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T.A Quereshi (Dr.) v. Commissioner Of Income Tax, Bhopal .
Factual and Procedural Background
The appellant, a medical practitioner based in Garoth, District Mandsaur, was arrested by the Central Bureau of Investigation on 18 July 1985 while transporting a large quantity of heroin. A subsequent raid on his residence uncovered a clandestine laboratory for manufacturing the drug, leading to proceedings under the Narcotic Drugs and Psychotropic Substances (NDPS) Act (those criminal proceedings are not at issue here).
For Assessment Year 1986-87, the appellant filed an income-tax return claiming that the heroin formed part of his stock-in-trade and that its seizure constituted a deductible business loss. The Assessment Officer (28 March 1989) rejected the claim and treated Rs 5.50 lakh—the assessed value of the heroin—as income from undisclosed sources. The Commissioner of Income-tax (Appeals) upheld that decision (1 February 1990).
In second appeal, the Income-tax Appellate Tribunal (ITAT) initially reduced the value of the heroin to Rs 2 lakh but refused deduction (31 March 1993). On an application under Section 254(2), the ITAT recalled its order (26 April 1994) and, by a final order dated 14 October 1998, allowed the deduction treating the seizure as a trading loss, relying on the Supreme Court decision in CIT v. Piara Singh.
The Revenue appealed to the Madhya Pradesh High Court, which (29 November 2004) reversed the ITAT, holding that the Explanation to Section 37 of the Income-tax Act barred the deduction. The present Supreme Court appeal challenges that High Court judgment.
Legal Issues Presented
- Whether possession of heroin, an item whose possession is an offence under the NDPS Act, can constitute stock-in-trade for a medical practitioner.
- Whether the resulting loss on account of seizure of such heroin is deductible as a business (trading) loss under the Income-tax Act, 1961.
- Whether the Explanation to Section 37, which disallows deductions for expenditure incurred for any purpose that is an offence or prohibited by law, applies to a claim of business loss arising from confiscation of stock-in-trade.
Arguments of the Parties
Appellant's Arguments
- Section 37 deals with business expenditure; the claim here is one of business loss. Consequently, the bar created by the Explanation to Section 37 is inapplicable.
- Because the ITAT found that the appellant was engaged in the business of manufacturing and selling heroin, the seized heroin was part of his stock-in-trade; its confiscation therefore represents an allowable trading loss, squarely covered by CIT v. Piara Singh.
Revenue's Arguments
The opinion does not contain a detailed account of the Revenue’s legal arguments.
Table of Precedents Cited
| Precedent | Rule or Principle Cited For | Application by the Court |
|---|---|---|
| CIT v. Piara Singh, 1980 Supp SCC 166; 124 ITR 40 | Loss arising from confiscation of assets used in illegal smuggling activity is deductible as a business loss if such assets form part of the stock-in-trade. | Formed the central authority for allowing deduction of Rs 2 lakh as trading loss resulting from seizure of heroin. |
| CIT v. S.N.A.S.A. Annamalai Chettiar, (1973) 3 SCC 339 | Loss of stock-in-trade is a trading loss allowable on ordinary commercial principles. | Cited to reinforce that confiscation of stock-in-trade (heroin) must be treated as a business loss. |
Court's Reasoning and Analysis
1. The Supreme Court noted that the ITAT had made a factual finding that the appellant was engaged in manufacturing and selling heroin; consequently, the seized heroin constituted his stock-in-trade.
2. Distinguishing between expenditure and loss, the Court held that the Explanation to Section 37 bars deductions only for expenditure incurred in the course of an offence, not for losses arising from confiscation of stock-in-trade.
3. Relying on Piara Singh, the Court reaffirmed that a trading loss stemming from confiscation of illegal goods is deductible when the taxpayer is found to be in that business.
4. The High Court’s approach was criticised as “emotional and moral” rather than legal; courts must apply settled legal principles even where the underlying activity is immoral or illegal.
