TAXATION LAWS

CLASS NOTES

KASHISH KHANDELWAL
35LLB18
Table of Contents
Diversion of Income and Application of Income.......................................................................5

Agricultural Taxation...............................................................................................................16

Residential Status and Tax Incidence......................................................................................36

Trust.........................................................................................................................................46

Salaries.....................................................................................................................................50

Income from House Property...................................................................................................58

Income from Business and Profession.....................................................................................69

Section 37.................................................................................................................................79

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Taxation Laws

The government can impose the tax under Article 265. But it has to be passed by the
parliament. The tax slabs are passed by the parliament.

Insofar as income tax law is concerned, there is a strict literal interpretation. Res judicata has
limited application to tax laws.

Any partnership, if created with the sole purpose of illegal activities, will be illegal. But when
it comes to income tax act, the law has nothing to do with the nature of money. If you are a
resident as per the income tax act, and you have anything that comes to you in the financial
year and you fall within the tax slab, then you have to pay taxes irrespective of the nature you
have earned the money. There is nothing illegal for the purposes of income tax act. many a
times, in the finance act, there are a number of schemes to pay taxes on black money without
any questions.

If anything that comes in is in the form of revenue, then it is taxavle, but if it is capital
receipt, then non-taxable. Every revenue receipt is taxable until exmept, and every cptial
receipt is non-taxable unless exempt. Revenue receptis are recurring incomes but capital
receipt are not.

Three things:

1. Amount of income

2. Nature of income – income is subject to five different heads under the act

3. type of transactions – some transactions are not covered by the act

History

In India, the revolt of 1857 led to income tax. The British wanted to recover the losses they
suffered from India itself.

Primitive Society

They used to be hunters and gatherers. Later, they realised that different people have different
skills – hunting, strategy, manufacturing ornaments, etc. With the passage of time, they got
into agriculture. Land invasion became a concept. Certain people became responsible to take
care of external conflicts. Some were there for internal conflicts. Initially, there were no

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welfare activities that the government had to perform. These people had demarcated duties
and they were getting paid in kind. Subsequently, there was trade activity.

King wanted to maintain army. Duties were imposed. There was no consumer society.
Income was largely from agricultural production or trading. there were different types of
duties.

Money as an official currency was introduced only after 1811.

After industrialisation, people were accumulating money. With the development of factories,
slums were also created.

2nd February 2021

With soci-economic changes, huge change in industrial revolution. The economic revolation
created the middle class. There were different ways of generating income. The government
started spending money on welfare activities. The structure of companies also changed. They
were earning money but weren’t paying income tax because there was no law.
Simultaneously, IP also came into being. Before industrial revolution, you had to work to
earn an income, especially in agriculture. In the post industrial revolution time, IP allowed to
earn income without working more than once.

When property is purchased and sold later at a higher amount, it is capital gains and not
passive income. Similarly, if shares or debentures are giving you recurring amount each year,
that is passive income. But if you sell them, then it is capital gains. Rent from property is the
best example of passive income. Appointment of a manager for a manufacturing unit will not
make the income from it passive income.

Identification of sources of income is important for the government. It needs funds.

The british imposed taxes on selective items – land and trade. If you are creating wealth, then
pay the tax. Farmers were continuously paying taxes but those who were generating wealth
through IPR, then didn’t have to pay taxes. At that time, in the US and the UK, there was
window tax. The number of windows in the house, more the tax. So, the assessee started
removing windows.

The second change was a legislative change. Many laws were introduced after the second
world war.

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Mergers and acquisitions happen because of tax advantages. In the 1930s, there was a law to
stop M&As so that companies pay taxes. After the second world war, another change came.

Fundamentals

Global tax system – if there is any addition to your existing wealth, then pay tax.

Scheduler system – if the income falls under any of the categories, then pay tax.

Creation, holding, transfer, consumption – stages of travel of money. At every travel, a

different type of tax is there.

Question – Someone’s birthday. Gifts given in cash and in kind. Total worth of 15 lakhs. Is it
taxable?

14th February 2022

Revenue Receipt –

Capital Receipt –

From parents, it is not income.

Where are you going to put your efforts – after putting effort you sell drugs, and that is also
income for the purpose of income tax.

Government aid to run business – it won’t be termed as income. They are given to develop
purpose. Although it comes to you, it ain’t income. This is the duty of the CA to decide what
is revenue or capital receipt.

The CA will look at debit and credit entries. He will pick a pocket. There is a chance that
revenue will reoccur. That is termed as revenue. In the case of business, there may be a
chance that will be termed as revenue, but in what sense? – capital or revenue

Betting –

There is no exact definition of revenue receipt. It will depend on receipt to receipt. Generally,
the SC judgments and CBDT rulings are also to be considered.

Capital receipts – one time thing.

The rule is that every revenue receipt is income unless exempted. Capital receipts are always
exempted unless specifically made taxable by the law. Capital gains will only occur once.

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This is why birthday money isn’t income.

Arun puri case – award by third person and not employee. If relationship is established, it will
be a case of revenue receipt. If the gift is in reference to the organisation,

If within the organisation, then chances are that it is revenue receipt. Some times as a tax
strategy, private employers earlier used to give various incentives to avoid taxes. It is with the
passage of time that the government realised this and it starting putting the incentives within
the meaning of income. This is when it revolutionised the concept of salary.

DIVERSION OF INCOME AND APPLICATION OF INCOME

Anything which comes in your pocket is a case of application of income. If parents give
money to their children, then it will be a case of application of income. The money comes
into the pockets of the parents, and further goes into the children’s pockets. On the other
hand, in the case of diversion of income, there is an overriding title before the money comes
to the person’s pocket. The title was in the name of the assessee, but now it has been
overridden.

Illustration 1 – X receives income from NLU. The income is transferred to X’s account from
NLU’s account. X gives some money to Y. For the purposes of taxes, the moment income in
NLU account is created, it is in X’s title. It means that the title is already written at the
source. Over any title, if it is belonging to X but some other title is mentioned by way of
some overriding effect, then that income belongs to that fellow despite the fact that it is X’s
income. When X contracted with NLUD, in the NLUD structure itself, it is mentioned who
will get this amount.

Illustration 2 – X is a school teacher. They are in a religious trust, say Waqf Board. X is very
religious and says that the moment their salary is generated, the total amount should go to the
school. Will this be termed as X’s income? – This is not a case of diversion. There is no
overriding title here. Salary is being generated in the name of X. It is X who is diverting it.
The salary was already generated at the source.

NUJS – special trust. MoU with NUJS.

NOTE 1 – Overriding is happening after the source, and that is application of income.

NOTE 2 – Once money is diverted by an overriding title, then it won’t be the person’s
income.

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If it is a case of salary, it has to be certain in the name of X. Salary itself is a source generated
in X’s name. you have to divert right from the beginning; from the source.

NOTE 3 – Taxation is a sovereign function; the government can do anything.

In the given scenario, once it enters it your pocket, the tax authorities have nothing to do with
it.

When we talk of source – If A buys bananas from B, then A will have to pay for that. What if
A takes bananas but instead of paying B, A pays C as B owes C. This is application from
income.

Law makes it a legal obligation. Whenever an overriding title is to be created, it has to be a

legal obligation. Private parties can also do it.

A, B and C enter into a contract. The partnership deed says that they will work together and if
any of them expire, then their share will go into the name of the spouse. Alternatively, X% of
profit will go to the children. Suppose A expired. The money is diverted from the partnership
to the spouse and the children.

Missed at 10:10 to 10:20

Custom and Convention – difference is there

Salaries Partner –

Tax Strategy First Principle –

Diversion can be created only by a legal obligation.

Diwan Kishan Kishore v CIT – junior most person used to get money. The court said that
since in India customs are followed, they have their own legal value; they are being carried
on since centuries.

Judge 1 – pay monthly charges to wife

Judge 2 – husband has 5 properties, whatever income is generated over one of the properties,
you have to pay 50k fixed amount to wife and only then can you claim the full amount.

What are the tax implications here?

Can divergence be there by mistakes as well?

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 15th February 2022

Illustration 1 – There are two judges. One judge said that maintenance charges are to be paid.
Another judge said that you have to pay 50k from the property, unless this amount is paid,
you cannot get anything from the property. The judge will deliver the judgment under Order
20 read with Section 33/34 CPC, along with the decree. What will be the tax implications
when you have received two different judgments? – The number of properties will not make
a difference. Legally, the judge can create a charge. But if the judge is creating the charge in
one judgment and not in another, then it will not be a charge but an application of income.
From wherever the income will come, the husband has to pay 50k to the wife. If he’s aware
of the husband’s situation, then the judge may create a difference to get a permanent solution
for the wife. Diversion from the source is a permanent solution. Once diversion is there, the
money won’t enter the husband’s pocket.

What if the judge has said that the money won’t enter your pocket unless 50k is paid to the
wife? – The husband collected 1 lakh and gave 50k to wife. It has nothing to do with cash or
kind but the charge created. Once the charge is legal, it is not a personal obligation but it will
create a charge by overriding title; diversion of income. The actual money belongs to the
husband and rental income has to be in the husband’s name, but since the judge has created
an overriding title, it is a case of diversion of income. On paper, the title was for husband but
by way of furtherance, it was a case of diversion. Therefore, this is an overriding title.

Illustration 2 – A is about to die. The will prepared by A said that after their death, 5000
bucks have to be separated for shradh. This normally was a case in the earlier times when
businessmen used to die; they knew the best tax strategies and created trusts etc. to avoid
taxes. A died. Who will pay the tax on 5k rupees? Will it be an application of income or
divergence of income? What if instead of the 5k earmarked for shradh, the actual expenditure
is 6k? What if the expenditure is less than 5k? –

Illustration 3 – The judge said that the father is dying and the two sons will take care of the
step mother. Equal amount allocated to both the sons for this; 1800 had to be spent. but the
sons instead of spending 1800 rupees, they spent 2100 rupees –

NOTE – Everybody has to file income tax returns. In the form, there are different columns. If
you have 1,00,000 income but you say that 80,000 is diverted, then the assessee office might
investigate.

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CIT v Sitaldas Tirathdas – (1961) 41 ITR 367 (SC) – The assessee had many sources of
income, chief among them being property, stocks and shares, bank deposits and share in a
Firm known as Messrs Sitaldas Tirathdas. He sought to deduct a sum of Rs 1350 in the first
assessment year and a sum of Rs 18,000 in the second assessment year on the ground that
under a decree he was required to pay these sums as maintenance to his wife, Bai Deviben
and his children. In a suit filed before the Bombay HC for maintenance, separate residence
and marriage expenses for his daughters, a decree by consent was passed and maintenance
allowance of Rs. 1500 per month was decreed against him.

The court held that in this case, the wife and children of the assessee who continued to be
members of the family received a portion of the income of the assessee, after the assessee had
received the income as his own. The case is one of application of a portion of the income to
discharge an obligation and not a case in which by an overriding charge the assessee became
only a collector of another’s income. The matter in the present case would have been
different, if such an overriding charge had existed either upon the property or upon its
income, which is not the case.

