TMI Blog1981 (3) TMI 2X X X X Extracts X X X X X X X X Extracts X X X X ..... ween these two individuals, who immediately thereafter constituted themselves into the present partnership firm and continued the business. Amongst the assets of the business, as might be expected, were trade debts and other outstandings. A few of them, however, became bad and doubtful debts after the business became that of the partnership. With some of the debtors, the partnership firm entered into a settlement. Under this scheme, the firm was able to realise all but portion from the debtors. The balance of the book debts amounting to Rs. 5,276, however, was written off in the firm's books as bad and irrecoverable. The settlement between the debtors and the write-off in the accounts happened in the accounting year ended on April 12, 1973. In the relevant assessment of the firm for 1973-74, the question arose whether the sum of Rs. 5,276 written off in the accounts was allowable as bad debts in the computation of the firm's business income. The ITO held that as the debts in question were incurred when the joint family had been carrying on the business and as that business became partitioned and the business was subsequently continued by the assessee-firm, the loss in the hands of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s bad. The learned counsel submitted that s. 36(2)(i)(b) of the present I.T. Act does not prohibit such an allowance either expressly or by necessary implication. He cited, in support, the decisions of the Andhra Pradesh, Allahabad and Punjab and Haryana High Courts as well as a decision of this court all of which were rulings bearing on s. 36(2)(i)(b) of the I.T. Act, 1961. Mr. Jayaraman, learned counsel for the Department, however, maintained that what s. 36(2)(i)(b) of the present Act has laid down was a clear departure from the pre-existing position of the law relating to allowance of bad debts. He distinguished this court's decision in Addl. CIT v. S. RM.PL. Subramania Chettiar [1979] 119 ITR 925 as bearing on a different provision, namely, s. 36(2)(iii) of the Act. He relied, however, on a later Bench decision of this court in CIT v. P. K. Kaimal [1980] 123 ITR 755, although it only had a bearing on s. 41(4) of the I.T. Act. According to the learned counsel, this later decision enunciated a principle which was appropriate to the understanding of s. 36(2)(i)(b) as well. Before addressing ourselves to a consideration of the submissions on either side and the case law bearin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... genesis had swollen the assessee's profits in an earlier year and which had continued to remain in the books thereafter as an outstanding. The write-off of the debt is done by crediting the debtor's account in which the amount already stands as a debt and as an amount still owing by him. By this entry, the assessee washes of his hands, as it were, of this outstanding. Correspondingly, the profit and loss account is debited with the amount of the bad debt. This is because the amount already had been taken into account when it was good, that is to say, in the sales account and, necessarily, in the trading and profit and loss account. It is a fundamental principle of income-tax accounting that taxable profits in business will have to be ascertained on the basis of ordinary acceptable principles of commercial accounting. Where, therefore, the assessee makes up his accounts under the mercantile system, his business profits for income-tax purposes would have to be computed in accordance with those principles. There is a distinct provision in the Act to that effect . The only cautionary rider is that the following of the commercial method of accounting adopted by the assessee must truly ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the assessee. " (Proviso omitted) It might be noticed that the language of this clause specifically refers to bad and doubtful debts as being due to the assessee in respect of his business, profession or vocation where his accounts are not kept on the cash basis. Notwithstanding the reference to the assessee's accounts and the debt being due to the assessee in respect of his business, profession or vocation, the allowance claimed under this provision has been held by our courts to be available even in cases where a debt had been incurred in business carried on by some one and subsequently the business changes hands either by voluntary transfer or by the operation of law and subsequently the debt becomes bad and allowance is claimed by the transferee who subsequently happens to carry on the business. In a decision by Bench of this court in Mettur Sandalwood Oil Co. v. CIT [1963] 47 ITR 781, this point was discussed in some detail. In that case, the business was originally carried on by a HUF. There was a partition in the family. The family business was allotted to some of the members. They took the business as an integrated whole, and subsequently continued the business conjoi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ding which is carried on by the assessee, and (b) has been written off as irrecoverable in the accounts of the assessee for that previous year. " The submission of Mr. Janakiraman for the assessee before us was that the language of s. 36(2)(i)(a) does not import any restriction or condition such as might stand in the way of the assessee-firm in this case claiming the bad debt merely on the score that the debt had been kept intact in the submitted that while a stipulation of the kind mentioned in s. 36(2)(i)(a) was not expressly included in the provisions of s. 10(2)(xi) of the 1922 Act, the law even under