Loss On Confiscation Of Smuggled Items By DRI Officials Cannot Be Claimed As ‘Business Loss’ Under Income Tax Act: Supreme Court

Justice M. R. Shah reckoned that the assessee was carrying on a legitimate business of dealing in silver and in an attempt to make larger profits, he indulged into smuggling of silver. Since its business was not smuggling of silver bars, the said loss from confiscation of the smuggled items cannot be said to be a loss connected with or incidental to the assessee’s business for claiming deduction under Section 37, Justice Shah held.

Justice M.M. Sundresh, in a separate concurring judgment, held that the High Court’s order drawing a distinction between a claim for deduction of a loss incurred in an illegal business, as against a claim of a loss qua a legitimate business, to which an illegality is attached, cannot be upheld.

The bench was considering the provisions of Explanation 1 to Section 37(1), which expressly disallows any expenditure incurred by an assessee for any purpose which is an offence or is prohibited by law, while computing the income under the head “profits and gains of business or profession”.

Justice Sundresh remarked that the word ‘any expenditure’ mentioned in Explanation 1 to Section 37(1) takes in its sweep the loss occasioned in the course of business as well, being incidental to it. He further held that the decision of the Apex Court in CIT, Patiala vs Piara Singh, 124 ITR 41, and TA Quereshi (Dr.) vs CIT, (2007) 2 SCC 759, of drawing a distinction between an infraction of law committed in carrying out a lawful business, as against one committed in an inherently unlawful business, does not lay down the correct law in light of the three-Judge Bench decision in Haji Aziz & Abdul Shakoor Bros. vs CIT, AIR 1961 SC 663, and Explanation 1 to Section 37 (1).

The court in Haji Aziz (1960) had held that penalty incurred for an infraction of law can never be understood as a commercial expenditure/loss for the purpose of the business.

Justice Sundresh thus held that a penalty or a confiscation is a proceeding in rem, and therefore, a loss in pursuance to the same is not available for deduction regardless of the nature of business, since a penalty or confiscation cannot be said to be incidental to any business.

In a search conducted by the Directorate of Revenue Intelligence (DRI) officers, the DRI officers recovered slabs of silver and silver ingots at the premises of the assessee, Prakash Chand Lunia. The assessee was arrested under Section 104 of the Customs Act, 1962 for committing the offence punishable under Section 135 of the Customs Act for evasion of customs duty.

The Collector, Customs concluded that the assessee was the owner of the silver/bullion and the transaction was not recorded in his books of accounts. Accordingly, it passed a confiscation order and imposed penalty on the assessee under Section 112 of the Customs Act, holding that the silver was of a smuggled nature.

During the course of the assessment proceedings, the Assessing Officer (AO) opined that the assessee was not able to explain the nature and source of acquisition of silver. The AO thus passed an assessment order and made additions to assessee’s income under Section 69A of the Income Tax Act, on account of unexplained investment in the hands of the assessee. The AO also disallowed the loss claimed by the assessee on account of confiscation of silver bars by the Customs department.

The additions/ disallowance made by the AO were upheld by the Commissioner of Income Tax (Appeals) and the Income Tax Appellate Tribunal (ITAT) in appeal.

In the appeal filed by the assessee before the Rajasthan High Court, the High Court upheld the additions made under Section 69A, while allowing the loss on account of confiscation of silver bars to the assessee. Relying on the Supreme Court’s decision in Piara Singh (1980), the High Court held that loss from confiscation of items by the DRI officials of Customs department was business loss of the assessee.

Challenging the order of the High Court and relying on the decision of the Andhra Pradesh High Court in Soni Hinduji Kushalji & Co. vs CIT, (1973) 89 ITR 112(AP), the revenue department pleaded that confiscation of contraband item by the customs authorities cannot be said to be a trading or commercial loss connected with or incidental to the assessee's business.

It further relied upon the decision in Haji Aziz (1960), where the assessee’s claim for deduction of fine paid by him for release of his dates confiscated by customs authorities, was rejected on the ground that the amount paid by way of penalty for breach of law was not a normal course of business carried on by it.

The Apex Court observed that the assessee’s ownership of the confiscated silver bars cannot be disputed. Referring to the High Court’s order, Justice Shah remarked that the High Court had materially erred in relying upon the Apex Court’s decision in Piara Singh (1980) while allowing the deduction claimed by the assessee.

“In the case of Piara Singh (supra) the assessee was found to be in the business of smuggling of currency notes and to that it was found that confiscation of currency notes was a loss occasioned in pursuing his business i.e. a loss which sprung directly from carrying on of his business and was incidental to it. Due to this, the assessee in the said case held entitled to deduction under Section 10(1) of the Income Tax Act, 1922,” said the court.

Referring to the facts of the case, the court reckoned that the main business of the assessee was dealing in silver and its business cannot be said to be smuggling of the silver bars, as was the case in Piara Singh (1980).

“As observed hereinabove in the assessee’s case he was carrying on an otherwise legitimate silver business and in attempt to make larger profits, he indulged into smuggling of silver, which was an infraction of law. In that view of the matter the decision of this Court in the case of Piara Singh (supra) which has been relied upon by the High Court while passing the impugned judgment and order and it has been relied upon by the assessee shall not be applicable to the facts of the case. On hand or the other hand the decision of this Court in the case of Haji Aziz (1961) 41 ITR 350 (SC) and the decisions of the Andhra Pradesh High Court and the Bombay High Court which were pressed into service by the Revenue in Piara Singh (supra) would be applicable with full force,” Justice Shah said.

The bench thus set aside the order of the High Court, while restoring the orders passed by the AO, CIT(A) and ITAT.

Case Title: The Commissioner of Income Tax, Jaipur vs Prakash Chand Lunia (D) Thr. Lrs. & Anr.

Citation : 2023 LiveLaw (SC) 348

Counsel for the Appellant: Mr. Balbir Singh, ASG Mr. Samarvir Singh, Adv. Mr. Shyam Gopal, Adv. Mr. Naman Tandon, Adv. Mr. Rupesh Kumar, Adv. Mr. S. A. Haseeb, Adv. Mr. Divyansh H. Rathi, Adv. Mrs. Sunita Sharma, Adv. Mr. Raj Bahadur Yadav, AOR Mr. Prasenjeet Mohapatra, Adv.

Counsel for the Respondent: Ms. Supriya Juneja, AOR

Income Tax Act, 1961- Section 37(1), Explanation I: The Supreme Court has set aside the Rajasthan High Court’s order of allowing the loss claimed by the assessee on account of confiscation of silver bars by the Customs department, as ‘business loss’ under Section 37(1) of the Income Tax Act.

Justice Sundresh has held that the word ‘any expenditure’ mentioned in Explanation 1 to Section 37(1) takes in its sweep the loss occasioned in the course of business as well, being incidental to it. He further held that the decision of the Apex Court in CIT, Patiala vs Piara Singh, 124 ITR 41, and TA Quereshi (Dr.) vs CIT, (2007) 2 SCC 759, of drawing a distinction between an infraction of law committed in carrying out a lawful business, as against one committed in an inherently unlawful business, do not lay down the correct law in light of the three-Judge Bench decision in Haji Aziz & Abdul Shakoor Bros. vs CIT, AIR 1961 SC 663, and Explanation 1 to Section 37 (1), which was inserted by the Finance Act, 1998, with effect from 01.04.1962.

He further remarked that a penalty or a confiscation is a proceeding in rem, and therefore, a loss in pursuance to the same is not available for deduction regardless of the nature of business, since a penalty or confiscation cannot be said to be incidental to any business.

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