In case of succession, if the person is dying, then if the money has no title, it will belong to
the state (escheat). The moment the person dies, everything will be transferred. In inheritance
cases, the money is applied – whatever you are doing, it will be application of income. There
cannot be any diversion here.

In testamentary succession, there must not be a difference in application and diversion. If

there is an absence of the thin line between them and the income is applied, then nothing can
be done. For example, X writes in a will that her income should be equally distributed
between both the daughters and then she further writes that a trust of rupees one lakh should
be created by both of them. Will this be a case of application or diversion? This is a case of
application. Once she applies the amount, then whatever happens with the money will be a
case of application of income. She should create the trust first and then transfer money. This
would have been diversion of income.

Succession will happen when it is going to apply normally. Any trust has to be created first
and then transfer should happen. The moment the person dies, whatever belongs to her should
apply there and then. If there is a trust, then money will go there. A thin line will make it a
case of diversion of title. To create a diversion of overriding title, it has to be done at the
source itself.

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Illustration – N is running an x-ray clinic. N is handing over the clinic to S subject to the
condition that S will annually pay 10% of the profit to N’s husband. This is mentioned in the
deed itself. S is buying a running clinic; she is not starting from scratch. S did proper due
diligence and was already aware of the profit that N was generating. Will the 10% be a case
of diversion of income or application of income? – Not only the property has been transferred
but profit has also been transferred. This is a case of diversion of income by way of
overriding title.

Jeet and Pals X-ray Private Limited v CIT – 2004 – 26 ITR 267 – Pg 370 – This is a case of
diversion of income. The base is created by the deed and the deed decides upon a certain
distribution. This will be the case of diversion of income by way of overriding title. The total
income is not being generated in the name of S. If there is any transfer through the deed itself,
then it will be a case of diversion of income. The commercial agreement has its own sanctity,
and diversion can be done through it. The tax implication of this diversion is that N’s
husband will pay the tax on it.

As a tax strategy, in good commercial houses, husband and wife divorce each other on paper
and through a deed, they created legal charge over the property and transferred the amount in
the wife’s name.

21st February 2022

At the time of deciding whether the given case constitutes application or diversion of income,
we need to ascertain whether the obligation is legal or not. If the obligation is legal, it would
be diversion of income. If obligation is not legal, then it will be application of income. If the
obligation is of such a nature that the income is going to someone else without going into the
hands of the assessee, then it is a case of diversion of income. But if it first goes to the
assessee and then it goes to some other person, then it will a case of application of income.
Therefore, the test is the source of income.

Illustration 1 – There are three partners in a firm. One of the partners is a ten percent
shareholder in the partnership. Now, C, who is a ten percent holder, further entered into a
partnership. But before that he says that 50% of what he is getting should go to a trust along
with 5k rupees for the new partnership. The trust comprises of C’s wife, married daughter
and his two sons. Is this a case of application or diversion? – In this case, there are three
partners, where one partner is transferring some of his share to a trust, which comprises of
wife, married daughter and two sons. [CIT v Sunil J Kinariwala]

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Scenario 1 – 50% out of 10% will come to the trust.

Scenario 2 – Total income will come to the trust.

Illustration 3 – Similar scenario. Instead of creating a trust, C created a sub-partnership, along

with his two sons and a grandson. The sub-partnership says that whatever is the profit and
loss in the previous firm with A, B and C, should be the capital of this sub-partnership. Here,
if something new is created – A, B and C are partners – C wants to transfer something to his
trust. A new deed of partnership has to be created wherein the clause for transfer would be
there. the title would now be overridden.

In the first two cases, it is the case of application of income. This is because it is first
generated and then applied.

In the sub-partnership case, nothing is being changed to the ABC partnership. The sub-
partnership is new. It is saying that the profit and loss of ABC is capital of sub. This was
created without taking anything in reference to the ABC deed. The application has now been
converted into diversion. The moment ABC money is generated in C’s name. Sub-partnership
is a legal obligation. If without touching the main thing you have created something new, the
profit will be read as overlapping. Due to this, there is an overriding of the sub-partnership.
This is the case of diversion of income.

Whether overriding is happening at the source itself or not. Income is still being generated in
C’s name, but there is overriding by sub-partnership. The sub-partnership can do anything
with the income, but the assessee won’t have any right to that income. Once he is overriding
his own thing, it belongs to the person in whose favour the title is overridden. In application,
it is your income and you can do anything with it. but in divergence, this is not the case.

NOTE – In a partnership firm, even if you are a salaried partner, your income will be filed
under the head income from business and profession. The return won’t be filed under the
salary head.

NOTE – The objective of the trust cannot be changed without the court’s permission. There’s
limited scope of changing this. In a partnership, various things can be done subject to the
contract.

Illustration – A has a villa. He gave the villa to N. N runs a company, which has taken the
villa on rent. The income is being generated in A’s name. A is also running a college. From

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the 50k being generated as rent, N should transfer 10k to the college. The college is being run
by a trust. Later, they enter into a tripartite agreement – A, N and College – if N fails to pay,
the college has the right to sue N for the 10k rupees. Whether the 10k have been diverted or is
it a case of application of income? - it is a case of application of income, despite the fact that
A is present everywhere. Here, the source of income is rent. It will be generated only in the
name of the owner, i.e., A. There is no overriding title here. [Moti Lal Chhadami Lal Jain v
CIT]

22nd February 2022

The concept of application of income and diversion of income is important for two things.
First, to determine who will pay the tax and second, to avoid colourable devices.

Illustration 1 – The local government department has to work on a number of projects. One
of the projects is to construct a bridge. It has been passed and notified (when big projects are
created, they are notified in the gazette. If any project is notified, then it is prioritised in terms
of funding). The moment it is passed and notified, a separate account will be opened in the
name of the bridge. There are two ways in which the accounting process will work. One
process is where the bridge has a separate account, and in that name the amount will be
received. The other way is that everything is coming in the local government’s account and in
the account books only, they’ve demarcated everything. For a particular assessment year,
there was no work in a particular project. The amount is there for all those years.

Two propositions – (i) separate account for the project and (ii) common account but there is
demarcation in the books. Whose income is it? Is the local authority supposed to pay the tax
or has the income been diverted in favour of the bridge? – Any income in reference to this
project would be subject to that very project. Such things usually happen in the case of PPP
(Pubic Private Partnership). Local authority has separate accounts and common account in
the same bank.

The interest on the money in the bank account is generating with the tag of the bridge. For
general purposes like salaries etc, the authorities receive a certain sum regularly. But when a
sum comes extraordinarily, then questions are raised. Even if the money falls in the common
pool and it has certain tags to it, then it will move to those tags. Where there is a separate
demarcation, it is convenient to say that it is diverted from the source itself. Sometimes, a
separate account is created and this is also a case of diversion.

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Sometimes, money is sent in the common pool with a tag for a certain project. This will be
seen in two ways. Firstly, how is the authority utilising this amount – did they take any
proactive steps towards the creation of something – if yes, then it will be a case of diversion.
Secondly, if the money is in the common pool and the interest is being generated in favour of
the local authority generally, then it will be a case of application of income – the money is
coming and you are not doing anything. Once it is entered into a common account, it has to
be diverted at least in relation to the accounts book.

Illustration – Amitabh Bachchan lost all his money. There was a tussle between ABCL and
AB. ABCL was subject to the Sick Industries Act. There was an arbitration agreement
between them. It said that whatever income is generated in favour of Amitabh Bachchan, it
will go directly to ABCL subject to the condition that in case Amitabh Bachchan plays the
role of the hero or the villain, he’ll get thirty per cent of the income. In the first season of
KBC, he got 23 crores. Out of this, he gave 70% from the source to ABCL. There was a
tripartite agreement between Star, ABCL and another entity. Income tax authorities saw this
as a colourable device. They lifted the corporate veil for calling this a case of application of
income.

Till the 1980s, corporate lawyers used to plan business structures. But now it is important to
have a team of tax lawyers. Right from taking the land up to the stage of earning revenue,
everything is subject to some sort of exemptions. For example, Supriya is a salary holder. She
wants to buy a car and she will pay taxes on it. However, if she is running a business, she can
show the car as a revenue expenditure and she wouldn’t have to pay taxes in it. Only on
capital expenditure taxes are paid.

Can an arbitration agreement between Amitabh Bachchan and ABCL be a case of application
of income or diversion of income? – the generation of income in this case was in favour of
AB.

Before the 2013, companies act was silent on fraud. It was added because of the increase in
use of colourable devices. It also created SFIO – an extraordinary organisation. Earlier, civil
law was not invoked very often. But now it was realised that these civil offences have
increased in number.

23rd February 2023

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A legal obligation can be created in many ways. For instance, by courts or by private parties
through wills, customary practices and family arrangements. Further, arbitration agreements
can also create a legal obligation. If a dispute occurs between two parties who seem to be
interconnected and such dispute is resolved through arbitration, then the sanctity of the
arbitral award has to be maintained. Therefore, when there was a tripartite agreement
between Star TV, ABCL and KBC, whatever income generated to Amitabh Bachchan had to
be distributed as per the agreement. If arbitration agreement was created validly, and the
parties are executing the agreement – they are generating income in the name of Amitabh
Bachchan first, and then 70% of the income is overridden – this is a case of overriding of
title. The overriding title always applies to the assessee, but now it has been overridden due to
the legal charge. in arbitration agreement, the overriding title has been created – it will work
like a proper agreement and any transfer of income on the basis of this agreement will be a
case of diversion of income by way of overriding title. In the case of Amitabh Bachchan,
money was transferred looking like a colourable device but it was actually legal. The
corporate veil will not be pierced. Do not lift the veil unless you have strong reasons to do so.
If it is a case of tax evasion, the veil can be lifted but not for tax avoidance. Tax evasion is
when you violate the tax legislations, but in tax avoidance you use the legal environment to
create a tax strategy to avoid paying taxes.

Therefore, to plug the loopholes government keeps coming up with amendments. Earlier,
transfer pricing provisions were there only for international transactions. Later, domestic
transactions were also brought under its purview. Transfer pricing is where you see whether
the companies are actually engaging in a competitive environment or is it just a façade.

NOTE – Associated enterprises are sister concerns used as a colourable device by the
companies to bifurcate their profits – this way profit would be divided and no one has to pay
taxes.

McDowell, Vodaphone, Azadi Bachao Andolan – tax strategy cases

Starbucks – did not show profits for 10 years. Used the legal environment of the UK to avoid
taxes. Was scolded on moral grounds by the UK parliament

At times, independent journalists help identify tax avoidance – for example, Panama papers,
paradise papers, etc.

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If two transactions took place – Livie gave to Aditendra a piece of land on lease. She would
get rent in return. If there is water on the land, she’ll also take royalty. If Aditendra is paying
rent, then it will be a case of rental income. If this lease is for one year and the amount is 25K
per month plus 1000 royalty. This time, she did not give the lease to Aditendra for one year
but for 30 years subject to the conditions that he will cumulatively give 2 lakhs for 20 years
and 500 royalty per month.

Illustration 3 – the sum is 7 lakhs for 20 years plus 700 as royalty per month.

In which of the cases it will be a case for income for Livie to pay the tax?

