The Hyderabad Bench of the Income Tax Appellate Tribunal (ITAT) in the case of Dy. Commissioner of Income Tax vs M/s. Nipro Medical India Private Limited reported in 2023 TAXSCAN (ITAT) 226 has now decided an issue whether a obligation for payment pursuant to an arbitration award is a deductible business expense.
In the instant case the parties Viz the assessee M/s. Nipro Medical India Private Limited & M/s Atlantic Pharmaceuticals both put in their best effort to settle the matter in dispute in a prompt and amicable manner as per the agreement and an arbitration Award was passed based on consent signed by the parties submitted before the Arbitrator for payment of settled compensation to save future litigation costs and to save brand image. The issue before the tribunal was “Whether Payment of Rs.3 Crores made by an assessee M/s. Nipro Medical India Private Limited to M/s Atlantic Pharmaceuticals, pursuant to the mutual agreement of the parties to terminate the civil suit and in accordance with the order of the Arbitrator is an allowable business expense under section 37(1) of the Act “
The plea of the assessee that such an expense was deductible was turned down by the assessing officer observing the same as breach of contract and penal in nature.
The said finding of the assessing officer was reversed by the first appellate authority who referred to the terms of the consent signed by the parties submitted before the Arbitrator and found that it was for payment of settled compensation by the assessee to save future litigation costs and to save brand image in the market and concluded that the payment was towards discharge of the liability as contractual obligation and the transaction does not constitute any offence, nor is it prohibited by law.
The first appellate authority relying on the decision of Birla Cotton Spinning and Weaving Mills Ltd vs. CIT (1967) 64 ITR 568 (Cal) and CIT vs. Navsari Cotton and Silk Mills Ltd (1982) 135 ITR 546 (Guj) was of the opinion that the payment of Rs. 3 crores by assessee to M/s Atlantic Pharmaceuticals were allowable as business expenditure, inasmuch as it was paid to make the contractual obligation and that too through proper arbitration.
Aggrieved by the orders of the first appellate authority the revenue preferred second appeal before the Income Tax Appellate Tribunal, Hyderabad Bench. On hearing the submission of the revenue and the assessee the tribunal affirmed the orders of the 1st appellate authority by concurring with its findings and upheld the plea of the assessee by holding that the payments made by the assessee to M/s. Atlantic Pharmaceuticals, pursuant to an arbitration award is to be allowed as business expense under section 37(1) of the Income Tax Act and by no stretch of imagination such payments made for breach of contractual obligation pursuant to an arbitration award in the pending litigation, be said to have been incurred for any purpose which is an offence or which is prohibited by law.