1. The assessee registered partnership firm manufactures cloth mainly from man-=made fibers. It purchase year from the local cloth market and also imports is it from foreign countries. The assessee exports goods manufactured by it to foreign countries and one of the benefits it acquires as a result of exports is licence to import goods or yarns from foreign countries. It exported goods in the calendar year 1966 and, on account of such exports, it wa granted two import licenses valued at Rs. 12,708 and Rs. 8,402 respectively on February 25, 1967. The first licence which entitled the assessee to import goods worth Rs. 12,708 was tampered with and altered so as to make it appear that it was for the import of goods worth Rs. 1,12,708. The assessee imported goods or year worth Rs. 1,11,844 on this licence. When this alteration made in the licence came to light, proceedings were initiated against the assessee under s. 111(d) of the Customs ACt, 1962, for confiscation of the improperly imported goods levy of penalty under s. 112 of the said ACt. It, however, appears that the goods imported on the forged licence were already utilised by the available for confiscation, though they were liable to be confiscated under s. 111(d) of he Customs ACt read with s. 3(2) of the Imports and Exports (Control) ACt, 1947. The Collector of Customs, Bombay, on appreciation of evidence and material on record, held that the licence entitling the assessee to import goods worth Rs. 12,708 was unauthorisedly altered or forged to make it appear that is was for goods worth Rs. 1,12,708. the assessee nd one of its partners, Suresh A. Shah, were held guilty of forging licence and importing goods worth Rs. 1,11,844 on such forged licence. The Collector of Customs, however, did not pass order confiscating the improperly imported goods because, however, did not pass order consisting the improperly imported goods because, as stated above, they were not available. he however, levied penalty of Rs. 3,43,000 and Rs. 75,000 on the assessee and Suresh A. Shah, respectively under s. 112 of the Custom ACt. One of the question which arises for our consideration in this reference his whether the assessee is entitled to claim deduction of Rs. 4,18,000 (Rs. 3,43,000 plus Rs. 75,000) paid by way of penalty in the compassion of its total income from the assessment year 1968-69. SEcond question which is referred to us for our opinion is whether the assessee is entitled to set off of, (a) unabsorbed depreciation, and (b) business loss of earlier years, against he income of the assessment year 1968-69.
2. The ITO rejected both the claims made by the assessee. In other words, he held that the assessee was not entitled to a deduction of Rs. 4,18,000 paid by it way of penalty and a set-off of unabsorbed description and business loss earlier years as claimed by it,. We are not concerned with the other points dealt with by the ITO in his assessment order.
3. Being aggrieved by the assessment framed by the ITO, the assessed carried the matter in appeal before the AAC. The AAC, however agreed with the view taken by the ITO that the assessee was not entitled to deduction of the amount of penalty paid by it to the customs authorities. S9 far as the assessees claim for a set off the unabsorbed depreciation and the business loss carried forwards from earlier years was concerned, the AAC held that though the assessee was not entitled top carry forward business less which was distributed amongst its partners, it was entitled to a set-off of the unabsorbed depreciation of the proceeding years against the income of the year under reference. In the result, he directed the ITO to set off of the unabsorbed depreciation of the preceding years against the assessees' income of the year under reference. The assessee carried the matter in further appeal to the income-tax Appellate Tribunal (hereinafter referred to as
"the TRibunal"
).
4. REvenue filed cross objection challenging the view taken by the AAC on the points decided against. The Tribunal held that the assessee, who has imported the goods after tampering with the licence wa not entitled to a deduction of the penalty of RS. 4,18,000 inasmuch as the penalty was paid for a contravention of the provisions of the ? Custom ACt. So far as the assessee's claim for a set off of the unabsorbed depreciation and the business loss of earlier years was concerned, the Tribunal following the decision in the assessee's own case for an earlier year, held that the assessee was not entitled to a set off of the business loss and unabsorbed depreciation of the earlier years. The assessee has challenged the view taken by the Tribunal rejecting both the above claims made by it and it is at its instance the following questions are referred to us for our opinion under s. 256(1) of the I. T. ACt, 1961 *hereinafter referred to as : the ACt") :
" (1) Whether, on the facts and in the circumstance of the case, the Tribunal was justified in holding that the claim of custom penalty of Rs. 4,18,000 was not allowable?
(2) Whether, the Tribunal was justified in law in h9lying that the assessee-firm wa not entitled to set off of, (a) unabsorbed depreciation, and (b) business loss of earlier years against the income of the year under consideration?"
