Sabyasachi Mukharji, J. - (1.) In this reference under Section 256(1) of the I.T. Act, 1961, the question referred to this court is as follows: "Whether, on the facts and in the circumstances of the case, liquidated damages of Rs. 1 lakh and interest payment of Rs. 1,85,123 are allowable deductions under the Income-tax Act, 1961 ?"
(2.) The assessee is a company. The assessment year is 1968-69 and the relevant accounting year is the financial year which ended on 31st March, 1968. On the 2nd of June, 1967, the assessee entered into an agreement with M/s. Ashoka Marketing Ltd. for the sale of about 29 acres of lands at Ghusury for a consideration of Rs. 45 lakhs. M/s. Ashoka Marketing Ltd. paid Rs. 40 lakhs to the assessee for the purchase of the aforesaid land by way of part payment. The aforesaid land had been pledged with the Govt. of Uttar Pradesh against a loan granted by the Uttar Pradesh Govt. for the Soda Ash-cum-Ammonium Chloride factory of the assessee at Varanasi. In the aforesaid agreement, the assessee had undertaken to get the release of the land from the Govt. of Uttar Pradesh by the 15th of August, 1967. Further, it was agreed between the parties that the assessee would be liable to pay by way of liquidated damages Rs. 1 lakh in addition to the refund of Rs. 40 lakhs paid by M/s. Ashoka Marketing Ltd. by way of part payment to the assessee, in the event the assessee failed to get the release of the aforesaid land from the Govt. of Uttar Pradesh. The assessee was required to pay interest @ 12% per annum on Rs. 40 lakhs until the same was refunded to M/s. Ashoka Marketing Ltd.
(3.) The assessee failed to get the release of the aforesaid land from the Govt. of Uttar Pradesh by 15th August, 1967, as agreed between the parties. M/s. Ashoka Marketing Ltd. by the letter, 31st May (sic), 1967, asked the assessee to refund Rs. 40 lakhs which was paid by it, along with Rs. 1 lakh by way of liquidated damages as per the terms of the aforesaid agreement. The assessee in its letter dated 1st August, 1967, requested M/s. Ashoka Marketing Ltd. to grant it time up to 30th November, 1967, as negotiation was still going on with the Govt. of Uttar Pradesh about the release of the aforesaid land. M/s. Ashoka Marketing Ltd. in its letter dated 29th September, 1967, informed the assessee that it would grant the assessee time up to 30th November, 1967, provided the assessee agreed to pay interest at the rate of 12% per "annum for the period 15th August, 1967, to 30th November, 1967, in addition to the payment of liquidated damages of Rs. 1 lakh as provided in Clause 5 of the aforesaid agreement. The assessee along with its letter dated 28th November, 1967, sent cheques for Rs. 10,00,000 and Rs. 1,00,000 representing part payment of Rs. 40 lakhs and liquidated damages as per Clause 5 of the aforesaid agreement respectively. As regards the balance of Rs. 30 lakhs the assessee requested M/s. Ashoka Marketing Ltd. that it should be allowed to pay the same on instalment basis, viz., Rs. 3 lakhs by 10th December, 1967, Rs. 12 lakhs by 15th December, 1967, and Rs. 15 lakhs by 31st January, 1968. The assessee further agreed in the said letter to pay interest on the aforesaid loan. Under these circumstances, the assessee paid Rs, 2,93,125, Rs. 1 lakh by way of liquidated damages and Rs. 1,85,125 by way of interest, to M/s. Ashoka Marketing Ltd. and claimed the same as deductible items. The ITO disallowed the claim holding that the transaction was clearly in the nature of a capital transaction and was not in the normal course of the assessee's business. Consequently, he held that the claim on account of liquidated damages and interest following the non-fulfilment of the agreement could not be considered as admissible revenue expenditure. There was an appeal from the said decision to the AAC. The AAC disallowed the claim so far as liquidated damages were concerned because he held that it was not business expenditure and any claim of deduction was rightly rejected. So far as the claim for deduction of interest on the loan was concerned under Section 36(1)(iii), the AAC held that the payment of interest was not in respect of moneys borrowed for the purpose of business, nor was the payment in question an expenditure incurred for the purpose of carrying on the business. It was only compensation for the delay according to the AAC under Section 36(i) or(iii).;