Explanation 1 to 37(1)

Explanation 1 to 37(1) — the law in short

What the courts have decided on section Explanation 1 to 37(1), in one screen. Read this first; open an entry when you need the facts, the reasoning and the source.

• Millennia Developers (P) Ltd v DCIT High CourtHelps departmentValidity unconfirmed
  I paid a 'regularisation fee' to the municipal corporation for deviations from the sanctioned plan. The Assessing Officer says it is a penalty. Can I deduct it?
  Not if the payment is made under a power to COMPOUND an offence. The Karnataka High Court held that a fee paid under Bye-law 6.0 of the Bangalore Mahanagara Palike Building Bye-laws to regularise construction deviations is an amount paid to compound an offence under s.483(b) of the Karnataka Municipal Corporations Act 1976, is therefore a penalty whatever it is called, and can never qualify for deduction under s.37.
• Sun Pharmaceutical Industries Ltd v DCIT ITATHelps taxpayerValidity unconfirmed
  My company settled a US patent suit for a very large sum. Can the Assessing Officer disallow it under Explanation 1 to s.37(1) as a payment for something prohibited by law, when the law is a foreign law?
  For years before AY 2022-23, no. The Ahmedabad Tribunal held that Explanation 1 as it stood did not extend to alleged infractions of foreign law, and that Explanation 3, inserted by the Finance Act 2022, operates only prospectively and has no application to AY 2014-15. It also held the settlement payment to be compensatory and not penal, and that the disallowance deserved to be deleted.
• DCIT v IPCA Laboratories Ltd ITATCuts both waysValidity unconfirmed
  After Apex Laboratories, has the Assessing Officer to disallow my entire sales promotion budget as freebies to doctors, or only part of it?
  Only part of it, and only after a head-wise examination. The Mumbai Tribunal upheld a Commissioner (Appeals) order that confined the Explanation 1 disallowance to expenditure on travel facilities and hotel accommodation for medical practitioners, and allowed patient detection and education camps, symposiums and exhibition stalls, sponsorship of trade bodies, journals and periodicals, field printing, taxi hire for the company's own field staff and nominal brand recall items. Both the assessee's appeal and the Revenue's appeal on this issue were dismissed.
• DCIT v AIA Engineering Ltd ITATHelps taxpayerValidity unconfirmed
  I paid a sum to settle a patent infringement suit abroad. The Commissioner (Appeals) applied Explanation 3 to s.37(1) to disallow it for an earlier year. Can Explanation 3 be applied retrospectively?
  No. The Ahmedabad Tribunal held that Explanation 3 to s.37(1), inserted by the Finance Act 2022 with effect from 1 April 2022, widens the scope of the disallowance to the detriment of the assessee and cannot be applied to AY 2014-15. It also held on the merits that 'prohibited by law' in s.37(1) covers an act or omission which is an offence or is declared illegal as being against public policy, societal welfare, ethical standards or the common good, and does not extend to an out-of-court settlement of a private civil dispute.

Listed strongest first: Supreme Court, then High Court, then Tribunal, then CBDT. Nothing here has yet been read in full by a chartered accountant — open an entry to see where it came from.