 crores with one M/s C. Bhansali Developers Pvt. Ltd. as advance towards acquisition of commercial premises. However, the project didn’t appear to make any progress and consequently the Assessee resolved to write off the amount as bad debt u/s 36 of the Income Tax Act, 1961 (the Act). Further assessee also alternatively contented amount could also be treated as a loan, since the Assessee had ‘financing’ as one of its objects and can be allowed as deduction u/s 37 of the Act as loss incidental to business.
• The assessing officer disallowed the sum of ₹ 10 crores claimed as bad debt. Aggrieved, the Assessee filed an appeal before CIT(A), however CIT(A) confirmed the disallowance. Assessee further appealed before ITAT, which allowed the Assessee’s plea. Then Revenue appealed before the Bombay High Court which has not admitted revenue’s appeal since there was no question of law the order of the ITAT which had upheld a claim by assessee for writing off ₹ 10 crores as a bad debt.
• Hence this appeal before Hon’ble Supreme Court:
• Whether the advance given as booking amount can be written off as bad debt or loss incidental to business under the Income Tax Act?

Observation And Conclusion:

Hon’ble Supreme Court Held:

• If the assessee carries on a business and writes off a debt relating to the business as irrecoverable, it would be entitled to a deduction under Section 36(1)(vii) subject to the fulfilment of the conditions of Section 36(2) of the Act.
• In present case, Assessee contented that amount was given for the purpose of purchasing constructed premises however, there was no material to substantiate in respect of the payment of amount, the time by which the constructed unit was to be given to it, the area agreed to be purchased etc. Equally, in support of its other argument that amount was given as a loan, the assessee nowhere established the duration of the advance, the terms and conditions applicable to it, interest payable, etc.
• Further, there was nothing on record to suggest that the requirement of the law that the bad debt was writtenoff as irrecoverable in the Assessee’s accounts for the previous year had been satisfied.
• Furthermore, the Assessee’s claim was that the advance was given for acquiring immovable property, which therefore was in the nature of the capital expenditure and hence could not be treated as a business expenditure.

• Reliance was also placed on the decision of A.V. Thomas and Co. Ltd., Alleppey v. The Commissioner of Income Tax, (Bangalore) Kerala in which Hon’ble Supreme Court upheld that for becoming a bad debt, first it must be a trading debt. It should not be money handed over to someone for purchasing a thing which that person has failed to return even though no purchase was made.
• Alternatively, the Assessee’s claimed of it as a deduction u/s 37 of the Act, which was not in the capital nature but was incurred by the Assessee in the course/furtherance of business. As per the decision of “The Commissioner of Income Tax v. The Mysore Sugar Co., Ltd” the expenditure was for the purpose of business and didn’t fall in the capital stream.
• However, that in the facts of this case, the judgement of Southern Technologies (supra) on this issue (where the claim of bad and doubtful debt was disallowed) is appropriate, and applicable wherein it was held that if an item falls under Sections 30 to 36, but is excluded by an Explanation to Section 36 (1) (vii) then Section 37 cannot come in. Section 37 applies only to items which do not fall in Section 30 to 36. If a provision for doubtful debt is expressly excluded from Section 36 (1) (vii) then such a provision cannot claim deduction under Section 37 of the Act. Hence, even if the expense was incurred in course/furtherance of business or loss incurred was incidental to business it was still not allowable/deductible expense u/s 37 of the Act and therefore decision was held in the favour of Revenue.

SUPREME COURT OF INDIA
Principal Commissioner of Income-tax
v.
Khyati Realtors (P.) Ltd.

SW Point of View:

Bad debt written off can be claimed as a deduction only where such amount is otherwise allowable as a business expenditure. Amount which is in nature of capital expenditure can’t be claimed as deduction otherwise. Further, where an amount has been disallowed as deduction u/s 36. Then the provision of section 37 cannot cover such expenditure. Section 37 come into play where an amount is not covered u/s 30-36 of the Act. 

Lakshay Prakash Jonwal, Tax Associate, SW India