The Legal Labyrinth of "Ordinary Course of Business" in Indian Law
Introduction
The expression "ordinary course of business" is a ubiquitous yet nuanced term within the Indian legal framework, appearing in diverse statutes ranging from the Insolvency and Bankruptcy Code, 2016, to the Income Tax Act, 1961, the Companies Act, and banking regulations. Its interpretation is pivotal in determining the validity of transactions, the nature of income, the applicability of tax exemptions or liabilities, and the scope of corporate activities. While seemingly straightforward, the determination of what constitutes an act "in the ordinary course of business" is predominantly a question of fact, contingent upon the specific circumstances of each case, the nature of the enterprise, and the established practices within a particular industry. This article seeks to provide a comprehensive analysis of the judicial interpretation and application of this critical legal phrase in India, drawing upon key statutory provisions and landmark case law.
Conceptual Moorings and General Principles
At its core, the phrase "ordinary course of business" refers to transactions or activities that are part of the normal, routine, and day-to-day operations of a business, undertaken to further its objectives. The Andhra Pradesh High Court in Peddi Virayya v. Doppalapudi Subba Rao And Another (Andhra Pradesh High Court, 1957) suggested that the expression "is susceptible of one meaning viz., that there should be a series of transactions as distinguished from one transaction. The course of business should consist in making some purchases as an agent. A stray transaction may not be said to constitute an ordinary course of business." This implies a degree of regularity or recurrence, though a single transaction is not invariably excluded if it aligns with the established nature of the business.
The term "course" itself, as interpreted by the Supreme Court in State of Travancore Cochin v. Shanmuga Vilas Cashew Nut Factory (cited in Coromandal Fertilisers Limited, Sec'Bad v. State Of A.P And Others, Andhra Pradesh High Court, 1998), "denoted movement from one point to another and the expression 'in the course of' implied not only a period of time during which movement was in progress but also postulated a connected relation." Thus, an act in the ordinary course of business must have an "integral connection or relation" with the carrying on of the business (Commissioner of Gift Tax, Kerala v. P. Gheevarghese, cited in Coromandal Fertilisers).
The "business" component necessitates an activity carried on systematically and continuously, often with an objective of earning profit or commission. In Western Union Financial Services Inc. v. Assistant Director of Income-tax (Income Tax Appellate Tribunal, 2006), the ITAT observed that an activity engaged in systematically and continuously with the objective of earning commission would amount to a business, even if it was an extension of existing activities into new areas (e.g., domestic money transfer expanding to international ramifications). The ITAT noted, "Engaging themselves in the same type of business with international ramifications is just an extension of their business. It cannot be said that it is not in the ordinary course of their business."
The "ordinary" aspect refers to what is common, established, or accepted within the context of the specific business or industry. However, as noted in the New Zealand Privy Council case of Countrywide Banking Corporation Limited v. Brian Norman Dean as Liquidator of C B Sizzlers Limited (Privy Council, 1997), "'ordinary' is not to be confined to what is in fact ordinarily done in the course of the particular business of the company. Transactions will be within this principle even though they be, in relation to the company, exceptional or unprecedented," provided they fall within the general scope and nature of the business. While this is a foreign precedent, it highlights that "ordinary" does not necessarily mean frequent, but rather consistent with the nature of the business operations. The test remains essentially one of fact.
"Ordinary Course of Business" under the Insolvency and Bankruptcy Code, 2016
The Insolvency and Bankruptcy Code, 2016 (IBC) employs the phrase "ordinary course of business" critically in Section 43, which deals with preferential transactions. Section 43(2) defines a preference given by a corporate debtor. However, Section 43(3)(a) provides a crucial exception, stating that a transfer made "in the ordinary course of the business or financial affairs of the corporate debtor or the transferee" shall not be considered a preferential transaction. This exception aims to protect legitimate transactions undertaken by a company even when it might be facing financial distress, ensuring that normal business operations are not unduly hampered by the threat of clawback.
The Supreme Court, in Anuj Jain, Interim Resolution Professional For Jaypee Infratech Limited v. Axis Bank Limited And Others (2020 SCC ONLINE SC 237), extensively analyzed this provision. The Court emphasized that the phrase "ordinary course of the business or financial affairs" must be understood in the context of the corporate debtor's operations. Transactions that are part of a design to defraud creditors or to provide an unfair advantage to certain parties, especially related parties, would not qualify for this exception. The Court held that the mortgaging of Jaypee Infratech Limited's (JIL) assets to secure loans for its holding company, Jaiprakash Associates Limited (JAL), was not in the ordinary course of JIL's business, as it did not benefit JIL and was detrimental to its own creditors. The Court observed that the "ordinary course of business" exception is intended for "normal and bona fide transactions" and that the intent and purpose of the transaction are relevant considerations. The burden to prove that a transaction falls within this exception lies on the party seeking its protection.
