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TMI Blog2022 (2) TMI 1114X X X X Extracts X X X X X X X X Extracts X X X X ..... d 29.01.2014 (hereinafter, "CIT(A)"). The CIT(A) had partly allowed an appeal from an order of the respondent Deputy Commissioner of Income Tax G.I. No./PAN AAACA5174G, dated 21.03.2013, which partially allowed amounts claimed by Apex as 'business expenditure' under Section 37(1) of the Income Tax Act, 1961 (hereinafter, "IT Act"). 2. The facts in brief are as follows: On 01.08.2012, the Central Board of Direct Taxes (hereinafter, "CBDT") issued a circular Circular No. 5/2012 [F. No. 225/142/2012-ITA.II], which clarified that expenses incurred by pharmaceutical and allied health sector industries for distribution of incentives (i.e., "freebies") to medical practitioners are ineligible for the benefit of Explanation 1 to Section 37(1), which denies the application of the benefit for any purpose which is an 'offence' or 'prohibited by law'. 3. After the circular was issued, on 22.11.2012, Apex was issued a notice under Section 142(1) of the IT Act, to explain why the expenditure of Rs. 4,72,91,159/- incurred towards gifting freebies such as hospitality, conference fees, gold coins, LCD TVs, fridges, laptops, etc. to medical practitioners for creating awareness about the health supp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... st the hospital by MCI were quashed. Equally, in Dr. Anil Gupta v. Addl. Commissioner of Income Tax Income Tax Appeal No. 485/2008, decided on 18.07.2017, a Division Bench of the Rajasthan High Court gave benefit of Section 37(1) to the appellant as Explanation 1 could not be raised by the respondent for the first time at an appellate stage, observing: "Even otherwise in income tax proceedings the medical ethics will not be taken into consideration. At the most even if it is a professional misconduct, it is to be dealt with by Medical Council of India. The income tax authority cannot decide the medical ethics when the original authority has partly allowed the expenses." The Counsel urged that as these decisions were not challenged by the revenue authorities, and thereby accepted by them, the present matter was not open for reconsideration. See Berger Paints Ltd. v Commissioner of Income Tax, (2004) 12 SCC 42 and South India Bank Ltd. v Commissioner of Income Tax, Civil Appeal No. 9606 of 2011 / 2021 SCCOnline SC 692, dated 09.09.2021 7. The Counsel further submitted that it was not open to the revenue to deny a tax benefit on the 'nature' of expenses incurred. This Court, in T. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Explanation 1 to Section 37(1) would disallow tax payers from claiming "protection money, extortion, hafta, bribes, etc." as business expenditures, Memorandum Explaining the Provisions of the Finance (No. 2) Bill, 1998, Section 15. Later adopted by CBDT Circular No. 772 ([1999] 235 ITR (St.) 35, 53), dated 23.12.1998 from which it could be inferred that the intention of the Parliament was to only bring into the ambit of Explanation 1 'illegal' activities which were deigned as 'offences' under relevant statutes. The IT Act not being a social reform statute, needed to be interpreted strictly, and not in a wide manner so as to include in its scope an act by a pharmaceutical company not recognized as 'illegal' by any statute - doing so would be against the canons of public law. 10. Finally, Counsel submitted that the CBDT circular dated 01.08.2012 enlarged the scope of the 2002 Regulations, and made it operable beyond medical practitioners, i.e., to pharmaceutical companies and allied health sector industries, which, in the absence of any enabling provision, was outside its dominion. Arguendo, if the CBDT circular had to be brought into effect, it could be done so only 'prospectively' ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... medication as a quid pro quo arrangement had a direct bearing on public policy, which was implicit in the 2002 Regulations itself. 14. To elucidate the same, reliance was placed on two High Court decisions. In Commissioner of Income-Tax v. Kap Scan and Diagnostic Centre P. Ltd., (2012) 344 ITR 476 (P&H HC) a Division Bench of the Punjab and Haryana High Court disallowed the benefit of the exemption for commission provided to doctors engaged in private practice for referring their patients to the assessee's diagnostic centre, holding that: "It, thus, emerges that an assessee would not be entitled to deduction of payments made in contravention of law. Similarly, payments which are opposed to public policy being in the nature of unlawful consideration cannot equally be recognized. It cannot be held that businessmen are entitled to conduct their business even contrary to law and claim deductions of payments as business expenditure, notwithstanding that such payments are illegal or opposed to public policy or have pernicious consequences to the society as a whole." *** "If demanding of such commission was bad, paying it was equally bad. Both