Before the 2002 amendment, one time payments were capital receipts – the rule said that
every capital receipt is not subject to taxations unless specifically taxed.

Can the rent generated as lease amount for the first year be treated as income?

Illustration 4 – the amount is fixed – one time payment of 10 lakhs. This is subject to
payment of 2000 rupees per month.

At times, assessee you to transact in a way to bypass the tax legislations. Say 25k is the
benchmark for the land. Rent is a recurring receipt. Therefore, this is rent and you are paying
the taxes too. Nomenclature is changed to reduce the taxable amount. One time payment can
be seen as capital receipt for land transfer. Additional amount is in the name of royalty or per
acre amount, and the rent is diverted. The amount which earlier could be under the rent head,
has now been bifurcated into different heads to avoid the tax. This is completely legal – a tax
strategy.

Maharaja Chintamani Saran Nath Deo v CIT – 1971 SC –

Illustration – The government transferred a land to a government company for the purpose of
development – to build flats and markets and then can give on rent. This company further
transferred the land to another industrial company on a lease of 50/100 years to build flats
and give them on rent. The government company also fixed the amount they’ll receive in
advance (advance rent) from the company and also the profit that it will receive later.
Independent company is giving advanced rent to the government company. Who has to pay
taxes on this advanced rent? – the transfer is for lease purposes; they are giving the rent to the
independent company for the same purpose for which the government gave them the land.

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When lease is given in the normal course, the lease amount would be income of the other
party. But at times in the garb of paying the lease money or premium money, the amount is
transferred in such a way that the capital income (which is on the higher side) would be
reduced to a smaller amount. Before 2002, this capital income amount was increased, because
back then it was exempted.

Advanced rent is in the nature of income or is it in the nature of a one-time capital receipt? –

Look it from the angle of the company paying the advance. Is the independent company
transferring their profit in way of advanced rent to the company? –

NOTE – advanced rent is diversion of profit. Transfer of profit also sometimes amounts to a
tax strategy – this way profit is divided amongst different types of contractual obligations.

Illustration - If I sell a land, then income received would be capital receipt. This is taxable
income. What if instead of selling it, I give it on lease for 50 years and I receive an amount
for 50 years. The income generated to me is my income but this income is in the nature of
rent. If the one-time income that I am receiving is revenue receipt, then it will be subject to
relevant provisions under the IT Act.

Capital receipt is subject to tax. If instead of giving me 100 lakhs together, you give only 20
lakhs and the remaining 80 lakhs is divided into different heads (nomenclature) to be paid
over 20 years. These other receipts would be business receipts, which will attract some
exemptions under that head. However, ideally the person giving the land should have
received 100 lakh rupees. It is the duty of the tax officer to look into such cases.

Before 2002 amendment, Section 10(3) used to exempt one-time capital receipt of business
nature. This is why people used to show increased capital receipt. Now, this provision is
gone. This is why it is important to see the other amounts that people are receiving – whether
these other amounts are colourable devices, undertaken to reduce the one-time payment
amount.

The rule is to see if the time is certain or uncertain. If the time is certain, say 20 years, then
you can see if the transfer seen cumulatively would be 100 lakhs. If the time period is
uncertain, then it’s not a colourable device because you cannot reach a certain amount. If the
transfer is for a particular period, only then you can make an exact computation.

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Illustration – Aditendra has an ancestral house. He decides to sell this house for 10 crores.
His family had for the past 200 years. In this case, since one unit is missing (for how much it
was bought), capital gain cannot be calculated; there is no capital gain. In tax strategies it is
essential to look into certainties. If there is any uncertainty, you cannot calculate any capital
gain – any generation of income won’t make any taxes.

Where there is any certainty, you can calculate taxes – tax evasion or tax avoidance can be
determined. The AO has to see if the transaction was taken to fudge the exact amount of
transfer. For capital gains, the difference is necessary.

16
 28th February 2022
AGRICULTURAL TAXATION

It is the mandate of the constitution that agricultural income must not be taxed by the centre.
List I gives powers to the central government to tax income other than agricultural income.
Entry 41 List II gives powers to the state government to impose taxes.

For cash crops like coffee and tea, their computation is different. Tax is payable on such
crops. Section 2(1)(a) defines agricutlrual income, which is exempted under Section 10(1).
Every revenue receipt is subject to tax, unless exempted under Section 10. Rule 8, 8a, 9 and
24.

Article 366(1) of the Constitutuon says that agricultural income for the purposes of income
tax enactment. Instead of definint agicultual income at the constitutional level, they are
transferring the definition to the income tax act.

Illustration – Suppose S is growing flowers in a hostel room and is selling them to other
students, then is such income taxable? Is this the case of agriculture income, allowing S to
claim exemption?

Any rent and revenue derived from land situated in India and used for agriculture purpose.
Before 1970, the phrase “in India” was absent in the definition.

Any ordinary process applied either by the cultivator or the person who is the receiver of the
amount is also the case of agriculture income.

Second Definition – check – 9:55

Any person who is derin the income either as cultivator of the land subject to ordinary
process of life and ordinart market will make a case of agriculture income.

Illustration 2 – N creates a flower in a lab and sells them. Will this be taxable or is exemption
available?

Hybrids are also there. If these are allowed to gain exemption, then they will earn huge
amounts and pay nothing in tax.

With the passage of time, there have been changes in the definition of agricultural income.
Suppose there is a company growing flowers. A person buys shares of this company. Will the
dividends be treated as agricultural income?

17
Illustration – N appoints L to look after a sugarcane field. There is an agreement between
them for this. This is subject to the condition that L will receive a fixed salary, and if there is
an increase in production to the tune of five times compared to the previous year, then L will
get a share in the profits also – 10% of the profits made from the additional production.

What N is generating being the owner of the company which deals with agricultural products
is agricultural income or not? – Not answered yet.

Illustration – N has a jungle. N prefers some trees, and is providing them water. Rest, he cuts
and sells. Will this selling part constitute agricultural income?

Illustration – N owns the land. S ask for the land and says that she’ll cultivate and pay lease
amount to N. N says that he used to get 500k from the land annually. S says that she’ll give
15 lakhs and gives 10 lakhs in advance. S gave the land to A. A generated 50 lakhs. A had a
company and gave the land to contractors. The contractor with their team grew the crops.
Whose income will constitute agricultural income?

What if this land belonged to N, and N took a loan from S for cultivating the land and said
that he will deliver the amount within a year. However, he could not grow anything on the
land. There was a loss of 10 lakh rupees.

In a usufructuary mortgage, S will use the land till the time she extracts the principal amount
along with the interest. The moment she recovers the amount, the land will go back to N.
Land rights are not transferred in a usufructuary mortgage. A total of 12,50,000 will be kept
for S. Any remaining amount will go back to N. Whose income will be subject to agricultural
income here?

2nd March 2022

In cont.

Illustration – N growing crops through technology in a lab –

There is a dynamism in this definition. Initially, agricultural income was not a part of the
taxation regime. Earlier even on barren land tax was payable. But later, exemptions were
given to agricultural income to let the sector grow. Keeping in mind the meagre land
distribution, it was decided to let the states decide which agricultural income has to be taxed.
However, due to political considerations, a lot of states have not taken any affirmative steps.

18
Agriculture income will only be subject to the definition when grown in India. Foreign
income can’t be a part of the Indian taxation system – The idea was to avoid double taxation.
For generation of India outside india, territorial integrity had to be seen. This question arose
because in countries like Malaysia many Indians had lands, and they were not paying taxes
anywhere. After the amednemtn, it was cleare that they had to pay taxes in the foreign
country and not in India. However, this is also subject to DTA.

The number of times taxes can be imposed – the state can do anything in the context of taxes.

Illustration – S is the manager of a company which deals in agricutlrual products. She is the
director as per the minutes. The agreement says that if a certain amount of income is not
generated, then the company is free to fire the director at any point of time. If she improves
the production by five times, then she’ll get 10% profits. She has also invested in the shares
of companies which deal in agriculrual products – say Monsanto. Also, she also worked on
the land to increase the production. She also sells the agricultural products in shops. What all
here constitutes agricultural income?

There is no stricto senso straight-jacket formula to identify.

A director is receiving salary as per the agreement with the company. the source of income is
not direct but by way of an agreement.

9:57

For the company it will be agricultural income, but for rest of the persons, it will be a
different format. This different format is not through an overriding title.

When it is said that she can be fired at any time, there is no direct linkage with the land – she
is not the owner and not the lessee. She is on the land only on behalf of the company. this is
crucial because relation with the land will determine whether or not it is agricultural income.

If it is a case of application of income, she is in anyway going to receive and it will eb a case
of agriculrua income – this will be direct link with the land.

Two ways of establhsing link witht the land

Direct link with the land – person tilling the land on their own. If this happens, then the
income will be agricutlraul income.

19
If a person is not directl tilling the land, then if in anyway the person receives any income, it
will not vbe agaricultuel income.

Even in the case where she is gerself tulling the land but as a manger, it will not be a case of
agriclural income.

The link has to be there in the sense of a direct link.

Illustration – Sub-letting – in usufructuary mortgage,

From a single land, two persons can generate income. One through rent, and the other
through revenue. Big farmers – bataya system – land is given to others and the big farmers
through rent. Both will be agricultural income.

S took land on usufructuary mortgage. S gives it to R for agricultural purposes. R instead of

that, builds a gym and mall on the land. The agreement is for agricultural income. This is a
violation of the lease rights. R also started prostitution in the building he had constructed.

In case of sub-lessee, if the land is used for agricultural prupsoses, then the income will be
agricutlraul income.

10:12

In case of U mortgage, the link is not direct. This kind of mortgage does not transfer the land
but merely says that income will go to the person and once repaid, the ownership will go back
to the original owner.

If the direct link is missing, then any income received in any way won’t be agricultural
income.

Premier Construction Co Ltd v CIT, Bombay City – 1948 16 th Volume of Income Tax Report
Page no. 380 – Privy Council –

Bacha F Guzdar v CIT Bombay –

Rohit is producing in the lab some roses, and different types of seeds. Is this a case of
agricultural income? (nothing like soil has been used here) –

S is receiving the profits and N is also receiving. They live in the city and have no idea of
what is going on in the village. They have been filing their returns accordingly.

Revenue and Living Rent

20
 7th March 2022

U Mortgage – it is not about taking the agricultural land. In villages, the person was either not
there or was in a position to not use that land properly. Many corporates take such land on
mortgage and grow stuff – it will be agricultural income only.

Illustration – there is a wakf board. It has a trust property, which is agricultural in nature. The
wakf board is earning through this property. The trust deed is getting the income from
agricultural. In the deed, it is mentioned that whatever income is there, 10% will go to the
person taking care of the land.

Premier Construction Case –

Bacha F Gulzar – SC – Page 39 - the principle to be derived from a consideration of the terms
of the Income-tax Act and the authorities referred to is that where an assessee receives
income, not itself of a character to fall within the definition of agricultural income contained
in the Act, such income does not assume the character of agricultural income by reason of the
source from which it is derived, or the method by which it is calculated.

