Disallowance of PF Damages u/s 14B of the PF Act: ITAT allows 40% as Compensatory, Disallows 60% as Penal [Read Order]

The Ahmedabad Bench of Income Tax Appellate Tribunal (ITAT) allowed 40% of the damages under Section 14B of the Provident Fund Act as compensatory, while disallowing 60% as penal.

Ambalal Sarabhai Enterprises Ltd.,appellant-assessee,was involved in manufacturing drugs and pharmaceuticals. It also offered marketing and consultancy services in areas like fine chemicals, industrial glass containers, packing materials, and electronic instruments. The company had 15 divisions, including service units that supported other units within the corporation.

The assessee submitted a return of income for the respective assessment year 2002-03 to 2007-08, and the cases were chosen for scrutiny. The assessments were finalized under section 143(3) of the Act.

The assessee challenged the disallowance of damages paid under Section 14B of the PF Act, which were levied for delays in remitting PF contributions. These damages were treated as penalties by the Assessing Officer (AO) and the Commissioner of Income Tax (Appeals) [CIT(A)] and were disallowed under Section 37(1) of the Act.

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The assessee argued that the damages were compensatory in nature, arising from delays incidental to the business, and did not amount to a penalty or fine, making them allowable as business expenditure under Section 37(1) of the Act.

However, the AO rejected this argument, holding that damages under Section 14B were penal in nature, imposed for the violation of statutory obligations, and therefore not allowable. This issue was raised across multiple appeals spanning assessment years 2002-03 to 2007-08.

The CIT(A) agreed with the AO's decision, stating that damages under Section 14B of the PF Act were penalties, not compensatory. The CIT(A) rejected the claim that 40% of the damages were compensatory, as no evidence was provided. However, for A.Y. 2004-05 and 2005-06, the CIT(A) allowed 40% of the damages as expenses, based on a previous ruling in the assessee's case for A.Y. 1998-99.

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The two member bench comprising Suchitra Kamble(Judicial Member) and Makarand V.Mahadeokar(Accountant Member) reviewed the submissions and material on record, including the lower authorities' orders and the decisions relied upon by the assessee. It referred to the Supreme Court's decision in Swadeshi Cotton Mills Co. Ltd. vs. CIT, which stated that when a levy includes both compensatory and penal elements, the compensatory part can be deducted as business expenditure under Section 37(1) of the Act.

In the assessee’s case for A.Y. 2001-02, the Co-ordinate Bench had allowed 40% of the damages as compensatory and disallowed 60% as penal. Following this decision, the tribunal allowed 40% of the damages as compensatory, while disallowing the remaining 60% as penal. The AO was directed to verify the calculations, and the appeal was partly allowed.

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