were privies to a wrong. Therefore, s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he freebies enjoyed by the medical practitioner is also taxable as business income or income from other sources depending on the facts of each case. Therefore, if the assessee satisfies the assessing authority that the expenditure is not in violation of the regulations framed by the Medical Council then it may legitimately claim a deduction, but it is for the assessee to satisfy the Assessing Officer that the expense is not in violation of the Medical Council Regulations referred to above". (emphasis supplied) 16. Lastly, the ASG submitted that had the Assessing Officer allowed Apex to claim tax benefit, the authorities would have been deprived of revenue in the form of tax amount leviable on Rs. 4,72,91,159/-, which was a crucial omission. Thus, on a holistic reading of the statutes and regulations, Apex could not be allowed to claim deduction under Section 37(1). Analysis and Conclusions 17. An examination of the relevant provisions is first necessary. Section 37 of the IT Act states as follows: Section 37. General.-(1) Any expenditure (not being expenditure of the nature described in Sections 30 to 36 and not being in the nature of capital expenditure or personal expenses ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... representatives for self and family members for vacation or for attending conferences, seminars, workshops, CME Programme, etc. as a delegate.] (c) Hospitality: A medical practitioner shall not accept individually any hospitality like hotel accommodation for self and family members under any pretext. (d) Cash or monetary grants: A medical practitioner shall not receive any cash or monetary grants from any pharmaceutical and allied healthcare industry for individual purpose in individual capacity under any pretext. Funding for medical research, study etc. can only be received through approved institutions by modalities laid down by law / rules / guidelines adopted by such approved institutions, in a transparent manner. It shall always be fully disclosed." The regulation further lays down corresponding action or sanction which can be taken against, or imposed upon, the medical practitioner for violation of each stipulation, based on the monetary value of the same. Thus, acceptance of freebies given by pharmaceutical companies is clearly an offence on part of the medical practitioner, punishable with varying consequences. 19. The CBDT circular dated 01.08.2012 is set out below: 1. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the 2002 Regulations, i.e., from 14.12.2009. 20. In Dy. CIT 8(2) Mumbai v PHL Pharma P. Ltd. ITA No. 4605/Mum/2014, dated 12.01.2017 the ITAT reiterated Max Hospital's (supra) decision to conclude that the 2002 Regulations were inapplicable to pharmaceutical companies, and that in absence of requisite jurisdiction, it could not be said that the pharmaceutical companies had violated any law or regulation. Further, it held that there was no enabling provision to allow the CBDT to bring pharmaceutical companies within the fold of the 2002 Regulations, and even if such an act were to be permitted, it could be only be done so prospectively: "Adverting to the contention of the Ld. CIT DR that CBDT is well empowered to issue such clarification, it is seen that the CBDT Circular dated 01.08.2012 (supra) in its clarification has enlarged the scope and applicability of 'Indian Medical Council Regulation 2002' by making it applicable to the pharmaceutical companies or allied health care sector industries. Such an enlargement of scope of MCI regulation to the pharmaceutical companies by the CBDT is without any enabling provisions either under the provisions of Income Tax Law or by ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eavy reliance on PHL Pharma to grant relief to the assessee pharmaceutical companies. 22. This Court is of the opinion that such a narrow interpretation of Explanation 1 to Section 37(1) defeats the purpose for which it was inserted, i.e., to disallow an assessee from claiming a tax benefit for its participation in an illegal activity. Though the memorandum to the Finance Bill, 1998 elucidated the ambit of Explanation 1 to include "protection money, extortion, hafta, bribes, etc.", yet, ipso facto, by no means is the embargo envisaged restricted to those examples. It is but logical that when acceptance of freebies is punishable by the MCI (the range of penalties and sanction extending to ban imposed on the medical practitioner), pharmaceutical companies cannot be granted the tax benefit for providing such freebies, and thereby (actively and with full knowledge) enabling the commission of the act which attracts such opprobrium. 