If agricultural income as defined in the act is there, then we will not look at the source and
method. It has to first fall under the definition of agricultural income, and then we will see
whether source and method is there or not. Source and method are two things – source is
basically the type of agreement – business and profession, agricultural income, etc. If the
thing falls under the definition of agricultural income, we will not look at the source.
Suppose a person is himself tilling the land, then we will not look at the source. On the other
hand, method is the tax strategy that you’ve applied. For example, in the case of usufructuary
mortgage, this is a method that one has followed. If a person is not falling under the
definition, then in whatever way the person is receiving, either by source or method, it won’t
be a case of agricultural income. Our only concern is that it has to first fall under the
definition of agricultural income. There may be a chance that the income by itself may not be
a case of agricultural income.

There may be a chance that the income won’t appear to be agricultural income. If it’s a tax
strategy, it won’t be a case of agricultural income.

A director is on contractual terms with the company. If the director is the actual owner, then
it might be treated as agricultural income. If a person is tilling the land and is not receiving

21
any revenue for that, then no tax would be payable on that. Only money can be calculated and
not time.

There are two types of directors. Firstly, effective director, like Mukesh Ambani. In such
cases, the rent will be attached with ownership. If a company owned by Reliance is producing
agricultural products, then Ambani can claim it as agricultural income. If the director can be
fired, then there is no control; earning only under contractual obligations. For revenue
generation, the director is getting a salary. This salary has nothing to do with the agricultural
produce because he’ll receive that amount regardless; nowhere it has been mentioned that he
won’t get his salary if there is no produce. Secondly, scientist director. They use strategies
and after a couple of years produce will be there. A director gets a salary for managing the
growth of agricultural produce and not actually working on the land.

NOTE – If the contractual term is that the director has to till the land, then it will be a case of
agricultural income.

NOTE – Effectively, whenever the director will work, income will be generated but it will
not be in terms of money.

NOTE – If the contractual terms say that 10% produce of the land would be yours, then
agricultural income. If the contractual terms mention salary plus something in addition, then
it won’t be agricultural income.

If the director works for even 2 hours on the field, then a direct link will be created. Once
there is a relation in the context of revenue derived from land, it can include multiple things.
By any source or method, it will be a case of agricultural income.

In this context, the intent is in relation to rent and revenue. Here, you just need to check if the
definition of agriculture has been fulfilled. If it is agriculture income as per the act, then you
won’t look at the source and method.

If the contractual terms say that the director has to necessarily work on land for a few hours,
then it will be agricultural income and there is no need to look at the source and method.

Revenue can be generated from land in multiple ways. Partnership, company, LLP, sole
proprietor, JVs, etc all can generate agricultural income.

For example, in a partnership firm, the partner’s duty is to work on the field. In such cases,
the income generation is not through partnership.

22
Illustration – A and B opened a partnership firm to trade in grapes. Waleed is working on
grapes. A and B will procure grapes from Waleed and trade in it further. Revenue should
come from the land. Revenue from trading activity won’t count. This is why the method used
plays an important role.

The moment there is an MoU and the partnership is reconstituted, everyone will be an owner
and the total income will become agricultural income.

Bataya System – the bataya holder has a huge land. They generally employ several people to
work on it.

When assessment proceedings start, one may argue that they were not aware that the land
won’t be used for agricultural income. It was not their intention. This is the only situation
wherein the requirement of intent arises.

Illustration – Shruti takes a land from Tanisha. Builds building. Gave it on rent. Huge income
generation. The mesne profit will be the amount that arises from legal activities. Section 2
CPC defines mesne profits. In the context of agriculture, it does not have much relevance.

8th March 2022

Illustration – Shruti entered into a contract with Rohit. The land owns an agricultural land. He
doesn’t do anything with it and it becomes a barren piece of land. Shruti is claiming her
income as agricultural income without even checking out the land. Signed the lease as well,
but everything through emails and phone calls. At the time of filing the income tax return, she
mentioned around 15 lakhs. However, this income is just on papers. The land is agricultural
land as per the Patwari accounts. Now, the assessing officer is confused. He is making a case
that this does not amount to agricultural income. There is no systematic agriculture on the
land. Will the 15 lakhs be a case of agricultural income for Shruti? Will the 2 lakhs received
by Rohit as lease amount be a case of agricultural income?

Rohit has opted for a colourable device so that any revenue showed on it will be termed as
agricultural income. What if Rohit thought that Shruti will till the land for the purpose of
agriculture and he leased the land accordingly? –

It must not be termed as agricultural income, not only due to the definition in the IT Act but
also by the definition given by Sir John Behnot. If it is not agricultural income as per the IT
Act, then by any source or method it won’t be agricultural income. In this case, both incomes

23
won’t be agricultural income. Even if it is shown as agricultural income by source or
colourable device, it won’t be agricultural income.

Whenever you file voluntary return under section 139, the AO will look at it. If the AO is
fine, then a notice will be issued stating this. If not, then AO will look into whether it is actual
agricultural income or not. One agricultural income is which you will earn directly from the
land. But most of the big farmers do farming in the name of a company, and the produce is
sold to another company which also belongs to them. This company will later export the
product. There are multiple layers to this – companies, HUF, partnerships.

Palaniappam v ITO Ward No. 2, Salem – Madras HC – 2021 – lifting of corporate veil –
2(1A)(2)

CIT v HG Datte – similar to above judgment. Both cases to be read later.

Rent is convenient to look at. Revenue requires the application of principles.

Jinesh (HUF) v ITO, Ward No. 4 – 2021 – Taxmann 126 – Bombay HC –

Section 2(1a)(3) [to be read with Section 2(1a)(2)] – What is agriculture? – Whenever any
agricultural produce is produced, only the sales from that will be agricultural income. Any
conversion of that won’t be agricultural income. This is why the farmers have companies.

For example, potatoes are grown. But instead of selling them into local markets you sell them
abroad. What if they are converted into chips? What about this income?

Three situations?

If potato is of good quality, selling it to factories for chips.

If potato is of bad quality, selling it to local mandis.

You are yourself converting the potatoes into chips

The moment you sell good potatoes to factories, they’ll give you a higher sum of money. If
the costing of bad potatoes is around 10 rupees, you’ll sell it for 2 rupees. Big farmers don’t
sell their produce in the ordinary market. They directly sell them to big factories. Will the act
of selling the produce to big companies make a case for agricultural income? – Or only
ordinary market will make it a case of agricultural income?

Illustration – Sugar Cane – it has small junctions, the more gap between junctions, the better
it is. It lasts for 2-3 days. Tanisha sells hybrid sugar cane to Shruti. It is of bad quality. The

24
actual market of sugar cane is sugar mills. Since the quality of sugar cane is bad, the factory
refused to accept it. They offered a lower price. She could not take it to any other place
because it would lose its sugar. This was the first scenario. She converted it into jaggery due
to the bad quality of sugar cane and sold it. Tanisha comes up with another hybrid. In the
second scenario, instead of selling them to sugar mills, she decided to convert them into
jaggery and sell them herself. She intentionally didn’t approach the mills. In the third
scenario, from her agricultural land, the market is very far. Therefore, Tanisha converted that
into jaggery. Which will be agricultural produce?

If we allow other than ordinary processes to be included in agricultural income, then

everything can be included in agricultural income. Whenever you are giving a benefit to a
particular class, the objective is to be provide benefits by not taxing small landholders.

Even for sugar cane, a lot of markets exist. There will be no limit. Therefore, the basic
principle is that of ordinary process and ordinary market. The objective of IT act is that it is
presumed that farmers do not have means. They produce and search for ordinary market. The
benefit is for them only. There is a thin line difference. Should not go beyond ordinary
process.

First and third illustration would fall under agricultural income. Only utility was to make
jaggery out of it and therefore, it was a case of ordinary market. Similarly, in the third
scenario, it’s ordinary market. Any change in the ordinary process would spoil the food.

E. Palaniappan v ITO Ward no. 2 Salem – Madras HC – Section 2(1A)(2)

CIT v HG Date –

9th March 2022

Lease amount is treated as agricultural income. Will money generated from transfer of land
be treated as AI? – Transfer of land will not fall under the definition of agricultural income.
This will fall under the category of sale of land, even if it is in reference to agricultural
produce.

Illustration – Shruti took on lease the land of Varnika. She paid the rent on time for one year,
but didn’t pay anything in the next year. As per the agreement, she has to pay 15% interest on
the arrears of rent. After one year, Shruti pays the entire rent amount along with the income.
Will the interest amount constitute agricultural income? – Interest will not be a case of

25
agricultural income. Any amount over the rental amount will not be a case of agricultural
income. Arrears of rent is a separate head altogether; penalties and fines are different. Only
payment of arrears of rent is agricultural income, but not any interest on it.

At times, the rent also includes water bill, electricity bill, etc. Therefore, it is necessary to
review such agreements. Vicinity buildings are also given on lease for the purpose of
agriculture. So, whatever the rent is, it has to be seen if it is inclusive of things like the
vicinity building. This is the duty of the assessing officer.

NOTE – A sale deed can be created only with respect to those properties which can be sold.
There is a difference between general transfer of land and a sale deed. A sale deed has to be
registered. Generally, agricultural land is not transferable.

Illustration –

Income from Shares – won’t be a case of agricultural income. If the shares belong to a
company earning agricultural income, then the dividend received from it won’t be
agricultural income.

CIT v Raja Bahadur Kamakshya Narain Singh – 1949 – Arrears of Rent

What is Agriculture?

There is a primary and secondary stage with reference to agriculture. Primary stage is the
tilling and sowing of the land. Secondary stage differs from crop to crop; activities performed
to take care of the crop once it grows a bit. Section 2(1-A)(2).

In a local jungle, there can be various types of trees with fruits. One visit the jungle every day
to eat those.

Shruti has a jungle. There are some trees in which she did not invest anything and they grew
on their own. She is just cutting and selling.

In another scenario, there are trees which she didn’t grow but is taking care of them by
appointing a guard. She is also getting other smaller things done.

In the third scenario, Shruti is intentionally growing the trees knowing that it’ll take years to
grow but then she’ll sell.

In the fourth scenario, she is cutting and selling but is also growing fresh trees. The idea is
that the jungle will remain there.

26
Shruti takes Varnika’s rubber tree land for three years. She only took the trees and not the
land. She just collects taari (rubber juice) from the trees. She is not performing anything else.

The money generated from cutting and selling trees is not agricultural income.

CIT v Raja Benoy Kumar Sahas Roy – 1957 SC –

14th March 2022

In case of primary activities, it will always be a case of agriculture. In case of secondary

activities, there are various nuances that we need to look at to determine if it will be
agricultural income.

Illustration – Rohit has a land. He is a scientist. He has a business. Before explanation 3 to

Section 2(1), nursery income was not a part of agricultural income. There are various
judgments from various high courts that say different things. Now, every nursery income
(seedlings, saplings, etc) is also a case of agricultural income. Rohit is generating from
seedlings and saplings be performing primary activities. In this sense, he has the finest
possible seeds of red and black roses. He grows them in his labs, and transplants them in the
houses of their clients. He maintains them to the point that they no longer need care. These
are very expensive flowers. He initially provides primary activity, and along with that the
secondary activity of taking care of the plants.