5. On ordinary commercial principles, once goods are accepted as stock-in-trade, their loss (whether by theft, seizure, or confiscation) diminishes the business’s profit and is therefore deductible.
Holding and Implications
Holding: The Supreme Court set aside the Madhya Pradesh High Court’s judgment and restored the ITAT’s order allowing the deduction of Rs 2 lakh as business loss. The appeal was allowed with no order as to costs.
Implications: The decision clarifies that the statutory bar in the Explanation to Section 37 applies only to expenditure, not to business losses. It affirms that confiscation of illegal goods can constitute an allowable trading loss when the taxpayer is factually found to be in that line of business; moral considerations do not override settled income-tax principles. No new legal doctrine was created, but existing precedent was reinforced.
Markandey Katju, J.— Leave granted.
2. This appeal has been filed against the impugned judgment dated 29-11-2004 passed by the Madhya Pradesh High Court in ITA No. 33 of 1999.
3. Heard learned counsel for the parties and perused the record.
4. The appellant is an assessee. He is a doctor by profession at a place called “Garoth” in District Mandsaur. On 18-7-1985, CBI sleuths arrested the appellant while transporting a huge quantity of contraband article (the narcotic drug heroin) in a jeep (Jonga) RSO 3592. This led to further raid on his residential premises. In this raid, one clandestine laboratory to manufacture heroin powder along with several contraband drugs was recovered. All these contraband articles were seized and proceedings under the NDPS Act were initiated against the assessee. We are not concerned with these proceedings.
5. So far as proceedings under the Income Tax Act are concerned, with which we are concerned, the assessee appellant filed his return for Assessment Year 1986-87. In this assessment the assessee claimed that since the heroin seized from him forms part of his stock-in-trade hence its loss on account of seizure is an allowable deduction while computing his profits and gains of business/profession. The assessment officer by order dated 28-3-1989 did not accept the contention of the assessee and added a sum of Rs 5,50,000, being the assessed value of the heroin seized, as an income from undisclosed source. In an appeal filed by the assessee CIT (Appeals) upheld the order of the assessment officer by his order dated 1-2-1990. The assessee then filed a second appeal before the Tribunal. By its order dated 31-3-1993 the Tribunal reduced the value of the heroin seized to Rs 2 lakhs, but refused to deduct this amount from the assessee's income as a business loss, since according to the Tribunal the assessee had not claimed it as a business loss. However, subsequently on an application under Section 254(2) the Tribunal by order dated 26-4-1994 accepted that the assessee had in fact claimed it as a loss, and consequently it recalled its order dated 31-3-1993. Ultimately, the Tribunal by order dated 14-10-1998 allowed the appeal and held that the assessee was entitled to claim the deduction as a business loss. In other words, the Tribunal was of the view that since the seizure had resulted in loss in trade hence, relying upon the law laid down by this Court in CIT v. Piara Singh 1980 Supp SCC 166, (1980) 124 ITR 40, AIR 1980 SC 1271, the Tribunal allowed the deduction of Rs 2 lakhs out of the gross total income of the assessee. It is against this view of the Tribunal that the Revenue felt aggrieved and filed the appeal before the High Court which, as stated above, was admitted for final hearing on the following questions of law:
1. Whether possession of heroin in contravention of provision of the NDPS Act, 1985 can be treated to be stock-in-trade possessed by a medical practitioner?
2. Whether such medical practitioner can be permitted to deduct Rs 2 lakhs from such stock of heroin as loss during the trade?
3. Whether the order passed by the Income Tax Appellate Tribunal, Indore Bench in IT-272/89-90 for Assessment Year 1986-87 is perverse and illegal?
6. By the impugned order the High Court allowed the appeal and set aside the order of the Tribunal. Hence, this appeal.
7. In para 7 of its judgment, the High Court has relied on the Explanation to Section 37 of the Income Tax Act which states:
“Explanation.—For the removal of doubts, it is hereby declared that any expenditure 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.”
