I borrowed rather than sell my shares, and used the money to pay my income-tax and wealth-tax and to make the compulsory annuity deposit. The interest on that borrowing has been disallowed under s.57(iii). Was that right?
Yes, it was right. Interest on money borrowed to discharge a personal liability such as income-tax and wealth-tax is not expenditure laid out wholly and exclusively for the purpose of making or earning the income, and even where the borrowing produced some interest — the annuity deposit did fetch interest — the deduction fails because the dominant purpose was to meet a statutory liability and not to earn income.
Decided by the Supreme Court (Ranganath Misra J, R.S. Pathak CJ and K.N. Singh J (judgment delivered by Ranganath Misra J)) on 1987-04-22, reported as (1987) 166 ITR 176 (SC); 1987 AIR 1723; 1987 SCR (2) 1167; 1987 (3) SCC 448; Civil Appeal No. 65 of 1975. It bears on section 57(iii), section 57, section 56, section 12(2) of the Indian Income-tax Act, 1922 of the Income Tax Act 1961, in Deductions & Disallowances, How Tax Law Is Read and Assessment & Scrutiny matters.
This is the Revenue-side counterweight to CIT v. Rajendra Prasad Moody. Moody establishes that expenditure need not actually have produced income; Padmavati Jaikrishna establishes that it must still have been laid out for the purpose of earning the income, and that an incidental yield does not supply that purpose. Commercial expediency is not by itself enough either: the argument that it was cheaper to borrow than to liquidate income-yielding investments was run and rejected. The Court also closed the door on the 'indirect link' argument from Eastern Investments where no facts have been placed on record to support it, and added a working rule that unless the loan is incurred for meeting a liability connected with the source itself, a deduction will ordinarily be difficult to entertain.
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The assessee was assessed as an individual and derived income from other sources in the shape of interest and dividends. For AY 1966-67 she claimed a deduction of Rs 26,986 as interest paid to Harivallabhdas Kalidas Estate on loans taken by her. The Income-tax Officer found that out of the loans the real investment was only Rs 1,250 and disallowed Rs 10,275 on a proportionate basis, holding that the claim was not admissible under s.57(iii). The Appellate Assistant Commissioner rejected her appeal, relying on the Bombay High Court in Bai Bhuriben Ballubhai v. CIT [1956] 29 ITR 543. Before the Tribunal she argued that the payments of income-tax, wealth-tax and annuity deposit were revenue expenditure, and that instead of liquidating return-oriented investments it was commercially expedient to raise a loan. The Tribunal held that the loans were taken to meet a personal obligation and had nothing to do with business. The Gujarat High Court, on a reference, decided against her, holding that the annuity deposit was obligatory at the relevant time and the interest it earned was merely incidental, and that the borrowing was not intended to meet expenditure wholly and exclusively for the purpose of earning the income. She appealed by certificate.
The appeal was dismissed and the High Court's order affirmed, with the parties left to bear their own costs. Interest on borrowings applied to pay income-tax and wealth-tax is a personal liability and cannot be said to be expenditure laid out or expended wholly and exclusively for the purpose of earning income. As to the annuity deposit, the dominant purpose was not to earn interest but to meet the statutory liability of making the deposit, so no part of the expenditure came within s.57(iii).
Counsel for the assessee accepted that unless the claim came within s.57(iii) it was not admissible. The Court set out clause (iii) and held that it was for the assessee to satisfy the Income-tax Officer that the loan was laid out or expended wholly and exclusively for earning the income from which the deduction was claimed. It noted that s.57 corresponds to s.12(2) of the 1922 Act and set out Eastern Investments Ltd. v. CIT [1951] ITR 201, where a transaction voluntarily entered into to facilitate the company's business on the ground of commercial expediency fell within s.12(2), and where an investment company that borrowed and used the money for its investments could deduct the interest. It then set out CIT v. Rajendra Prasad Moody for the propositions that expenditure to be deductible under s.57(iii) must be laid out wholly and exclusively for the purpose of making or earning such income, and that it is the purpose of the expenditure that is relevant and that purpose must be the making or earning of income. Against that background the concurrent factual findings of the taxing authorities and the High Court — that the expenditure met the personal liability of income-tax and wealth-tax and the annuity deposit — governed. On the annuity deposit specifically, the finding that the dominant purpose was to meet the statutory liability was upheld. The 'indirect link' plea based on Bose J's observations in Eastern Investments was rejected because no attempt had been made to place the necessary facts before the taxing authorities or the High Court, and the point could not be raised on assumptions in the Supreme Court.
The test to apply is that the expenditure should be wholly and exclusively for the purpose of earning the income.