NOTE – A turnkey contract is a composite contract. For instance, India wishes to build
aeroplanes or a petro industry. India would go for tenders in reference to turn key. To build
NLUD, various people will have to be approached. But instead of that, the person can
approach a single fellow and this person will procure the services of various others. This is a
turnkey contract. These generally take place in cross border transactions.

Rohit has a small nursery but it is very diligence. He is providing services to Nazrul, but he
only buys the flower. He is also giving services to Shruti. She wants to avail the maintenance
services as well. Here, income is being generated in two ways – by selling the product and by
providing monthly/annual services. One thing is clear that growing the flowers is a primary
activity and it will be agricultural income.

Illustration – If Rohit created those flowers without applying soil and water and merely out of
chemicals, then will it be primary activity at agricultural stage?

27
CIT v Raja Binoy Sahas Rai Case – 1957 – this case is famous for giving the test in relation
to primary and secondary activities. [the para in reference to nurseries in this case has been
supplanted by the definition added in 2007]

If it is from saplings and nurseries, it is agricultural income. If the income is generated from
the lab (agricultural produce is not a product of soil and water) will it be agricultural income?
Will the income generated by further services (AMC services) which are in direct relation to
agriculture be termed as agricultural income?

NOTE – Plucking is a different activity altogether. It can be related to secondary activities

but it can be independent as well. For example, Nazrul did everything but gave a contract to
cut and sell produce to someone in the market. This is the sale of a standing crop (moveable
property). As per TPA read with the General Clauses Act, sale of standing crop would be a
case of agricultural income.

In this case, the definition of nursery and explanation was added with the purpose of having
an objective test to identify nurser activities. This is why they have generally mentioned
seedlings and saplings. This will cover even lab activities. If anything is created in the lab,
and no soil and water is used, it will be agricultural income. The by-product is agricultural
produce. Secondly, applying primary activities, secondary activities and differentiating
secondary activities from service activities, once primary activities are performed, it will be
agricultural income. When you provide secondary services, these are not secondary activities
but different services altogether whose sources is based on AMC (Annual Maintenance
Charges). There may or may not be the requirement of performing the service.

After the Plant Varieties Act was passed, different labs came up in India. In many parts of
India, there are nurseries which are hybrid in nature – they mix-match between nurseries and
labs. Therefore, now, stricto senso exact definition of a nursery is rarely present. Therefore,
an explanation was added in the IT Act. When we talk about labs, the activities may not be
limited to the typical lab activities. If there is no objectivity, people will not take up these
professions – subsidiaries are needed in such professions (nursery, cold storage, etc).

Income from a jungle can arise in various ways:

1. not doing anything – just cutting and selling – won’t be a case of agricultural income

2. cutting and sowing seeds simultaneously

28
In cases where you performed secondary activities in a peripheral manner – for example,
there are mango trees in your jungle. People often pluck them, so you hired security guards
and gardeners. They just ensure that there is proper water and there are no pests. They are
taking care in a limited sense. Will this be a case of agricultural income? – this question is
subject to two things. Firstly, any activity performed, like providing spray of pests, it will be
agricultural income. But if they have just provided the security guards and canal, it won’t be
agricultural income. So, secondary activities can make it a case of agricultural income but
these activities have to be performed.

The process of sowing and harvesting in the nursery will be agricultural income. This was
after the amendment. Earlier, conflicting judgments were there.

Secondary Activities – these are related to agriculture

Secondary Services – these may or may not be related to agriculture

For example, the contract of AMC does not say that you have to grow the thing. You enter
into somebody’s house and perform AMC. So, it will be non-agricultural income.

If maintenance is in your own land, then agricultural income. If you are maintaining in
someone else’s land, then it is not agricultural income.

If you are providing maintenance services to someone and they are further selling, it won’t be
agricultural income for you but the person who is selling it can term it as agricultural income.

If there is a gardener, the income received by him won’t be agricultural income.

Illustration – Rice plantation. Secondary activity – agricultural income

Illustration – flowers on trees. The whole process would be agricultural income.

Jungle – poppy trees are wild trees. They are cultivated also at times, but at times they grow
automatically. To take care of such trees is also a business. Suppose that in Rohit’s farm,
there is an area which is taken on lease by Shruti. It is not that poppy trees will grow in a day.
She did not perform any primary activities. They grew automatically. Performing secondary
activities by taking care. This will be a case of agricultural income.

There is no direct or initial market of tobacco.

Illustration – some rubber trees are growing on Rohit’s land. Shruti takes the land on lease for
three years. She merely has to take something from the trees and sell them in the market

29
(what if she is collecting and selling coconuts?). The lease amount will be agricultural
income for Rohit. For Shruti, (left for the next class)

At times, ownership is necessary to understand the nuance. If ownership is clear, then you
can understand whether or not primary and secondary activities have been performed.

15th March 2022

Will compensation received with regard to agricultural land be treated as agricultural

income?

Illustration – primary activity took place on a certain land. However, an earthquake

happened. Received compensation from the government for crop damage and borewell
damage.

Illustration – the government is taking back a land used for agricultural purposes in pursuance
of the land acquisition act and is paying compensation for it.

Suppose Tanisha performed three activities. Performed primary activity herself. Appointed
someone to perform secondary activities. The moment it was about to be cut, the crop was
destroyed due to an earthquake.

Which case of compensation will be subject to agricultural income? – Primary? Secondary?

At the stage of threshold (last level at which the crop is to be cut and sold)?

Compensation is not qui pro quo for the crops. It is not an actual cost at all. At times, it may
be lesser than the actual cost incurred in the agricultural activity.

Illustration – There is a Rohingya refugee in India. They were given a land for residential
purposes but they used it for agriculture. It was subject to failure due to unforeseen
circumstances. They received compensation from the government. Will this be a case of
agricultural income? – if one has to give compensation, it would be for residential purposes.

Whenever there is a produce, there has to be a link between the produce and the land. There
has to be a culture of agre. Once this link is there, in reference to Section 2(1A), the thing has
to be fall within the meaning of the definition. At the level of primary or secondary if a
person is performing any activities, and there is destruction of crop, though the amount is in
nature of compensation it is for crop that has already been generated. Therefore, this
compensation will be a case of agriculture income.

30
Refugee Illustration – If the land where they are working and generating the income by
selling agricultural produce, and now the crop has been destroyed, any compensation will
make a case of agricultural income. Their nomenclature of being a refugee won’t make a
difference. Section 6 of Income Tax Act says that whomsoever has completed 182 days in
India will be a resident for the purposes of Income Tax Act. The fact that the land was for
residential purposes but used for agricultural purposes would also not make a difference
because of Sir John Behnot’s definition. When it will be a case of searching for whether there
is a residential plot and using it for agriculture, the direct link will be established with the
land and the source and method won’t matter.

NOTE – Threshold will depend on the context. It also depends on your persuasive skills.

Union of India v SM Reddy – 1999 240 ITR 341 SC – income from transfer of land is not
agricultural income. However, compensation from agricultural land is agricultural income.

Even if the government is acquiring the land for any purpose, it won’t be agricultural income
because the nature is not direct. The source of income is agricultural income, compensation
towards that will be agricultural income (43:00, didn’t understand)

Compensation by government for land acquisition would be a case for agricultural income.
The source is agricultural income.

When you are transferring the land without keeping in mind agriculture has the benchmark, it
would not create a case of agricultural income.

If a person is doing agricultural and the government is compensating by acquiring the land,
where the choice is not there and no capital gain, then such compensation would be a bit
more than cost of agriculture but it would be treated as agricultural income.

Though land is given to you and you generated better income, it will still be agricultural
income. At both levels (crop destruction and acquisition, it will be AI.

If there is a borewell, there is a boundary wall and other things too, if the primary activities
and secondary activities have taken place and due to an earthquake damage is caused, if you
receive compensation for it, it will make a case of agriculture. If you remove agriculture from
the equation, then it won’t make a case of agriculture.

Whether dairy farming constitutes a case of agricultural income? –

NOTE – Fisheries won’t make a case of agricultural income.

31
Marine Plants – Agricultural income

What about fisheries from rice field?

Section 2(1A)(iii) – the land and buildings used within the vicinity of agricultural land will
make a case of agricultural produce.

16th March 2022

There are two ways in which land attached (which consists of a building) to an agricultural
land can be used. Firstly, use the building to store things. Secondly, use for other purposes. If
the land holding is big and outsider farmers are coming, they can live there – you provide
them lodging facilities at the storing building. If the landowner charges electricity and water
fee and a small rent, then income will be generated. So, one is the actual rent and the other is
lodging charges. Both the things will generate income. Which of them will be income?

NOTE – land apartment is attached, whereas vicinity is something that is nearby

In hilly regions, municipal areas have various demarcations – if the land falls under the
municipal area, it won’t be termed as agricultural land.

If the person is coming from Noida, you give them lodging services. Charge actual rent of 3k
and charge a nominal rent of 100 rupees.

The dwelling house is in the context of the owner. If the owner is using it, it won’t make a
case of agricultural income. This is because when we talk about income from house property,
there are certain nuances. If you have two houses, it is presumed that in one house you are
living and in another, hypothetical income is generated in the form of income from house
property and you have to pay taxes on that. This position was contested by Nani Palkhivala.
However, this is the law for the time being.

Similarly, the building can be used for other purposes like storing of crops, fertilisers, etc. It
can also be given on rent to others if you are not producing anything. This is known as
khatuni, which is the last unit.

People can generate income in various ways from the building. The term used is apartment or
vicinity. Within the rural setup, it may be near to agricultural land in a residential setup. If it
is in a residential setup, it can be used for various purposes. The area may be used for dairy
farming but may also be used for other purposes.

32
Giving dwelling units on rent won’t make a case of agricultural income. but if it is a big land,
farmers are working and living there, and you are charging nominal rent then it will be
agricultural income – charging monthly rent won’t be a case of agricultural income. [22:00, if
doubt arises] Minimum charges will be read within the vicinity.

If there is an area demarcated – each state has its own unit of measurement – this part is not
important. Only thing to remember is that any land falling under the municipal area would
not be agricultural land. This is because in these areas planning is fixed. Agriculture also
doesn’t take place in municipal areas because the land is very expensive. However, nursery is
a special category altogether and it can happen at any place. In a municipal area if a person is
doing culture of agre, it cannot be claimed as agriculture income.

Section 4 – charge on income – it says that total income of the assessee is subject to charge.

Section 5 –

Sections 4, 5, 6 – for residents

Sections 4, 5, 9 – for non-residents

Total income in India is based on schedular system. Any appreciation of previous wealth as
per five schedules will make a case of total income.

In the previous assessment year, if a person is in India for 182 days, then they will be a
resident for the purposes of the income tax act.

In the last four years, if a person is here for 365 days, it will be a case of resident (37:00, if
needed)

Three things:

1. In context of resident

2. HUF as a unit – searching for controlling and managing of affairs

3. company itself – if it is registered in India or place of effective management (the new

concept is significant economic presence)

Illustration – Varnika owns a company and is on a trip to India. Otherwise based in the UK.
During the trip, she launches a new product, fires a manager, and entered into contractual
obligations. Can this be termed as her significant economic presence in India? – people

33
invoke jurisdictions intentionally by this way. The problem of POEM and SEP arises this
way.