23. The illogicality and completely misconceived nature of such an interpretation was dealt with in a similar interpretation of the provisions of PC Act, by a Constitution Bench of this Court in P.V. Narasimha Rao v. State (CBI/SPE) (1998) 4 SCC 626. Prior ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mpt. There is no reason to doubt that the Lok Sabha can take action for breach of privilege or contempt against the alleged bribe-givers and against the alleged bribe-takers, whether or not they were Members of Parliament, but that is not to say that the courts cannot take cognizance of the offence of the alleged bribe-givers under the criminal law. (emphasis supplied) 24. Even if Apex's contention were to be accepted - that it did not indulge in any illegal activity by committing an offence, as there was no corresponding penal provision in the 2002 Regulations applicable to it - there is no doubt that its actions fell within the purview of "prohibited by law" in Explanation 1 to Section 37(1). 25. Furthermore, if the statutory limitations imposed by the 2002 Regulations are kept in mind, Explanation (1) to Section 37(1) of the IT Act and the insertion of Section 20A of the Medical Council Act, 1956 Inserted vide Medical Council (Amendment) Act, 1964 (which serves as parent provision for the regulations), what is discernible is that the statutory regime requiring that a thing be done in a certain manner, also implies (even in the absence of any express terms), that the other fo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... st principles." The fundamentals or the first principles of law often articulated as the maxims are manifestly founded in reason, public convenience and necessity. Modern trend of introducing subtleties and distinctions, both in legal reasoning and in the application of legal principles, formerly unknown, have rendered an accurate acquaintance with the first principles more necessary rather than diminishing the values of simple fundamental rules. The fundamental rules are the basis of the law; may be either directly applied, or qualified or limited, according to the exigencies of the particular case and the novelty of the circumstances which present themselves. In Dhannalal vs. Kalawatibai and Ors. (2002) 6 SCC 16 this court has held that: "When the statute does not provide the path and the precedents abstain to lead, then sound logic, rational reasoning, common sense and urge for public good play as guides of those who decide"." 27. It is also a settled principle of law that no court will lend its aid to a party that roots its cause of action in an immoral or illegal act (ex dolo malo non oritur action) meaning that none should be allowed to profit from any wrongdoing coupled w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s etc. to obliging prescribers who then prescribe costlier drugs as quid pro quo. Ultimately all these expenses get added up to the cost of drugs. The Committee's attention was drawn to a news item in Times of India dated July 1, 2010 by Reema Nagarajan giving specific instances of violations of MCI code. The Committee calls upon the Government to take strict and speedy action on such violations. Since MCI has no jurisdiction over drug companies, the Government should take parallel action through DCGI and the Income Tax Department to penalize those companies that violate MCI rules by cancelling drug manufacturing licences and/or disallowing expenses on unethical activities." (emphasis supplied) Interestingly, a similar conclusion was arrived at by the US Department of Health and Human Services Office of the Assistant Secretary for Planning and Evaluation, in a report called Savings Available Under Full Generic Substitution of Multiple Source Brand Drugs in Medicare Part D (dated 23.07.2018). Extracted from https://aspe.hhs.gov/reports/data-point-savings-available-under-full-generic-substitution-multiple-source-brand-drugs-medicare accessed at 16:37 on 13.02.2022. The report states ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the top 20 drugs, the ratio of brand to comparable generic out-of-pocket spending ranges from 117% (Namenda) to 1,476% (Lamictal) indicating significant per-drug savings are available for beneficiaries. In three cases (Abilify, Lovenox, and Tricor), beneficiary out-of-pocket costs are marginally higher for the generic than the brand drug. We believe this is due to the interaction of total drug costs and plan coverage in the coverage gap for generics (42% in 2016), meaning patients paid 58% coinsurance for generics that year. This compares to 25% plan coverage and a 50% statutory manufacturer discount for brand drugs in 2016." The report noticed inter alia, that an empirical study conducted in respect of 20 odd (out of the 600 drugs which were the subject matter of the research paper) brand medications dispensed for a particular period, were capable of generic substitution and would have resulted in substantial benefit to the patients: "Beneficiaries could have saved over $600 million in out of pocket payments had they been dispensed generic equivalent drugs. A significant amount of this spending occurred among the top 20 multiple source brands. Substituting these drugs for gen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e