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Handle my notice → Ask a CA on WhatsAppYes, it was right. Interest on money borrowed to discharge a personal liability such as income-tax and wealth-tax is not expenditure laid out wholly and exclusively for the purpose of making or earning the income, and even where the borrowing produced some interest — the annuity deposit did fetch interest — the deduction fails because the dominant purpose was to meet a statutory liability and not to earn income. This was decided by the Supreme Court (Ranganath Misra J, R.S. Pathak CJ and K.N. Singh J (judgment delivered by Ranganath Misra J)) and bears on section 57(iii), section 57, section 56, section 12(2) of the Indian Income-tax Act, 1922 of the Income Tax Act 1961. It is reported as (1987) 166 ITR 176 (SC); 1987 AIR 1723; 1987 SCR (2) 1167; 1987 (3) SCC 448; Civil Appeal No. 65 of 1975. This is the Revenue-side counterweight to CIT v. Rajendra Prasad Moody. Moody establishes that expenditure need not actually have produced income; Padmavati Jaikrishna establishes that it must still have been laid out for the purpose of earning the income, and that an incidental yield does not supply that purpose. Commercial expediency is not by itself enough either: the argument that it was cheaper to borrow than to liquidate income-yielding investments was run and rejected. The Court also closed the door on the 'indirect link' argument from Eastern Investments where no facts have been placed on record to support it, and added a working rule that unless the loan is incurred for meeting a liability connected with the source itself, a deduction will ordinarily be difficult to entertain. If it applies to you, the first step is this: Trace the borrowing to the source of income, not to the assessee. The question is what the money was laid out for, and a personal or statutory liability of the taxpayer is not the source.
The assessee was assessed as an individual and derived income from other sources in the shape of interest and dividends. For AY 1966-67 she claimed a deduction of Rs 26,986 as interest paid to Harivallabhdas Kalidas Estate on loans taken by her. The Income-tax Officer found that out of the loans the real investment was only Rs 1,250 and disallowed Rs 10,275 on a proportionate basis, holding that the claim was not admissible under s.57(iii). The Appellate Assistant Commissioner rejected her appeal, relying on the Bombay High Court in Bai Bhuriben Ballubhai v. CIT [1956] 29 ITR 543. Before the Tribunal she argued that the payments of income-tax, wealth-tax and annuity deposit were revenue expenditure, and that instead of liquidating return-oriented investments it was commercially expedient to raise a loan. The Tribunal held that the loans were taken to meet a personal obligation and had nothing to do with business. The Gujarat High Court, on a reference, decided against her, holding that the annuity deposit was obligatory at the relevant time and the interest it earned was merely incidental, and that the borrowing was not intended to meet expenditure wholly and exclusively for the purpose of earning the income. She appealed by certificate. The matter was decided on 1987-04-22 by the Supreme Court (Ranganath Misra J, R.S. Pathak CJ and K.N. Singh J (judgment delivered by Ranganath Misra J)). On those facts the Supreme Court held as follows. The appeal was dismissed and the High Court's order affirmed, with the parties left to bear their own costs. Interest on borrowings applied to pay income-tax and wealth-tax is a personal liability and cannot be said to be expenditure laid out or expended wholly and exclusively for the purpose of earning income. As to the annuity deposit, the dominant purpose was not to earn interest but to meet the statutory liability of making the deposit, so no part of the expenditure came within s.57(iii).
Counsel for the assessee accepted that unless the claim came within s.57(iii) it was not admissible. The Court set out clause (iii) and held that it was for the assessee to satisfy the Income-tax Officer that the loan was laid out or expended wholly and exclusively for earning the income from which the deduction was claimed. It noted that s.57 corresponds to s.12(2) of the 1922 Act and set out Eastern Investments Ltd. v. CIT [1951] ITR 201, where a transaction voluntarily entered into to facilitate the company's business on the ground of commercial expediency fell within s.12(2), and where an investment company that borrowed and used the money for its investments could deduct the interest. It then set out CIT v. Rajendra Prasad Moody for the propositions that expenditure to be deductible under s.57(iii) must be laid out wholly and exclusively for the purpose of making or earning such income, and that it is the purpose of the expenditure that is relevant and that purpose must be the making or earning of income. Against that background the concurrent factual findings of the taxing authorities and the High Court — that the expenditure met the personal liability of income-tax and wealth-tax and the annuity deposit — governed. On the annuity deposit specifically, the finding that the dominant purpose was to meet the statutory liability was upheld. The 'indirect link' plea based on Bose J's observations in Eastern Investments was rejected because no attempt had been made to place the necessary facts before the taxing authorities or the High Court, and the point could not be raised on assumptions in the Supreme Court. In the words reproduced by the source cited on this page: "The test to apply is that the expenditure should be wholly and exclusively for the purpose of earning the income." The decision followed or applied CIT v. Rajendra Prasad Moody [1978] 115 ITR 519 (SC) — applied; Eastern Investments Ltd. v. CIT, West Bengal [1951] 20 ITR 1 (SC) — considered and distinguished on the facts; Bai Bhuriben Ballubhai v. CIT [1956] 29 ITR 543 (Bom.) — relied on by the authorities below.