Territorial jurisdiction has to be challenged at the initial stage. The moment a case is filed,
decide the jurisdiction. Therefore, Section 6 becomes very crucial in this regard.

Illustration – Aditendra entered India. He’s a Sri Lankan resident. He was arrested in India
because of his business of narcotics. Came out on 138th day. He was very influential, and
during his jail time also he was conducting his business. Will he be a resident? Note that he
was not here for this long by choice.

Illustration – suppose that on the 181 st day the flight was supposed to take off, but due to
covid he could not leave. He had to stay here for a couple of extra weeks. Will this be a case
of residence?

There are certain technical things discussed by the judiciary. For instance, the day of arrival
in India won’t be considered for the purpose of 182 days. Secondly, the date and time of
leaving India is crucial; you have to be specific about 182 days. Thirdly, the section does not
mention anything about voluntary or involuntary stay. In reference to Covid, there are certain
guidelines issued by the tax authorities – an exception can be created only for that reference.
Otherwise, once there is non mentioning of voluntary or involuntary, it will be a case of
residence, even if the person is forced to be here.

21st March 2022

CIT v Madi Venkata Subhaiya –

In the context of CIT v Raja Binoy case, unless you perform primary and secondary
activities, it won’t be agriculture income. Even if you have performed secondary activities, it
will be agricultural income. Mere cutting and selling trees in jungle won’t be agricultural
income.

In case of tobacco, it grows automatically at times. At primary level, nothing was done. The
moment it was cut, for the next few months you’ll spend some amount on it. That will be
agricultural income. (12:32)

If you pick a land on lease with a number of coconut trees for the next few years, the income
generated from there won’t make a case of agricultural income if you are just picking and

34
selling. For the owner, the lease amount will be agricultural income because that person spent
money on trees.

Similarly, if you have taken rubber plants just for collecting rubber or tony plants, you have
not performed anything at the primary and secondary level. If there are minimum secondary
activities by securing the plan, it would not be secondary activity. It won’t be agricultural
income. Culture of the agre has to be there at the level of primary and secondary activities.

NOTE – Any of primary or secondary activity is fine.

When person is cutting trees but sowing seeds at the same time – it will fall under the
category of agricultural income. trees were already there but by sowing seeds, you are doing
culture of agre. Government generally issues notifications in this regard as prior permission is
required before trees can be cut.

Illustration – Devesh is filing returns. Generating income from tobacco. Claiming primary
and secondary activities. He doesn’t own any land nor has any land on lease. The AO can
here figure out that he is actually not spending anything on primary activities.

NOTE – The biggest issue in IPR is that there is no assessment. Every expenditure under IPR
is exempted.

Sakar Lal Naran Lal v CIT – 1965 SC – from the angle of understanding ordinary market and
ordinary processes.

Illustration – Devesh has a land. He decided not to grow rice. He planted a tree which has no
value in the context of the wood, leaves and flowers they carry. But he saw on the internet
that if he is able to grow a certain kind of European tree, then processing the leaves by cutting
them, putting under water, putting in air, drying them, dipping them in various chemicals and
drying them, the leaves can be comprised and cut and then sold in the Japanese market as
loufa. Will this be a case of agricultural income? However, this project was rejected by the
Japanese market because it was a bit short.

He is selling this to his own firm, and the firms is further selling it. How will the firm take
care of the loss?

Will converting the leaves by following a cumbersome process make a case of agricultural
income? This tree is useless otherwise.

35
If this whole process is followed, and there is no other way of making the product useable,
then it will be a case of ordinary process.

NOTE – Ordinary process in the ordinary market has to be seen in the context of the
agricultural product.

If the market is nearby, then it becomes ordinary market. For sugarcane, nearby sugar mills
will be the ordinary market. However, for some products, like herbal products, there is no
nearby market as such.

Once you convert and sell somewhere else, it would not be agricultural produce.

For example, Kerala herbs are not sold in India. They are sold in the EU and hence that
becomes the ordinary market for such herbs.

NOTE – if they allow sugar canes to be sold to far away sugar mills for a better price,
competition concerns will arise. The economy will suffer. This is why ordinary markets are
generally nearby. The provisions of the IT act are policy provisions.

NOTE – only ordinary product will make a case of agricultural income. if it is a changed
product, then you have to state compelling reasons for changing the product, and only then
will it be a case of agricultural income

The nature of sugar cane is such that it is difficult to make jaggery. In southern India, the
jaggery made out of sugarcane is not good and loses its medicinal properties. In the UP, sugar
cane is used for many activities.

K Lakshman and Co. v CIT – 2000 108 Taxmann – A person grew mulberry trees. They are
famous for generating cotton. On a mulberry tree, there was a silk worm. Whether income
generated from here will make a case of agricultural income if there is no other by-product?
When mulberry leaves are eaten by silk worms, it forms a cocoon. This is used to make silk.
The thread is used to make clothes etc. This is called cotton in the context that it comes out in
the form of cotton. It is then processed into silk. The shell life of actual mulberry is merely 15
days. You are growing for the fruit, but silk worms are a natural outcome of mulberry trees?
– Raja Binoy case – fisheries and other things won’t be agricultural income because they are
not direct agricultural products. Similarly, silk worms aren’t direct agricultural products.
They live their entire lives on mulberry trees and despite that it won’t be agricultural income.

36
 22nd March 2022

RESIDENTIAL STATUS AND TAX INCIDENCE

The concept of residence is dynamic in nature. India has scheduled taxation. Section 6
divides taxable entities, on the basis of their residence, in the following three categories:

i. Residents
ii. Ordinary Resident
iii. Not an ordinary Resident

Individual, HUF and Company – Ordinary – these are also dynamic concepts. There have
been considerable changes in the definition of the term resident. As of April 2021, the
concept of Section 6(1A) has also been added. Some authors like Arvind Dattar say that
Section 6(1) and Section 6(1A) conflict with each other.

i) Living in India

ii) Cumulatively here for 365 days for a certain number of years

the major shift was brought by s. 6(1A). they have tried to cover maximum boundaries
through this. it begins with a non-obstante clause. 15 lakhs – the amount mentioned in the
provision.

If anybody has to pay tax in India, they have to qualify has a resident. 182-day requirement
was there but 6(1A) nullifies its effect.

In 6(1), the term was resident but 6(1-A) uses the term ‘citizens’. This is not in the context of
the 182-day requirement that is there in 6(1).

The purpose of 1-A is to avoid evasion of taxes. People are aware of the requirements of 182
days and 365 days. But the question still remains as to whether there is a conflict?

If a person who is a resident of India is earning 30 lakhs and is not domiciled anywhere in the
world, then which section will apply? –

If income is taxed under S. 92A (transfer pricing provision), then there’s no need to revert to
Section 6.

6(1) – residents

37
6(1-A) – citizens – anyone living in India for less than 182 days will also fall under this
clause

The computation in 6(1) will be based on the natural computation in India. Under 6(1-A),
only a limited amount of income will be subject to taxes. The government wants maximum
number of people to fall under the category of residents as they pay more taxes. Therefore,
people will go more for 6(1-A).

Kuldipo Sing – Sarla Mugdal case – Hindu Marriage Act –

Vodaphone judgment – interpreted section 9 – wherever fiction is created, it has to be settled

or defined by the parliament only. Section 9 also talks about deeming fiction. Deeming
fiction cannot be read purposefully.

Explanation – if anyone is covered by 6(1), then there is no need to refer to 6(1-A).

In India, when you file your return, the assessee officer will not come and assess you. You
yourself have to assess it. if you have filed your return under 6(1-A) and it is computed by the
assessing officer, then you cannot revert. The government is estopped from saying that you
are a resident.

Quantification and allocation have to be certain. If there is any uncertainty, then it is not an
appropriate tax. As the act is becoming more dynamic, it is also becoming more subjective.

Section 6(2) – HUF – controlling and managing: to locate the place

Illustration -

If a person is living in sri lanka, but has a shared household in Tamil Nadu with inherited
property occupied by another legal heir,

Person living in Sri Lank in HUF with a business in the same country, but a number of
inherited properties in India which are involved in litigation. person enters in a contract with
Rohit to conduct a business in India. thereafter, the person went back to Sri Lanka. The entire
business is in Sri Lanka and he lived in India only because of the litigation. Will this be a
case of controlling and managing the affairs in India?

For the purpose of taking certain decision, the person hired a hotel room and conducted a
board meeting. In this meeting, a crucial decision was taken for the business being run in Sri

38
Lanka. It took 5 minutes to take this decision. Can it be said that there is a residence in India
on the basis of controlling and managing the affairs from India?

Control and management of affairs -

Section 6(3) – if the company is being managed and controlled in India, then resident

Place of Effective Management -

23rd March 2022

Section 9 is applied when someone doesn’t fall under the scope of Section 6. While total
income is subject to tax under Section 6, only specific activities are subject to tax under
Section 9 (incidents of income in reference to particular business transactions). There’s a
charge on salary, capital gains etc and that is why Section 4 is there. the section generally
talks of charge which arises as a result of one’s financial acts.

If the person is falling under Section 6(1-A), then Section 6(1) need not be read. [9:55am]

Choices are always in favour of the assessee. This choice is available to those who fall under
the category of 6(1-A). The clarification was given by the CBDT. However, it did not have
the power to do so because it related to deeming fiction.

Hindu Undivided Family Businesses

Controlling and managing the affairs wholly in India – HUF will be a resident of India for the
purposes of the income tax act.

Control and management –

A company incorporated in India automatically makes it clear that it has to pay taxes in India,
unless it is an associated enterprise. For associated enterprises, arm’s length transactions are
considered; transactions will be subject to transfer pricing provisions.

If a company is already subject to transfer pricing provisions (section 92), then it will not be
covered by Section 6.

Paradise Papers and Panama Papers – tax MoUs between companies to avoid taxes.
Multinational companies use section 6 for their own benefit.

1) The place where the power of controlling and managing the affairs of the HUF is
important. This power can be situated at multiple places at the same time.

39
2) If there are 5 co-parceners, then it’s important to determine the head of the business.

3) Control can also be divided. It’s possible that every co-parcener is controlling a particular
thing. In such situations, all the places where co-parceners are located will be subject to tax.

Consider the Sri Lanka businessman example. What will be the implications in the following
two situations?

When Karta enters into a partnership –

When co-parcener enters into a partnership –

Getting into partnerships is not a part of the activities performed by an HUF. However, if the
Karta enters into a partnership, it will be a case of controlling and managing the affairs. If any
Karta has taken a decision, then it’s binding on all the co-parceners. Further, the business can
be situated at two places. Even if he is here for litigation, it will be controlling and managing
in India because getting into a partnership is huge decision. In a special HUF where roles
have been defined and it says that a particular co-parcener has been authorised to enter into
partnerships, then it will also be a case of controlling and managing the affairs of the HUF.
The actions which will bound the HUF will create a situation of control and management of
affairs (vital decisions).

See if the notes are complete.