The National Company Law Appellate Tribunal (NCLAT) in cases like Tirumala Balaji Alloys Private Limited v. Sumit Binani (2019) and Excello Fin Lea Ltd. v. Sumit Binani & Anr. (2019) further clarified the application. The NCLAT considered whether repayments made only to certain (related) creditors shortly before the insolvency commencement date could be deemed to be in the "ordinary course of business." It suggested that if such payments were selective and not part of a general pattern of paying all creditors in the ordinary course, they would likely be considered preferential. The NCLAT noted, "It is not the case of the Appellants that apart from the Appellants, all other Creditors were paid their dues during the ordinary course of business." This implies that the "ordinary course" involves an element of normalcy and lack of arbitrariness or undue preference in dealings.
The underlying policy of Section 43(3)(a) of the IBC is to ensure that transactions essential for the continued operation of the corporate debtor, or those that are standard practice in the industry, are not clawed back, thereby balancing the objectives of maximizing asset value for all creditors with the need to allow businesses to function.
Interpretation under Taxation Laws
Deemed Dividends under Section 2(22)(e) of the Income Tax Act, 1961
Section 2(22)(e) of the Income Tax Act, 1961, treats certain loans or advances by a closely held company to its shareholder (holding not less than 10% voting power) or to a concern in which such shareholder has a substantial interest, as "deemed dividends" to the extent the company possesses accumulated profits. However, clause (ii) of the proviso to Section 2(22)(e) carves out an exception: "any advance or loan made to a shareholder [or the said concern] by a company in the ordinary course of its business, where the lending of money is a substantial part of the business of the company."
For this exception to apply, two conditions must be cumulatively satisfied:
- The lending of money must be a "substantial part" of the company's business.
- The specific advance or loan must have been made "in the ordinary course of" that money-lending business.
The determination of whether money-lending constitutes a "substantial part" of the business is a factual inquiry. In Mrs. Rekha Modi v. Income-tax Officer, Ward-24(2), New Delhi (ITAT, 2007), it was argued that facts and figures over a considerable period (e.g., ten years) should be considered, not just a few years, to ascertain this. The quantum of income from money-lending, assets deployed in this activity, and the regularity and scale of such operations are relevant factors. If a company primarily engages in other activities and money-lending is merely an ancillary or occasional activity, this condition may not be met.
Even if money-lending is a substantial part of the business, the specific loan must be made in the "ordinary course" of such business. This implies that the loan should adhere to the usual terms, practices, and norms of the company's money-lending operations, such as interest rates, security, repayment schedules, and documentation typically associated with its lending activities. As the Supreme Court noted in Shrimati Tarulata Shyam And Others v. Commissioner Of Income Tax, West Bengal (1977 SCC 3 305), while discussing the main provision of Section 2(6A)(e) of the 1922 Act (pari materia to Section 2(22)(e) of the 1961 Act), the fiction created by the section is paramount, and the exception needs to be strictly construed. The Delhi High Court in Commissioner Of Income Tax v. M/S Creative Dyeing & Printing Pvt. Ltd. (2009 SCC ONLINE DEL 3002) and the Calcutta High Court in Pradip Kumar Malhotra v. Commissioner Of Income-Tax (2011 SCC ONLINE CAL 5505) and Commissioner Of Income Tax, Kol-Iii v. Shree Balaji Glass Manufacturin Pvt. Ltd. (2016 SCC ONLINE CAL 12065) have also dealt with this exception, emphasizing that the transaction should genuinely be a part of the company's regular money-lending business rather than a disguised distribution of profits. The decision in Kumar Urban Development Private Ltd., Pune v. Deputy Commissioner of Income-tax (ITAT, 2019) also touches upon these aspects, particularly in relation to accumulated profits and share premium in the context of Section 2(22)(e).
Business Income v. Capital Gains
The characterization of profits from the sale of assets, particularly shares and securities, as either business income (taxable as profits and gains of business or profession) or capital gains often hinges on whether the assessee was dealing in those assets in the "ordinary course of its business." In CALCUTTA DISCOUNT COMPANY LIMITED v. INCOME-TAX OFFICER, COMPANIES DISTRICT, AND ANOTHER. (Supreme Court Of India, 1960), the Supreme Court observed that for an investment company whose object clause included acquiring, holding, exchanging, selling and dealing in shares, the shares acquired became trading assets. Profits on the sale of such shares, made when opportunities occurred, were held to arise out of its "regular course of business" and were taxable as business income. The Court distinguished this from an "ordinary trader investing its surplus funds in shares and securities quite unconnected with its regular course of business."
Similarly, in Commissioner Of Income Tax, Calcutta v. Gillanders Arbuthnot And Co. (Supreme Court Of India, 1972), the nature of a transaction involving the sale of investments was examined. While the primary issue was the computation of capital gains under Section 12-B of the 1922 Act, the underlying question of whether such sales form part of the ordinary business operations can influence the frequency and motive attributed to such transactions.