that provision was much the same. Pausing here for a while, we must accept the submission of the learned counsel that even under s. 10(2)(xi) of the Act, there was an implied condition that a debt, in order to be allowed as a bad debt, must first have been a good debt and, as a good debt, it must have gone into swell the profits of the assessee in some earlier previous year. This was decided by the Supreme Court in a decision which arose under s. 10(2)(xi) of the Act in Thomas Co. Ltd. v. CIT [1963] 48 ITR 67 (SC). Hidayatullah J., as he then was, speaking for the Supreme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d to the business, and the business itself must be regarded, for this limited purpose, as a unit of assessment. In our opinion, the discussion along these lines is apt to render a simple theme, less simple than it deserves to be. We have earlier stated that it is one of the basic principles of commercial accounting which itself reflects the basis of commercial activity, that a trading debt as such must not only swell the profits at the time when it enters into reckoning, but must, by the same token, be regarded as an item of revenue loss or revenue outgoing at the time when the debt becomes bad and irrecoverable. This fundamental principle of commerce and of accountancy is the very basis of the allowance of bad debts. In this context, therefore, it is quite unnecessary to enter into a discussion as to whether a bad debt is to be considered in the context of business, as unit, or in the context of the assessment of a taxpayer, without regard to the change in identity. Nevertheless, we may observe that theoretical issues of the kind which arise in the present case would arise in the context of succession to business, whether the succession be the result of transfer between the owner ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t position of law laid down by the learned judges omitting one sentence as unnecessary.) There is a decision of this court which has taken the same view. It is reported as Addl. CIT v. S. RM. III. Subramania Chettiar [1979] 119 ITR 925. In this decision, a Bench of our court were concerned with the application of the provisions of s. 36(2)(iii) of the Act. However, in the course of the discussion of that point, the learned judges had had occasion to go into the construction of the entire provision. The learned judges, after referring to earlier decisions of courts bearing on s. 10(2)(xi) of the 1922 Act and also the subsequent decision of the Andhra Pradesh High Court in CIT v. Veerabhadra Rao and Koteswara Rao Co. [1976] 102 ITR 604 bearing on the provisions of s. 36(2)(i)(a) of the present Act, observed as follows (p. 930): " Though the decisions referred to above have been rendered with reference to the corresponding provisions in the 1922 Act, the well-established principle laid down therein applies in the interpretation of s. 36(2), as the position in the 1961 Act is the same as in the 1922 Act. We are, therefore, of the view that the successor can write off a bad debt r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a position to clearly make out the basic facts and circumstances. From this point of view, the learned judges applied a strict interpretation of the provisions of s. 41(4) of the Act. Those provisions are in the following terms : " Where a deduction has been allowed in respect of a bad debt or part of debt under the provisions of cl. (vii) of sub-section (1) of section 36, then, if the amount subsequently recovered on any such debt or part is greater than the difference between the debt or part of debt and the amount so allowed, the excess shall be deemed to be profits and gains of business or profession, and accordingly chargeable to income-tax as the income of the previous year in which it is recovered, whether the business or profession in respect of which the deduction has been allowed is in existence in that year or not." The decision of this court was that the charge under s. 41(4) can only be on the identical assessee in whose earlier assessment an allowance had before the court, on behalf of the Department, that s. 41(4) did not contain any reference to the expression " assessee ", and, hence, the charge can be laid on whomsoever was in a position to realise a bad debt ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... conditions are satisfied, then the charge would attach. In the manner in which we understand the provisions of ss. 36(1)(vii) and 36(2)(i)(a), the bad debt may have to be allowed in case irrespective of whether there has since been a change in the persons carrying on the business. It might be that this view of s. 36(1)(vii) might call for a reconsideration on the basis of the decision in CIT v. P. K. Kaimal [1980] 123 ITR 755. We hold, however, that the basic provision in s. 41(4) being what it is, and the decision of this court in CIT v. P. K. Kaimal [1980] 123 ITR 755 having nothing to do with that provision, nothing that has been decided in that case in any way derogates from the decision of this court in Addl. CIT v. S. RM. PL. Subramania Chettiar [1979] 119 ITR 925 and the line of other cases decided by other High Courts. For it is a well known principle that the provisions of the income-tax statute relating to grant of allowances and deductions tend to revolve round their own orbit, even though they may have some connection with corresponding sections in the same statute providing for counter-balancing provisions for assessment of categories of deemed income. We ought not ..... X X X X Extracts X X X X X X X X Extracts X X X X
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