28th March 2022

Controlling and Managing the Affairs (can take place from multiple places):

i) taking any actions essential for running the business – these actions can be decision
pertaining to material contracts, board meetings, drafting of incorporation documents, etc

ii) actions of karta

iii) special powers exercised by coparceners

NOTE – The vital actions have to be in reference to the business being carried out by the
HUF. An HUF is recognised under the ITA as a separate assessee unit.

Section 6(3) – it has two parts. If any company is registered under the companies act, it will
automatically be a resident by way of incorporation in India. The second part associates with
a case of place of effective management (POEM). If POEM is in India, then it will be a

40
resident for the purposes of Section 6 and be charged under the ITA, unless there is a double
taxation avoidance agreement.

The criterion under this section is very subjective.

Illustration – S is a managing director. She goes to the Taj Mahal, along with her mobile and
tablet, which allows her to take business actions of a company registered in the UK; she
attended a board meeting, entered into a contract with another company, hired a sales
manager and hired three others. Can these decisions of termed as effective in nature, thereby
making India the place of effective management? –

CBDT Guidelines June 2020 – If any company has passive income in India but not more than
50% of its total income, less than 50% of total assets in India, less than 50% of employees in
India, or less than 50% payroll. This is the negative way to identify the place of residence;
objective test.

Section 6(3) explanation – “place of effective management” means a place where key
management and commercial decisions that are necessary for the conduct of business of an
entity as a whole are, in substance made.

In the UK, conglomerates are charged as a unit but in India, businesses are charged
individually.

First refer to the act, and then the CBDT guidelines.

Secondary Test – CBDT Guidelines – POEM is not applicable if the receipts do not cross the
amount of 50 crores.

Paras 4, 5, 6 and 7 are against the international practices. There was a protest against this.
Internationally, one is not supposed to lift the corporate veil.

Para 7 – secondary to test given in para 5.

International best practices generally provide for filing of self-return. If the officer has any
doubts, then they can seek clarifications. Nowhere in the world is there a practice of requiring
the entity to file profit and loss accounts if a certain threshold is met.

There is no relevance of duration under Section 6(3).

The decision taken by a person who themselves can be fired won’t have much effect on the
criterion of place of effective management.

41
POEM came after 2016. CBDT guidelines are there for that. The term effective management
is very dynamic in nature. Technological advancements will have a major impact.

29th March 2022

Section 9 – Income deemed to accrue or arise in India

It is a deeming clause. It is full of legal fiction. Therefore, if anything is present in reality,

then section 9 is not to be read. This section is completely hypothetical. If income actually
arises in India, then section 9 won’t apply.

Income is said to be accrued when:

i) mercantile system – in the profits and loss account, the transaction will be mentioned. Even
if you have not received the amount, you’ll enter it. later when the amount is received, the
amount will not be entered again.

ii) cash accrual base – quid pro quo. Create the entry only when you receive the income. This
takes place in the accounts book.

Accrual v Arise – accrual is always on an existing sum. Check the net. Arise is in relation to
the time when it arises for the first time – for example rent, monthly salary, bonus, etc.

whenever any entity is working, they will either go for mercantile or cash accrual. Whenever
you receive the income, you’ll mention it in the accounts. Till that time, it is debt owed to
you.

Four things mention in Section 9(1)(i)

a) business conncection in india

b) property in India

c) asset or source in India

d) transfer of a capital asset situate in India – this was due to the Vodaphone judgment.
Certain incomes were out of the bounds of section 9.

Business Connection in India

“Significant economic presence” – recent amendment.

42
Illustration 1 – Jatin comes to India by a cycle. Brings a bunch of stuff to sell and returns to
Nepal. Is this situation covered? –

Illustration 2 – There is a textile industry in Amritsar. Waleed is running an industry in the

UK. Jatin is behaving like a supporting person/broker who is helping the Amritsar industry in
finding dealers. Jatin is also assisting Waleed. Due to Jatin, does Waleed have a business
connection in India?

Is helping or assisting in concluding the contract, through a person, sufficient to say that there
is a business connection in India?

Illustration – Nike is helping a local company in fulfilling the contractual obligations of Nike.
Can we presume that since the executive officer of Nike was present in India, there is a
business connection in India?

Explanation 2(a) – added after the voda case

Illustration – Jatin is the dealer of Nike shoes in India. he used to place collective orders with
Nike. He got 10% commission on every pair. After 10 years, he decided to change his
business structure. He went independent. Now, he is collecting the orders, giving it to Nike,
and delivering it to people. Earlier, he had a license to sell. Now, he is not under the
obligation of a license. This is restructuring of the business where the outcome remains same.

In the first case, Jatin was having an economic presence in India. he was in a position to
habitually contract. In the second case, Jatin became independent. 51:00

shoppers’ stop – enter into independent contract with shoe vendors and have different places
for them. they have licenses with each of them. the other category is of open shops.

NOTE – All business with a business connection will automatically have a significant
economic presence. Both the things have to be proved though.

Raw Material Company – a UK company gives an order to an Indian company to

manufacture something. If the unit is working only for the UK thing, then it would be
significant economic presence. But if they show on papers that there are others involved apart
from the UK company, then it would not be a case of significant economic presence.

In the above examples, the MNCs are saving their taxes.

43
For every income generated, at least in the context of incidence of income under s. 9, as per
the OECD model tax nation treaties, tax has to be deducted at source. Wherever the income is
generated, tax would be paid. But this is not applicable to royalty. Royalty is taxed on the
basis of the resident. In most of the cases, royalty is generated where the IPR exists, which
generally is in developed cases. So, if in India royalty is generated, the amount will go to the
developed nations as per the Double Taxation Avoidance Agreements.

30th March 2022

Section 9 is constantly being developed keeping in mind the technological advances and
innovative ways of carrying out business activities.

‘from’ test – direct – income coming from a company-have to be present in the company

‘through’ test - indirect

Vodaphone – telecom companies need infrastructure to operate. An office is necessary. They

have many offices in India. The company is registered in Mauritius. A company from the US
took over. Later, a Japanese company took over. All the take overs were through transfer of
shares. The cause was in Mauritius whereas the effect was in India. The entire structure
changed without coming to India. What happened through this transaction was that profit was
generated.

If an MNC has one of its offices incorporated in India, then the transfer of shares would be
limited to that Indian unit.

Earlier, there was nothing called a ‘look-through’ test; any generation of income was absent.
Section 9 now creates a deeming fiction, which can only be expanded or restricted by the
Parliament. The Parliament came up with the Direct Tax Code. However, when the
Vodaphone judgment came out, the direct tax code was not there. If there is any gap in
income tax law, then the assessee would get the advantage (general principle).

OECD – worked towards uniformity in collection of taxes. 2016 onwards, India has followed
a series of developments in relation to Section 9, especially for transactions in the digital
economy.

Significant Economic Presence – created from the perspective of the internet regime. For
example, Google. If there is a Google ad on your device and you order anything through that
ad, which is then delivered to your place, then should the company pay tax in India or not? –

44
Equalisation levy – 2016 inserted, applicable from 2018 – earlier, there was opposition from
many MNCs. But then Google starting paying it. Since we are not in a position to impose
taxes on some transactions. Section 9 has its limitation. some things might fall outside its
scope. To cover for the consequences of ads example, a flat rate was created – equalisation
levy – whenever any transaction happens in India or in reference to India, this levy will be
charged.

It was argued that this levy should be a part of DTA. If the DTA is silent on that, then the
Parliament cannot come up with taxes on the outside. This amounts to tax on tax. Generally,
a DTA mentions what all is to be taxes. If you generate any income, you have to pay taxes on
it. But you are now also imposing income on the transaction. Thus, both the transaction and
the income are being taxed. In the name of a levy, the government cannot ask for tax on tax.

India also received a notice from the US State Trade Practices because of this levy. India just
responded by saying that India is a sovereign nation and can do this.

Two arguments summed up:

i) double taxation

ii) in violation of international norms like DTA – a DTA is a negotiated treaty between
governments.

Finance Act 2016 – Chapter 13 (check once)

Significant Economic Presence –

Section 9(1) – Explanation 2 -

Earlier, Section 9 used to be objective. Now it is becoming increasingly subjective.

Subjectivity is always in the domain of lawyers. Wherever power of attorney is given in
reference to conclusion of contracts in relation to non-residents, such things would be
included. But now it is not just limited to power of attorney; scope increased.

Earlier, there had to be a direct contractual obligation which could be seen through a GPA;
the person in India is authorised to sign. So, people came here but didn’t sign anything
although they negotiated and stuff. But such cases are now covered by the phrase “plays the
principal role leading to conclusion of contracts.” The non-resident will play the principal
role – there will be authorisation but it may not be direct.

45
Explanation 2A – discusses significant economic presence – also talks about provisions of
download of data or software in India – Kaspersky, Norton, McAfee, etc are also now
covered – the software is stored in clouds and now that has also been covered through this
explanation – any non-resident transacting in India will be covered. Earlier the point of
habitual contracting was there, but now we’ve moved to a position wherein no link is
required between the people – only the transaction has to be seen

NOTE – Section 9 applies only when there is DTA. India has a DTA with every leading
country, which does not cover Section 9.

Explanation 2(A)(b) – this is not just for social media but also for lawyers, management
services, etc.

Only the provisions related to evasion of taxes have an overriding effect over a DTAA. For
example, Section 92 of the act.

46
 4th April 2022

TRUST

If there is any income generation from trust, then it is not subject to taxes because of Section
11. Section 11 is applicable differently to different financial years due to various
amendments. It is not retrospective in nature though.

Only income in reference to the objectives given in the clauses would get the exemption from
total income.

Illustration 1 – Nupur has created a charitable trust of 1 crore rupees for weddings. She says
that preference will be given to her family members. There is no income being generated
here.

Illustration 2 – Nupur is running a company and creates a trust for scholarship. It is meant for
the children of the company’s employees willing to pursue medicine in Europe. However, the
children of Nupur’s siblings (also working in the company) are the ones availing the benefits
of the trust. Would this be a case of charitable purpose?

There are various ways of running a trust. If a trust is created for 1 crore rupees, then it
already has a corpus. Whatever investment the trust would make from that one crore, the trust
will generate from that. If it is merely generating an interest amount, then such interest would
be its income.

ARSD College Trust – Antriskh building in CP. The rent generated from this building goes to
the ARSD trust. Income diverted from the source itself.

Ways of generating income:

1. Corpus
2. Investment of corpus in some other areas
3. Funds

If the beneficiary is a relative or family member of the person who created the trust, then it
will not be a case of trust. There is a need to lift the corporate veil. It is to be seen if the use
by a family member is only incidental.

In the 30s and 40s, religious trusts were created for building temples. The donations received
by the temples constituted the trust’s income.

47
Illustration 3 – Nupur created a trust to build a temple. But the trust deed says that here all
religious functions of the exclusive family will take place. If an entire community is picked,
then it’s fine. But if a particular family is selected, then the corporate veil can be lifted. Any
income generated in this scenario will be subject to tax.

Incidental Use – scholarship trust but the toppers turned out family members. It will still be
termed as charitable. However, if something shows that this wasn’t incidental, then it won’t
be a charitable purpose.