Business Deductions and Exemptions
The allowability of certain deductions or exemptions can also depend on whether the underlying transaction or activity occurred in the "ordinary course of business." For instance, in Blue Chip Business Centre (P.) Ltd. v. Income-tax Officer -1(1)-1, Mumbai (ITAT, 2013), the validity of a bad debt deduction under Section 36(1)(vii) was questioned on the grounds that the advance did not arise in the "ordinary course of its business" and was not incidental to its trading activity.
In YASH JEWELLERY P.LTD, MUMBAI v. ASST CIT 11(3)(2), MUMBAI (ITAT, 2020), the entitlement to deduction under Section 10A of the Income Tax Act for interest income was linked to whether such income was earned on deposits made "in the ordinary course of its business." The ITAT, referring to a Karnataka High Court Full Bench decision (CIT & ors. Hewlett Packard Global Soft Ltd. (2018) 403 ITR 453 (Karn) (FB)), indicated that interest earned on deposits made with banks in the ordinary course of business could qualify.
"Ordinary Course of Business" for Corporate Entities
For corporate entities, the memorandum of association, particularly the objects clause, historically played a significant role in defining the sphere of their business. In Commissioner Of Income-Tax, Punjab v. Prabhu Dayal. (Punjab & Haryana High Court, 1967), it was observed that for a limited company, "so long as this introduction of the party was not ultra vires the company, the contract must be taken to have been entered into in the ordinary course of business notwithstanding the fact that this was not the normal business that was being carried on by the company." The Court reasoned that anything done within its object clause must be treated as done in the ordinary course of its business. While modern company law offers greater flexibility and the doctrine of ultra vires has been substantially diluted, the stated objects can still offer an indication of what the company considers its business to be.
In the context of banking companies, the Banking Regulation Act, 1949, itself delineates the forms of business in which banking companies may engage. In Icici Bank Limited v. Official Liquidator Of Aps Star Industries Limited And Others (2010 SCC 10 1), the Supreme Court upheld the legality of inter se transfer of Non-Performing Assets (NPAs) among banks. The Court found such transfers to be within the ambit of permissible activities under Sections 6(1)(a) and 6(1)(n) of the BR Act, 1949, especially when supported by RBI guidelines. Activities that are statutorily permitted and regulated by the central banking authority (RBI) for banking companies are generally considered to be in the ordinary course of banking business. The Court noted that the BR Act is comprehensive, allowing banking companies to engage in activities beyond mere deposit acceptance and lending, provided they align with RBI’s policies.
The case of Official Liquidator, Supreme Bank Ltd. v. P.A Tendolkar (Dead) By Lrs And Others (1973 SCC 1 602), concerning director liability for misfeasance, implicitly touches upon actions that deviate from the ordinary, prudent course of business, leading to mismanagement and losses. While not directly defining "ordinary course," it underscores that actions falling outside diligent and bona fide business conduct can attract liability.
Broader Interpretations and Related Concepts
The phrase "carrying on business," often used to determine territorial jurisdiction of courts (e.g., under the Code of Civil Procedure, 1908), shares the "business" element with "ordinary course of business." As seen in Mess P&K Bore Wales v. Regional Manager State Bank Of India (District Consumer Disputes Redressal Commission, 2024), determining whether a company "carries on business" at a certain place involves looking at whether an essential part of the business takes place there, often through agents making sales or conducting core operations. While distinct from "ordinary course," the fundamental understanding of what constitutes "business" activity is relevant to both.
The concept of "normality" or "regularity" as highlighted in Peddi Virayya (requiring a series of transactions rather than a stray one, generally) remains a common thread. However, this must be balanced with the nature of the business; for some businesses, even infrequent but large transactions might be perfectly ordinary (e.g., sale of large machinery for a heavy engineering company).
The necessity of a "connected relation" or "integral connection" between the transaction and the carrying on of the business, as articulated in the context of Coromandal Fertilisers, is a vital test. It helps distinguish transactions that are truly part of the business from those that are extraneous or personal.
Transactions undertaken in the ordinary course of business are generally presumed to be bona fide and for legitimate business purposes. This presumption is rebuttable, especially when statutes like the IBC scrutinize transactions for potential preferential or fraudulent character (Anuj Jain). The commercial context, the established practices of the entity and the industry, and the underlying purpose of the transaction are all critical factors in this assessment.
Conclusion
The term "ordinary course of business" is a dynamic legal concept, the interpretation of which is heavily reliant on the factual matrix of each case and the specific statutory context in which it arises. Indian courts have consistently emphasized that no single, rigid definition can encapsulate all its connotations. Key principles that emerge from judicial pronouncements include the notions of regularity, normality, a demonstrable connection to the entity's usual business activities, consistency with its objects and established practices, and an absence of any intent to defraud or unfairly prefer. Whether it is to determine the nature of a financial transaction under the IBC, the taxability of income or the allowability of deductions under income tax law, or the scope of permissible corporate actions, the "ordinary course of business" standard serves as a crucial benchmark for assessing the legitimacy and character of commercial dealings. Its application requires a careful, objective evaluation of the transaction against the backdrop of the entity's overall business operations and the accepted norms of the relevant industry, thereby striving to uphold fairness and integrity in commercial and financial law.