8. Learned Senior Counsel for the appellant Mr M.L Verma, contended that Section 37 of the Act has no application in this case since Section 37 relates to business expenditure, and in this case we are not concerned with business expenditure but with business loss. We agree with this contention.
9. No doubt, it was initially contended by the assessee before the Income Tax Authorities that the apparatus for manufacturing heroin from opium did not belong to the assessee but belonged to one V.T Madan. However, the assessing officer did not agree with this contention and the Tribunal in its earlier order dated 31-3-1993 has recorded a finding (in para 7 of its order) that the assessee was involved in the manufacture and selling of heroin for material gain. Thus, it has been held by the Income Tax Authorities that the appellant was engaged in manufacture of heroin and selling it for material gain.
10. No doubt, the assessee had contended that he was only earning income from his medical profession and was not doing any illegal activity of manufacturing and selling of heroin. However, the finding of fact of the Tribunal in its order dated 31-3-1993 is that the assessee was engaged in manufacture and selling of heroin. Thus, the Income Tax Authorities themselves have recorded a finding that the assessee was engaged in manufacture and selling of heroin. No doubt the order of the Tribunal dated 31-3-1993 was subsequently recalled by the Tribunal, but since by the ultimate order dated 14-10-1998 the Tribunal has held that the heroin seized was the assessee's stock-in-trade, it is implicit that the Tribunal reiterated the view that the assessee was doing the business of manufacture and sale of heroin.
11. Once the Income Tax Authorities record such a finding of fact, it follows that any loss from such a business is a business loss.
12. The facts of this case are squarely covered by the decision of this Court in CIT v. Piara Singh 1980 Supp SCC 166, (1980) 124 ITR 40, AIR 1980 SC 1271 which was a case of an assessee carrying on smuggling activity and this Court held that the loss arising out of confiscation of currency notes must be allowed as a business loss.
13. In the order of the Tribunal dated 14-10-1998 there is a finding of fact in para 8 to the effect that the heroin forms part of the stock-in-trade of the assessee. In view of this finding, the Tribunal allowed the assessee's claim of deducting the loss of 5 kg of heroin whose value was assessed by the Tribunal at Rs 2 lakhs as a business loss.
14. We fully agree with the view taken by the Tribunal.
15. The High Court, however, in para 10 of its judgment observed:
“The assessee in this case was engaged in profession of a doctor. He had nothing to do with the contraband article heroin for carrying on his profession. It is an admitted fact that the possession of heroin is an offence under the NDPS Act. In this view, the rigour of the Explanation to Section 37 was fully satisfied and hence the question claiming any deduction for the value of seized article did not arise nor was the assessee entitled to claim any such deduction who was found in indulging in such heinous and illegal business unconnected with his pious professional activity. Indeed, it was a disgrace for a doctor community where one doctor was found indulging in doing such kind of activities against the humanity.”
16. In our opinion, the High Court has adopted an emotional and moral approach rather than a legal approach. We fully agree with the High Court that the assessee was committing a highly immoral act in illegally manufacturing and selling heroin. However, cases are to be decided by the court on legal principles and not on one's own moral views. Law is different from morality, as the positivist jurists Bentham and Austin pointed out.
17. As already observed above, the facts of the case are squarely covered by the decision of this Court in CIT v. Piara Singh 1980 Supp SCC 166, (1980) 124 ITR 40, AIR 1980 SC 1271.
18. The Explanation to Section 37 has really nothing to do with the present case as it is not a case of a business expenditure, but of business loss. Business losses are allowable on ordinary commercial principles in computing profits. Once it is found that the heroin seized formed part of the stock-in-trade of the assessee, it follows that the seizure and confiscation of such stock-in-trade has to be allowed as a business loss. Loss of stock-in-trade has to be considered as a trading loss vide CIT v. S.N.A.S.A Annamalai Chettiar (1973) 3 SCC 339, AIR 1973 SC 1032.
19. For the reasons given above, the impugned judgment of the High Court cannot be sustained and it is hereby set aside and the order of the Tribunal stands restored. The appeal is allowed. No costs.
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