5. The first question which we are called upon to consider is whether the assessee is entitled to a deduction of RS. 4,18,000 paid by way of penalty to the customs authorities for contravention of the provisions of the Customs ACT in the computation of his total income of the year under reference. This question is covered by a decision if the Supreme Court of India in Haju Aziz and Abdul Shakoor Bros. v. CIt [1961] 41 ITR 350. That was a case in which the assessee which carried on the business of importing dates from abroad and selling them in Indian, imported dates from Iraq partly by steamer and partly by country craft, at a time when imported were confiscated buy the customs authorities under s. 167 of the Sea Customs ACt (item 8(, and the assessee being given an option under s. 183 of that ACt to pay a fine, paid the fine and had the dates released. In computing its profits the assays sought to deduct the amount paid as fine as an allowable expenditure under s. 10(2) (xv) of there Indian I. T. ACt, 1922. The Supreme Courts after reviewing a number of authorities observed (p. 359) :
"A review of the se cases show that expenses which are permitted as deduction are such ax are made for the purpose of carrying on the business i.e., to enable a person to carry on and earn profit in that business. It is not enough that the disbursements are made in the course of or arise out of or are concerned with or made out of the profits of the business but they must be for the purpose of earning the profits of the business. AS was pointed out in Von Glehn's case, [
1920] 2 KB 553, an expenditure is not deductible unless it is a commercial loss in trade and a penalty imposed for breach of the law during the course of trade cannot be described as such. If a sum is paid buy an assessee conducting his business because in conducting it he has acted in a manner which has rendered him liable to penalty, m it cannot be claimed as a deductible expense. It must be a commercial loss and in its nature must be compatible as such. Such penalties which are incurred by an assessee in proceedings launched against him for an infraction of the law cannot be called commercial losses incurred by an assessee in carrying on his business. Infraction of the law is not a normal is not a normal incident of business and, therefore, m only such disbursements can be deducted as are really incidental to the business itself. They cannot be deducted it they fall on the assessee in some character other than that of a trader. Therefore, where a penalty is incurred for the contravention of any specific statuary provision, it cannot be said to be a commercial loss falling in the assessee as a trader the test being that the expenses which are for the purpose of enabling a person to carry on trade for making profits in the business are permitted but not if they are merely connected with the business."
6. The Supreme Court held that no expense which wa paid by way of penalty for a breach of the law, even though it might involve no personally liability could be said to be an amount wholly and exclusively laid for the purpose of the business of there assessee within the meaning of s. 10(2) (xv) of the I. T. ACt and the fine paid by the assessee was not an allowable deduction under that section.
7. In our opinion, the claim made by the assessee squarely falls within the ratio of the above decision of the Supreme court. The amount of penalty of Rs. 4,18,000 was paid by the assessee for an infraction of law. It tampered with the licence issued in its favour for importing goods and imported yearn or goods worth more than rupees one lakhs, which it has no authority to do. In other words, it improperly imported goods worth more then rupees on lakhs,. The goods imported by it were liable to confiscation under s. 111(d) of the Customs ACt and it also exposed the assessee to pay penalty of Rs. 4,18,000 on the assessee and its partner under s. 112 of the Customs ACt. AS pointed out by the Suprme Court infraction of law is not a normal incident of business. The amount of RS. 4,18,000 which it has to pay by way of penalty did not amount loss suffered by it in a commercial transaction. It wa penalty paid buy it for committing a breach of law. Therefore, as held by the Supreme Court in the case of Haju Aziz and ABDUL Shakoor Bros. [1961] 41 ITR 350, the assessee is not entitled to claim a detection on the penalty.