unethical, being giving of such gifts or doing such acts to induce such Doctors and Medical Professionals to violate the Medical Council Act, 1956." (emphasis supplied) 30. Thus, one arm of the law cannot be utilised to defeat the other arm of law - doing so would be opposed to public policy and bring the law into ridicule. Biharilal Jaiswal v. CIT, (1996) 1 SCC 443 In Maddi Venkataraman & Co. (P) Ltd. v. CIT (1998) 2 SCC 95, a fine imposed on the assessee under the Foreign Exchange Regulation Act, 1947 was sought to be deducted as a business expenditure. This Court held: "Moreover, it will be against public policy to allow the benefit of deduction under one statute, of any expenditure incurred in violation of the provisions of another statute or any penalty imposed under another statute. In the instant case, if the deductions claimed are allowed, the penal provisions of FERA will become meaningless". (emphasis supplied) 31. It is crucial to note that the agreement between the pharmaceutical companies and the medical practitioners in gifting freebies for boosting sales of prescription drugs is also violative of Section 23 of the Contract Act, 1872 (as also noted by the Pu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssion which the assessee has paid to private doctors since in their case, payment of commission cannot be said to be an offence under any statute but in respect to Government doctors such payment could not have been allowed as it is an offence under the Statutes as stated above." *** "We are, therefore, clearly of the opinion that payment as commission to Government doctors for obtaining a favour therefrom by prescribing medicines in which the assessee was dealing cannot be said to be a "business expenditure" and no deduction can be allowed thereof under the Act." (emphasis supplied) The 2002 Regulations, applicable to all medical practitioners (including doctors in private practice), was introduced w.e.f. 14.12.2009. 33. Thus, pharmaceutical companies' gifting freebies to doctors, etc. is clearly "prohibited by law", and not allowed to be claimed as a deduction under Section 37(1). Doing so would wholly undermine public policy. The well-established principle of interpretation of taxing statutes - that they need to be interpreted strictly - cannot sustain when it results in an absurdity contrary to the intentions of the Parliament. A Bench of this Court in C.W.S. (India) Lt ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mean that instead of the licencee carrying on the business, it would be carried on by others - a situation not conducive to effective implementation of the excise law and consequently deleterious to public interest. It is for this very reason that transfer or sub-letting of licence is uniformly prohibited by several State Excise enactments. It, therefore, follows that any agreement whereunder the licence is transferred, sub-let or a partnership is entered into with respect to the privilege/business under the said licence, contrary to the prohibition contained in the relevant excise enactment, is an agreement prohibited by law. The object of such an agreement must be held to be of such a nature that if permitted it would defeat the provisions of the excise law within the meaning of Section 23 of the Contract Act. Such an agreement is declared by Section 23 to be unlawful and void. The question is whether such an unlawful or void partnership can be treated as a genuine partnership within the meaning of Section 185(1) and whether registration can be granted to such a partnership under the provisions of the Income Tax Act and the Rules made thereunder. We think not. When the law prohib ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to convey her rights in the site to the Plaintiff. It is quite clear that the parties contemplated a state of affairs which is completely inconsistent with and in clear collision with the mandate of the law. On its term, it stands out as an affront to the mandate of the law. 79. The illegality goes to the root of the matter. It is quite clear that the Plaintiff must rely upon the illegal transaction and indeed relied upon the same in filing the suit for specific performance. The illegality is not trivial or venial. The illegality cannot be skirted nor got around. The Plaintiff is confronted with it and he must face its consequences. The matter is clear. We do not require to rely upon any parliamentary debate or search for the purpose beyond the plain meaning of the law. The object of the law is set out in unambiguous term. If every allottee chosen after a process of selection under the Rules with reference to certain objective criteria were to enter into bargains of this nature, it will undoubtedly make the law a hanging (sic laughing) stock." 36. In the present case too, the incentives (or "freebies") given by Apex, to the doctors, had a direct result of exposing the recipient ..... X X X X Extracts X X X X X X X X Extracts X X X X
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