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Judgment
V. Balasubrahmanyan, J.—This is a reference under the income tax Act, 1961 (''the Act''). The questions of law were propounded by the
department for reference by the Tribunal. The Tribunal, however, rejected their reference application in the first instance. The department then
came to this Court and obtained an order directing the Tribunal to state a case on both the questions. The stated case has now been argued at
length before us. At the end of the day, however, we realize that only one of the two questions requires serious consideration. The answer to the
question is far too self-evident to merit discussion. We reproduce the question below:
Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that section 40A(3) would apply only if each
item of the expenditure involved in a single bill for ''several items exceeds Rs. 2,500?
The enquiry prompted by the question is about the disallowance made by the ITO of two payments made by the assessee under two bills for
purchase of commodities effected by the assessee in the course of its business. The abstract of the two bills, which are found in the statement of the
case, are reproduced below:
Purchase Bill No. 1814 Dated: 21-11-1970
Quantity Particulars Rates Amounts
Rs. Rs.
1000 Resins 200 2,000
400 Old Gunnies 70 280
300 -do- 60 180
100 -do- 80 80
150 -do- 50 75
2,615
Commission 28
Transportation charges 25
Total 2,668
Purchase Bill No. 1815 Dated: 21-1-1970
Quantity Particulars Rates Amounts
Rs. Rs.
1000 Resins 200 2,000
100 Old Gunnies 70 70
200 -do- 60 120
400 -do- 75 300
2,490
Commission 21
Transportation charges 7
Total 2,518
It will be seen that the payment made for expenditure by way of purchase of the commodities under the first bill was Rs. 2,668. The payment
under the other bill was for Rs. 2,518. Both these payments were, admittedly, made by the assessee in cash. The ITO, while computing the taxable
income of the assessee under the head ''Profits and gains of business or profession'', disallowed these two items of payment made by the assessee
towards expenditure incurred for purchase of materials.
Section 40A(3) of the Act enacts that where an assessee makes a payment in a sum exceeding Rs. 2,500, otherwise than by a crossed cheque
or by a crossed bank draft towards any expenditure, then the ITO is at liberty to disallow that item of expenditure in the computation of the
assessee''s business income. There are certain exceptions to this rule. It is, however, unnecessary to go into those exceptions, having regard to the
scope of the contention put forward by the assessee before the Tribunal and having regard to the way in which it was considered by the Tribunal.
The argument of the assessee before the Tribunal was that section 40A(3) takes note of each and every one of the individual items of
expenditure separately, and if a single item of expenditure is less than Rs. 2,500, then, although a combined payment may have been made for
several items of expenditure, still the payment must be regarded as severable and referable to each and every one of the separate '''' items of
expenditure. This contention was accepted by the Tribunal. The Tribunal''s reasoning is to be found in the following portion of their order:
The question of expenditure assumes first an importance rather than the payment, and relevant consideration should, therefore, be given to the
expression ''any expenditure'' contained in the provision and then only the payment in relation to the same has to be looked into, whether it
exceeded Rs. 2,500 or not.
The Tribunal considered the several items figuring in the assessee''s purchase bills as each constituting a separate item of expenditure, involving a
separate outlay and entailing a payment of less than Rs. 2,500 each.
We do not think that this is a proper way of understanding and applying the provisions of section 40A(3). The text of the section is as - under:
Where the assessee incurs any expenditure in respect of which payment is made, after such date (not being later than the 31st day of March,
1969) as may be specified in this behalf by the Central Government by notification in the Official Gazette, in a sum exceeding two thousand five
hundred rupees otherwise than by a crossed cheque drawn on a bank or by a crossed bank draft, such expenditure shall not be allowed as a
deduction.
As we read the provision, attention must be directed first to the payment made by the assessee, in order to see if the payment is in a sum
exceeding Rs. 2,500. If it does exceed that limit, the further enquiry is whether such payment is made as and towards business expenditure. If it is
made in respect of any such expenditure, then the further question is whether the payment is made by cash or by crossed cheque or bank draft. If it
is by cash, then, unless special circumstances are pleaded and established by the assessee in terms of the appropriate saving provisions of the
statutory rules, the expenditure will be disallowed on the ground that the payment has not been made by crossed bank draft or crossed cheque.
Even if the payment is made by crossed cheque or bank draft, the expenditure may run the risk of being disallowed for various other reasons that
may be germane for purposes of the statutory computation of business income.
The assessee''s argument, which found favour with the Tribunal, was that while considering the applicability of section 40A(3), the aspect of
payment should not be considered to be of importance, but the focus of attention must be the size of the expenditure. According to this line of
reasoning, if any expenditure depending on the particular focus of attention is found to be of a quantum less than Rs. 2,500, then the expenditure
can never be disallowed in limine under this provision on the ground that it was made in cash, since given the size of the expenditure, the related
payment to cover that payment will be neither more nor less, but will only be equal to the size of the expenditure. In the assessee''s purchase bills,
the price of the resins is shown as Rs. 2,000. The Tribunal apparently treated this as a separate out going or expenditure and, having isolated the
expenditure from their focus of attention, the Tribunal proceeded to relate the corresponding payment in cash. This method of concentrating on the
expenditure first and then relating the payment to that expenditure, would always yield the position that expenditure always equals payment in the
same sense as world exports always equal world imports. If the expenditure is less than Rs. 2,500, the payment will also be less than Rs. 2,500, in
a sum equal to the expenditure.
We do not think this is the proper approach to section 40A(3). We are satisfied that the section concentrates on the size of the payment and the
manner of the payment. We must no doubt see if the payment is made in relation to an item of business expenditure. But, what is pertinent to the
inquiry is whether the payment for the expenditure is in a sum exceeding Rs. 2,500. If it does, unless the further condition of the payment having
been made by crossed cheque or bank draft is fulfilled, the expenditure will be disallowed for no other reason than that the payment is made in
cash. The Tribunal''s approach to section 40A(3) tends to render the inquiry into the payment purposeless, for, according to the Tribunal''s
method, the size of each item of expenditure under a purchase invoice must be the determinant, whereas the statutory inquiry is about the manner
of payment as related to the size of the payment. We disapprove of the Tribunal''s reading of the purchase invoices in this case in a selective
fashion. Such a reading distorts the invoice. The proper way is to read the entries in a wholesome fashion. For all these reasons, the Tribunal''s
determination is erroneous in point of law. Our answer to the question is, therefore, in the negative and against the assessee. The department will
have its costs. Counsel''s fee Rs. 500.