Friday, 14 August 2015

If tax is deducted under a wrong provision of the Income-tax Act, the payment is to be disallowed under Section 40(a)(ia) of the said Act

Recently, the Kerala High Court (High Court) in the case of P V S Memorial Hospital Ltd1 (the taxpayer) held that if the tax is deductible under Section 194J2 of the Income-tax Act, 1961 (the Act) but is deducted under Section 194C3 of the Act, the disallowance under Section 40(a)(ia) of the Act is still applicable. The High Court observed that the expression ‘tax deductible at source under Chapter XVII-B’ occurring in Section 40(a)(ia) of the Act has to be understood as tax deductible at source under the appropriate provision of Chapter XVII-B of the Act. Further, the latter part of this Section that such tax has not been deducted again refers to the tax deducted under the appropriate provision of Chapter XVII-B of the Act.

Facts of the case
  • The taxpayer, a hospital, had entered into an agreement with Lakeshore Hospital and Research Centre Limited (Lakeshore). In terms of the agreement, Lakeshore had undertaken to perform various professional services in the taxpayer’s hospital.
  • During Assessment Years (AYs) 2005-06 and 2006-07, the taxpayer made payment to Lakeshore. The taxpayer deducted tax at the rate of 2 per cent under Section 194C of the Act. However, assessment was completed on the basis that the tax is deductible at 5 per cent under Section 194J of the Act and therefore, the entire tax was disallowed under Section 40(a)(ia) of the Act.
  • The Commissioner of Income-tax (Appeals) confirmed the order of the Assessing Officer (AO). The Income-tax Appellate Tribunal (the Tribunal) has also confirmed the order of the lower authorities for AY 2005-06.
  • However, for AY 2006-07, the Tribunal followed the decision of the Calcutta High Court in the case of S. K. Tekriwal4 and held that the conditions laid down under Section 40(a)(ia) of the Act for making an addition is that tax is deductible at source and such tax has not been deducted. If both the conditions are satisfied, then such payment can be disallowed under Section 40(a)(ia) of the Act. It was also held that where tax is deducted by the taxpayer, even if it is under a wrong provision of the law, as in this case, the provisions of Section 40(a)(ia) of the Act cannot be invoked.
High Court’s ruling
  • As per the provisions of the agreement, Lakeshore had undertaken to render professional services to the taxpayer and it was not a case where they were undertaking contract work. If that be so, the tax was deductible under Section 194J of the Act and not under Section 194C as done by the taxpayer.
  • A disallowance under Section 40(a)(ia) of the Act is attracted in cases where fees for professional or technical services is ‘payable on which tax is deductible at source and such tax has not been deducted or after deduction has not been paid.
  • Provision of Section 40(a)(ia) of the Act is not a charging section but is a machinery section and such a provision should be understood in such a manner that the provision is workable. It has been so held by the Supreme Court in the case of Gurusahai Saigal5.
  • If Section 40(a)(ia) of the Act is understood in the manner as laid down by the Supreme Court, it can be observed that the expression ‘tax deductible at source under Chapter XVII-B’ occurring in the Section has to be understood as tax deductible at source under the appropriate provision of Chapter XVII-B of the Act.
  • Therefore, in the present case, if tax is deductible under Section 194J of the Act but is deducted under Section 194C of the Act, such a deduction would not satisfy the requirements of Section 40(a)(ia) of the Act. The latter part of this Section that such tax has not been deducted again refers to the tax deducted under the appropriate provision of Chapter XVII-B of the Act. Thus, a cumulative reading of Section 40(a)(ia) of the Act, indicates that deduction under a wrong provision of law will not save the taxpayer from Section 40(a)(ia) of the Act.
  • The decision of the Calcutta High Court in the case of S.K.Tekriwal relied on by the Tribunal is incorrect. A view cannot be accepted that if the tax is deducted even under a wrong provision of law, Section 40(a)(ia) cannot be invoked

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