It was decided by the Supreme Court on 1987-04-22 and is reported as (1987) 166 ITR 176 (SC); 1987 AIR 1723; 1987 SCR (2) 1167; 1987 (3) SCC 448; Civil Appeal No. 65 of 1975. Binding on every court and authority in India. A Supreme Court decision binds every assessing officer, every Commissioner (Appeals), every bench of the Income Tax Appellate Tribunal and every High Court in India. An officer who declines to follow it is acting contrary to law, and that refusal is itself a ground of appeal. On section 57(iii), section 57, section 56, section 12(2) of the Indian Income-tax Act, 1922, the practical question is whether the facts of your own notice match the facts of this case closely enough for the same rule to apply.
It helps the department, and it appears in this library for that reason — you need to know what the Assessing Officer will cite against you. The appeal was dismissed and the High Court's order affirmed, with the parties left to bear their own costs. Interest on borrowings applied to pay income-tax and wealth-tax is a personal liability and cannot be said to be expenditure laid out or expended wholly and exclusively for the purpose of earning income. As to the annuity deposit, the dominant purpose was not to earn interest but to meet the statutory liability of making the deposit, so no part of the expenditure came within s.57(iii). It arises in Deductions & Disallowances, How Tax Law Is Read and Assessment & Scrutiny matters, on section 57(iii), section 57, section 56, section 12(2) of the Indian Income-tax Act, 1922 of the Income Tax Act 1961, and was decided by Ranganath Misra J, R.S. Pathak CJ and K.N. Singh J (judgment delivered by Ranganath Misra J). Before relying on it, read the source linked on this page and check whether it has since been distinguished, overruled or overtaken by an amendment to the Income Tax Act. In practice the steps that follow from it are these. Do not rely on commercial expediency alone under s.57(iii); the plea that liquidating investments would have cost more income was expressly rejected here. If you intend to argue that the expenditure has an indirect link with the income, place the facts on the record before the Assessing Officer and the first appellate authority — the Court refused to entertain the plea on assumptions raised for the first time in the Supreme Court. Where the borrowing is mixed, be ready with a proportionate allocation; the Assessing Officer here disallowed on a proportionate basis and only Rs 1,250 of actual investment was found out of the loans. Distinguish s.57(iii) from s.36(1)(iii): the business provision has a wider 'for the purposes of the business' test, and authorities under it do not transfer automatically.
Validity check could not be completed. Validity check could not be completed. No search for later treatment of this decision was run in this pass, so nothing is certified about whether it has been distinguished or explained since 1987. It sits alongside, and does not disturb, CIT v. Rajendra Prasad Moody, which the Court itself applied. No source could be cited for that finding. Checking whether an authority still stands matters as much as knowing what it held: a decision may be overruled on one point and survive on another, or the provision it interprets may have been amended since. Read the source and the editor's note on this page before relying on it in a reply to an Assessing Officer or in an appeal.
The judgment as served carries no paragraph numbers, so the quote is located by reference to the passage rather than a paragraph. The report contains obvious transcription defects — 'excluSively', 'a factual finding facts', 'section 57(iii,)', a garbled citation '[1978] ITR 115.5 19' for Rajendra Prasad Moody, and a defective citation '[1951] ITR 201' for Eastern Investments Ltd. — which are reproduced as printed in the reasoning above and not corrected there; the entry in 'followed' gives the correct citation [1951] 20 ITR 1 (SC). Note that the ?type=print channel silently normalises the Moody citation to '[1978] 115 ITR 519'; only the /docfragment/ return, asked for character-by-character reproduction, shows what the page actually prints, so no statement about a report defect should be made on the print channel alone. The figures in the report are also inconsistent: the referred question asks about 'payment of interest to the extent of Rs. 10.27' while the narrative gives the disallowance as Rs 10,275; the total interest claimed was Rs 26,986. The bench line as served by indiankanoon reads 'Misra Rangnath, R.S. Pathak (CJ), K.N. Singh (J)'. This library shows the verification state of every entry openly. This entry has not yet been read in full by a chartered accountant. The summary reflects the sources listed on this page. Read the source before you rely on it in a reply to an Assessing Officer or in an appeal before the Commissioner (Appeals) or the Income Tax Appellate Tribunal.
The appeal was dismissed and the High Court's order affirmed, with the parties left to bear their own costs. Interest on borrowings applied to pay income-tax and wealth-tax is a personal liability and cannot be said to be expenditure laid out or expended wholly and exclusively for the purpose of earning income. As to the annuity deposit, the dominant purpose was not to earn interest but to meet the statutory liability of making the deposit, so no part of the expenditure came within s.57(iii).
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