Disallowance of expenditure in the nature of gifts, travel facilities and other monetary incentives incurred by medical sector- Section 37 of Income Tax Act
Introduction:
The existing section 37 of the Income Tax Act, 1961 provides that any expenditure, which has been incurred wholly and exclusively for the purpose of business or profession shall be allowed. Explanation-1 of section 37 further clarifies that if any expenditure is incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure. The Government has proposed changes in the section by inserting a clarificatory explanation in the section to explain the scope of Explanation-1 to section 37. In this article, we will discuss in detail the purpose and the implication of the proposed amendment in section 37.
The proposed amendment makes an attempt to tackle the issue of allowability of expenditure incurred in providing gifts, travel facilities, hospitality, cash or other monetary incentives by the pharmaceutical and allied health sector industries in violation of the provision of the Indian Medical Council.
What present Section 37 state?
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“37(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 of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head “Profits and gains of business or profession.” Explanation-1- For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence of which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction or allowance shall be made in respect of such expenditure.” |
As read above, Explanation-1 to section 37(1) states that expenditure incurred by an assessee for any purpose which is prohibited by law shall not be allowed as business expenditure. But it has been seen over time that various taxpayers in the medical & health sector were claiming deductions in respect of expenditure incurred in offering certain benefits and perquisite to a person which are not intended to be allowed, like meeting his expenditure related to travel, hospitality, conference etc. or even allowing cash or other incentives. These expenditures were in violation of the guidelines of the Indian Medical Council.
Background of amendment in section 37(1)
The CBDT also issued a circular No. 05/2012 dated 01-08-2012 and stated that the Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 imposes a prohibition on the medical practitioner and their professional associations from taking any gift, travel facility, hospitality, cash or monetary grant from the pharmaceutical and allied health sector industries. Accordingly, the aforesaid circular clarified that no deduction shall be allowed in respect of these expenditures incurred by any assessee as these expenditures are in violation of the regulations of the Indian Medical Council. However, this circular was challenged in Himachal Pradesh High Court in the case of Confederation of Indian Pharmaceutical Industry vs. CBDT (2013) 335 ITR 388 (HP), in which the High Court rejected the petition and the validity of the CBDT circular was upheld. However, still, various tribunals have allowed the expenditure to assessee while other tribunals and courts have denied too. In this situation, there was a need for a clear position in the law on this issue. The proposed amendment through the Finance Bill, 2022 makes an attempt to make the position clear in respect of the above issue.
Proposed Amendment in Section 37(1)
To clarify the intent of the legislature, it is proposed to insert a new Explanation-3 to section 37(1) to clarify the expression “expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law”.
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The following Explanation shall be inserted namely: - ‘Explanation-3- For the removal of doubts, it is hereby clarified that the expression “expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law” under Explanation-1, shall include and shall be deemed to have always included the expenditure incurred by the assessee, -
(i) For any purpose which is an offence under, or which is prohibited by, any law for the time being in force, in India or outside India; or (ii) To provide any benefit or perquisite, in whatever form, to a person, whether or not carrying on a business or exercising a profession, and acceptance of such benefit or perquisite by such person is in violation of any law or rule or regulation or guideline, as the case may be, for the time being in force, governing the conduct of such person; or (iii) To compound an offence under any law for the time being in force, in India or outside India.’ |
Note: The above amendment will take effect from 1st April 2022 (AY 2022-23 and onwards)
Analysis of Explanation-3 to section 37(1)
- Clause (ii) of the Explanation-3 settles the issue of unlawful benefits or perquisites being offered by the medical & health sector industries and therefore, no deduction shall be available for any expenditure incurred in the forms of gifts, travel facilities, perquisites, cash or other monetary incentives offered to medical practitioners and their professional associations.
- It should also be noted that the above amendment is having a retrospective impact as the words “deemed to have always included” are used in the explanation.
- Explanation-3 also clarifies that no deduction shall be allowed for expenditure for any purpose which is an offence under foreign law or for compounding of an offence for violation of foreign law. Before this amendment, it was contended that the Explanation-1 to sub-section 37(1) applies only to offences that are prohibited by the domestic law of the country. This contention is now overruled by the Explanation-3 on a retrospective basis.
About Author: The author of this article is CA Naveen Goyal. He is having an experience of more than 15 years in the field of Direct Taxation as well as Indirect Taxation. You can post him for further queries: ca.naveen80@gmail.com
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