8. Learned counsel for the assessee, however, strongly realised on a subsequent decision of the Supreme Court in CIt v. Piara Singh [1980] 124 ITR 40, and contended that penalty of Rs. 4,18,000 which the assessee paid to the customs authorities should be treated as loss suffered by the assessee in the course of its business. It was submitted that while computing the profits chargeable to income tax under s. 28 of the Act, allowance should be profits chargeable to income-tax under s. 28 of the ACt, m allowable should be made for the aforesaid amount. In other words, m it was urged that while computing the assessee's income from business the aforesaid penalty amount should be deducted. In the case of Pirara Sing, before the Supreme Court, the fact are as follows. The assessee who was carrying on smuggling activity was apprehended by the Indian Police while crossing the border into Pakistan, m and a sum of Rs,. 65,000 in currency notes was recovered from his person. On interrogation, he stated that he was taking the currency notes to Pakistan to purchase gold there and smuggle it into Indian. The customs authorities confiscated the and sunggle it into Indian. The customs authorize confiscated the currency notes. The I. T. authorities found that h assessee was carrying on the business of smuggling and that the was liable to income-tax on income from that business and such income wa assessed to tax. The question which arose before the Supreme Court was whether the assessee was entitled to deduction under s. 10 of the Indian I. T. ACt, 1922, of the loss of Rs. 65,000 arising by confiscation of the currency notes. The Supreme court held that carriage of the currency notes across the border wa an essential part of the smuggling operation and detection by the customs authorities and consequent confiscation1 was a necessary incident and constitutes a normal feature of such an operation. The confiscation of the currency notes was a loss occasioned in pursuing the business of smuggling; it was a loss in much the same way was if the currency notes has been stolen or dropped on the way while carrying on the business. It was a los which sprang indirectly from the carrying on of the business and was incidental to it and its deduction has to be allowed under s. 10. The Supreme Court did not overrule its earlier decision in Haji Aziz and Abdul Shakoor Bros case [1961] 41 ITR 350 (SC), but explained it by observing that in that case, penalty was paid for breach of law and as infraction of law was not a normal incident of business carried on by the assessee, penalty was rightly held to fall on the assessee in some character other than that of a trader. The Supreme ? Court observed that there was a distinction between an infraction of the law committed in the carrying on of a lawful business and an infraction of the law committed in the carrying on of lawful business and an infraction of law committed in a business inherently unlawful and constituting a normal incident of it. As observed, above the instant case would be directly covered by the decision of the Supreme Court in Haji Aziz and Abdul Shakoor Bros. case [1961] 41 ITR 350 (SC). In the instant case also, the assessee wa carrying on a lawful business. It was carrying on the business of manufacturing cloth and for the purpose of such manufacturing activity it used to purchase yearn from the local market and also imported it,. It has a licence to import yarn. It was in the course of import of yarn that it committed forgery and imported yearn of greater value than what it wa entitled to under a forged licence. Therefore, it wa in the course of a lawful business that the assessee has committed infraction of law. In Piara Singls case [1980] 124 ITR 40 (SC) _, the amount which was to be utilised in the assessees business of smuggling gold was confiscated. What wa assessed to tax was profit or income earned by the assessee in smuggling business. Obviously, therefore, confiscation of the amount of Rs. 65,000 by the customs authorities was loss suffered by the assessee in the smuggling business. The Supreme Court allowed deduction of this amount as a business loss suffered by the assessee in its smuggling business. In the instance case what the assessee has suffered is not business loss. The matter would have stood on a different footing has the assessee suffered loss on account on improperly imported yearn. for example, if the cost of imported yearn was say Rs. one Lakhs and the assessee was obliged to sell it for Rs. 75,000, he could have claimed deduction of loss of Rs. 25,000. However, payment of penalty of Rs. 4,18,000 would not stand on the same footing as such loss. It is penalty paid by it for an infraction or breach of law. Therefore, as held by the Supreme Court in Haji Aziz and Abdule Shankoor Bros. case [1961] 41 ITR 250, this deduction cannot be allowed.
9. The next decision of which the learned counsel for he assessee placed reliance wa of the Supreme Court in CIt v. S. C. Kothari [1971] 82 ITR 794. In that case, the Supreme court held that in computing profits from illegal business loss suffered in such business has to be set off against the profits. In other words, m in computing profits from illegal business, loss suffered in such business cannot be ignored and such los has to be taken into account in computing income from such business. The decision also will have no application to the facts of the instant case. Here, the assessee has not suffered any business loss in any illegal business activates. It is not a loss at all which the assessee has suffered. What the assessee has to pay was penalty for infraction of law. Deduction of such penalty, m as held above, cannot be allowed., The decision of the Supreme Court in S. C. Kothar's case will be applicable only to a case where the assessee suffered loss in a business which is not legal. While computing profit the illegal business in this decision which says that the assessee who has committed breach or infraction o flaw is entitled to deduction of penalty pad for such infraction in computing profits from his business. Therefore, the decision of the Supreme Court in S. C. Kothari's case [1971] 82 ITR 794, is of no assistance to the assessee. In the result, we hold that the Tribunal was right in rejecting the assessee's claim for diction of Rs,. 4,18,000 in the computation of its total income for the assessment year 1968-69, and answer question No. (1) referred to use for our opinion in the affirmative and against the assessee.
10. So far as question No,. (2) is concerned, it is directly covered by the decision of this court in the assessee's case for an earlier year i.e., CIt v. Garden Silk Wvg. Factory [1957] 101 ITR 658. Following the said decision, we answer question No. (2) referred to us in the affirmative and against the assessee.
11. Reference answered accordingly with no order as to costs.