What was not income in earlier years can not be written off as debt – Delhi High Court

What was not income in earlier years can not be written off as debt. The failure of share broker to return the money was at the highest a business loss and nothing more – Delhi High Court

bad debt

ABCAUS Case Law Citation:
ABCAUS 2004 (2017) (07) HC

The Grievance:
Present appeal was filed by the Revenue under Section 260A of the Income Tax Act, 1961 (‘Act’) against the order of the ITAT treating the bad debt claimed as speculative loss.

The Substantial Question of Law framed for determination:
Whether the order of ITAT is perverse, inasmuch as having rejected the assessee’s claim of debt, the ITAT ought to have dismissed the assessee’s appeal and not remanded the matter to the AO for re-computation of the same as a speculative loss?”

Assessment Year : 1993-94

Important Case Laws Cited/relied upon:
A.V. Thomas & Company Limited v. Commissioner of Income Tax (1963) 48 ITR 67 (SC)
Commissioner of Income Tax v. Abdullabhai Abdulkadar (1961) 41 ITR 545 (SC).

Brief Facts of the Case:
The Respondent assessee company was engaged in the business of finance and investment. The Assessee filed its return of income declaring an income of Rs. 93,38,110 after reducing its profits by writing off a sum of Rs. 71.82 lakh in the profit and loss account claiming it to be a bad debt.

During the course of the assessment proceedings, the Assessing Officer called upon the assessee to clarify the aforementioned claim for bad debt.

It was explained by the assessee that it along with another group company (co-investor) had advanced a sum of Rs. 3.01 crore to a broker for investment in badla transactions. Some portion of the money was utilised by the broker for investment in badla transactions and a part was returned. The outstanding amount owed by the broker was Rs. 2,86,99,698. It was stated that the income generated on account of badla transactions had been duly included in income in Profit and Loss account.

The assessee further explained that the cheques issued by the broker towards repayment of the aforementioned sum were dishonoured. It was noticed that the broker had applied to the Delhi Stock Exchange to resign from the membership and transfer the ticket to some other person. In view of this, the assessee along with co-investor company filed a petition before Delhi high Court seeking an injunction on the sale of the stock exchange ticket by the broker.  

During the pendency of the said petition, the broker approached the assessee for an out-of-court settlement and signed a MOA whereby it was agreed by the broker that the following sums would be paid to the Assessee:

Rs. 65,00,000 within 7 days of the signing of the agreement
Rs. 60,00,000 on or before 31.03.93
Rs. 20,00,000 in 4 equal instalments of Rs. 5,00,000 each payable on or before 30th June, 1993, 30th September, 1993, 31st December, 1993 and 31st March, 1994.
Rs. 55,62,589 Worth of shares broker agreed to transfer to the assessee
Rs. 2,00,62,589 Total

The balance sum of Rs. 86,37,109 was written off as bad debt in the books of the assessee as well as co-investor company. The assessee’s share of these bad debts worked out to Rs. 71,82,012 which was written off claimed as bad debt.

The above explanation was not accepted by the AO. According to the AO, the shortfall perceived by the assessee had not found any mention in the MOA entered, so it did not assume the colour of debt owed by the broker to the assessee. An amount which is not owed cannot crystallise in the shape of a debt, in the first place and therefore could not become a bad debt. The amount stated to be irrecoverable was not seen to be recoverable at all in the first place. What was not recoverable was therefore never a debt. It might be cost of shares purchased, speculation loss of the assessee or may assume any other form. Consequently the aforementioned sum was disallowed and added back to the income of the assessee.

CIT(A) confirmed the order of the AO and dismissed the assessee’s appeal.

The ITAT was of the view that the assessee was engaged in a speculative transaction. It held that the investment made with the broker was in speculative business and the loss suffered on account thereof was a speculative loss. Since in the AY in question the assessee had earned certain speculative , the ITAT restored the matter to the file of the AO to re-compute the speculative loss after allowing the set off of speculative income and to carry forward the loss, if any.

Contentions of the Petitioner Revenue:
It was submitted that once the AO found on facts that the case of the Assessee that the sum written off was a bad debt was unsustainable in law, the matter should have ended there. There was no question of treating the said amount as the Assessee’s speculative loss, particularly when that was not even the Assessee’s case.

Contention of the Respondent Assessee:
It was submitted that it was the AO’s own suggestion that if the amount was not a bad debt, it could be a speculative loss. While Mr. Though the assessee had initially taken the stand that the said amount could not be a speculative loss, since it was the Revenue’s suggestion that it could be, the assessee was prepared to accept it. Therefore, a submission to that effect was put forth before the ITAT.

Observations made by the High Court:
The Hon’ble High Court observed that the ITAT misconstrued the nature of the transaction involving the assessee and the broker. It also overlooked the basic fact that the assessee was a finance and investment company. Thus the finding of the ITAT was plainly contrary to the factual position.

It was also observed that it was not the assessee’s case that the amount written off by it was a speculative loss.

The Hon’ble High Court observed that The AO’s analysis of the transaction was based on the correct understanding of the legal position emanating from Section 36(1)(vii) of the Act which corresponds to Section 2(10)(xi) of the Income Tax Act, 1922, which was interpreted by the Supreme Court where it explained that “a debt means something more than a mere advance. It means something which is related to business or results from it. To be claimable as a bad or doubtful debt it must first be shown as a proper debt.”

The Hon’ble High Court opined that the Revenue was right in the contention that what was not shown to be part of the income of the assessee for an earlier previous year could not possibly be written off as a debt in the year in question. The failure by the broker to return the aforementioned sum was at the highest a business loss and nothing more. It was not even the assessee’s case that it was a speculative loss. The observations of the AO that “it may be …… speculation loss of the assessee or may assume any other form.” could not be construed as the AO holding it to be a speculative loss.

Held:
the question framed is answered in the affirmative, i.e., in favour of the Revenue and against the Assessee. The appeal of the Revenue was allowed.

bad debt

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