Three things are to be looked at:

1. The objective – it has to be clear.

2. Beneficiaries – whether there is a linkage between the ibjecive and the beneifcias
3. When the corpus is created, who is responsible for the income generated from the
corpus

If income is applied to a corpus, then it won’t get any exemptions. Giving money to the
corpus is different from giving money to a trust – this shows that the person is trying to
influence the trust. For example – a person says that the amount being generated should be
transferred to a specific thing undertaken by the trust. When this happens, the person is going
beyond the purpose, i.e., to donate. The money has to be given to the trust and the trust will
decide where to invest that money. This was added by an amendment.

Ganga Ram Hospital – most of the special wards were created by donations. Created for the
public but with preference for the family which expanded the ward.

Section 11(1) – Explanation 2 – specific direction that it shall form part of the corpus shall
not be treated as application of income for charitable or religious purpose.

People used to create trusts but beneficiaries were their own family members. It was picked
by the authorities and the act was amended to say that it has to be a case of public utility.

5th April 2022

Illustration – Rent being generated from the property. Sub-tenancy created on the property.
The income generated will be subject to tax, but who will pay this tax?

The law says that if anything falls under Section 11, it will not be a part of the total income.
There are going to be situations where property would be transferred in a trust, but de facto
control over the property would be with someone else. In such cases, it won’t fall within

48
Section 11. If there is a revocable transfer, then they will start transferring properties in the
name of trusts but the ownership would actually belong to the assessee only. Sections 60 to
63 cover those cases where the property has been transferred but actual control remains with
the transferor.

Once an income is subject to trust, then the objective of the trust cannot be changed. If at all
the objective has to be changed, then an application has to be moved before a civil judge
under Section 92 of the CPC. This generally happens in those circumstances where the
objective of the trust has been completed.

Section 13 provides that the purpose of a trust has to be public in nature.

Illustration – Swimming pool created for public utility. Under the trust, the person who
created the trust is allowed to save refreshments.

Is charitable purpose limited only to humans or animals as well?

Illustration –

6th April 2022

Charitable and Half-Charitable Trusts

CIT v Krishna Warrier – 1964 SC – in the context of property –

When a trust has several objectives – some charitable and some non-charitable – the total
income would not fall under the category of charitable. This is the dominant purpose test. If
the dominant purpose is charitable, only then would it get the exemption. If there is any
discretion with the assessee, then it would not be charitable. The trust should primarily be
working towards charitable purposes – there should be no discretion in this regard. If there is
discretion, then charity being the primary objective would not matter.

Illustration – Swimming pool business. The MoA says that the director has the power to enter
into agreements for selling refreshments, clothes, etc. It says that if there is ten times profit,
then 0.5% will be used for a specific purpose. This gives an idea that they are not primarily
working for the swimming pool but for the sale of other things. The idea is to develop the
profit margin.

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NOTE – Ancillary activities if clubbed with the dominant activities would also be exempted
(say income generated from a canteen in the swimming pool complex).

CIT v Breach Candy – Mentioned in the class. Didn’t discuss.

50
 11th April 2022

SALARIES

Section 15

If there is an employer-employee relationship, then the income received out of this

relationship would be termed as salary. It is to be seen who will pay the salary. If the
employer tells their employee that they will get 2 movie tickets each month in addition to the
fixed salary, will that be termed as salary?

Salary is a dynamic term. In the context of the government, it is straightforward because the
terms and conditions are uniformly applicable. But in the private sector, they want to retain
their resources. Accordingly, they will have to pay more to retain the best. Thus, right from
the beginning, the moment anything mentioned in Section 15/16 is demarcated by the
Parliament, private employers try to deviate from that. For instance, they give movie tickets,
grocery coupons, etc. Private organisations create alternative sources of income in this sense
to retain talent. With the passage of time, the government became aware of such tactics.

Section 15 defines three things:

Due course

Paid already

Arrears of salary

Wherever mutual contractual obligations are present, the partnership act will not apply. There
can be a salaried partner although there is no such concept in the partnership act. In the
income tax act as well, the concept of salaried partner does not exist. So, a salaried partner
has to file their return under the head of business income.

Illustration 1 – Saika got a job offer from Trilegal at Day Zero. 20 lakh package. She got one
year’s salary in advance. She then goes to CAM, and gets one year’s salary in advance. Same
for Khaitan. She goes to London and joins HSF. They are also paying her a salary.

Illustration – She is asked to not join the firm. However, she has already received the salary.
Will this be treated as salary in advance?

Illustration – Advanced salary is given to prepare yourself to work at the organisation.

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If you are working in a law firm and due to any reason, you choose to leave, at times a certain
amount of salary is given in advance.

NOTE – Lawyers generally prefer to be hired as consultants so that they can opt for the
business head under the income tax act. This also benefits the company as the lawyer will not
be covered by various labour regulations.

Illustration 2 – There is an employer and employee. Nupur is the employer and creates a
superannuation fund for Ishan. If he works for 60 years in the firm, every month 5000 rupees
will be given. If he retired before 60 years, then he won’t get anything. (30 minutes
recording)

When he files his return in the 22nd year, …

Whether the 5000 rupees be termed as his salary or not?

Any amount given in the context of an employer-employee relationship will be treated as

salary. This also includes any amount given in advance. A person can also have multiple
salaries. This salary can be given for any reason and as long as it is given out of an employer-
employee relationship, it would be treated as salary for the purposes of the income tax act.

In the superannuation example, Ishan will have no control over the sum for 60 years.

12th April 2022

Section 17

Section 17(1) – Salary

Section 17(2) – Perquisites

Section 17(3) – Profits in lieu of salary

Compensation for loss of employment – a natural disaster destroys the office before you can
enter it for the first time – you were not in employment at all. Here, compensation is not from
the employer, who himself has also been killed due to the disaster, but rather from the
government on humanitarian grounds. There is no office to work but not his fault. Hence, he
is getting compensation. Here, it will not be salary. There is no employer-employee
relationship in existence.

Illustration – there is a PSU. For 6 months, they have not given any salary. Government then
gives compensation for those 6 months. Whether this is salary?

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Test for Salary – where there is an obligation of employer to pay the employee, it is a salary.
This obligation can be contemplated in the agreement itself or the general rules of the
employment.

Ex gratia amount received in lieu of employer – employer relationship with obligation to pay
= salary.

Government compensation is for loss of employment or the amount to be paid for 6 months
until new management takes over the PSU? – In either case, the compensation will be read as
salary since the government is responsible to look after the employees and is thus paying.

Illustration – PSU is disinvested, and a certain salary is there. The government is not obliged
to pay if private player lays off after acquiring control. However, interim measures to look
after during transition of control will be salary.

If employer gives – then any compensation is salary. Issue is where govt. gives
compensation.

Where there is no employment and govt. pays – then it is loss of employment and not salary.

Where obligation on govt. – then salary.

Illustration – one organisation – into teaching. Another organisation – very old – for religious
purposes teaching – no profit earned – registered also – On paper there is salary fixed also.
When we go to bank accounts – there is nothing. In another case – they get salary but they
give it back to the organisation. Which of them will be a case of salary –

Another situation – where they have directed the authority to cut 2 percent from their salary
and give it to the organisation.

Voluntary foregoing of salary –

Wherever there is control over the money of the assessee – that will be salary. In the
superannuation example – where everything paid by the employer – that is not salary –
because no control. In another scenario – where he had paid for 10 years and after that
employer only paid – here control is over 10 year amount – that is salary. Rest of the amount
wont be salary. Where there was equal contribution by both employer and employee – there
for his contribution he is liable to pay subject to s80c. S80 exemption is counted within the
total income. However, in s10, the exempted amount isn’t included in the total income. In s80
– deducted. In s10 – total exempted

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 13th April 2022

Superannuation –

Under Section 17(1), salary has to be read in reference to Section 15. It has to be within the
employer-employee relationship. Three components of salary: (i) Salary; (ii) Perquisites; and
(iii) Profits in lieu of Salary

NOTE – Even if partners are salaried, their income will be computed under the head of
income and profession.

The Reversal Test – not applicable to contingent payment. For example, superannuation
funds, where a part payment is paid by the employer. This is no under the control of the
employee, unless come contingency takes place – this contingency would be death, injury,
reaching age of 60 years, then in such cases we are not going to say that it is a part and parcel
of the salary.

EPF – whatever fund the employee is generating, that will always be the case of salary. It can
be claimed as deduction up to the sum of 1,50,000. Employee’s contribution will be treated as
salary.

In superannuation, 100% contribution is made by the employer subject to contingencies. This

is not a case of salary. There is no control with the employee.

If the contribution is made for 10 years by the employee, and next 10 years by employer, the
employee will have control for 10 years. Here, the employee is contributing 100 percent
towards the fund. The employee has control over the money and it becomes salary of the
employee.

If the salary is up to 50,000, then the mandate is that the employer has to pay 8-12% of the
sum. This has to be submitted in the superannuation fund. An equal amount is funded by the
employee. Beyond 50,000, there is no EPF mandate. The part by employer is deducted from
the employee’s salary only. This will not be termed as salary despite the fact that it will go to
the employee after the contingent period.

Take a bracket of 40 years. For first 10 years, employee paid everything from his pockets.
During this time, he has control over the money. The money came from his salary. Due to
this reason, it can be said that there is control with the employee. When direct payment is

54
made by the employer, you cannot claim anything up to 60 years. The amount is not under
your control and it isn’t your income.

NOTE – complexities are used by the employer to give better advantages to the employee to
retain them. For instance, they might contribute the money to a trust which would then pay
the employees.

Illustration – Daniel sir. He was working at NUJS earlier. He worked only for 11 months.

Illustration – the employer is giving tax allowance to the employee. Will income tax
allowance be considered as salary? –

the employee is getting 1 lakh but 30k is going to taxes. The employer says that you compute
your income and whatever income tax that you compute, it will be borne by the employer.
This means 30k per month multiplies by 12. Effectively, the amount never comes to the
employee’s profits. The income tax is paid directly paid by the employer. Now the employee
can say that they are receiving one lakh per month.

Scenario 1 – organisation issues notice in February to calculate income tax. Send the details
and we fill file your tax. This is known as income tax allowance.

In the first case, when the organisation submits the tax, it directly goes to the income tax
department.

In the second case, they will transfer the amount to you and you can then submit it.

Scenario 2 – TDS is deducted in every quarter directly in favour of the income tax
department. In the month of march, they compute whatever has been submitted and they
transfer the amount into the account of the employee in the name of income tax allowance.

Even if deducted from the source itself, it would be tax because there is a legal obligation to
pay. If there is a legal obligation to pay, it will be application of income. TDS will be seen as
our income.

Whatever comes to you will be treated as salary. Tax is on your income. Once they are going
to deduct TDS quarterly, it will always be on your income. Therefore, when the organisation
asks question in February:

- TDS will be paid back

55
Even if they have given income tax allowance, it will be treated as salary because it is
coming out of an employer employee relationship. Therefore, whatever is given is treated as
salary. Ultimately it is forming a part of the income only.

Illustration – 1 lakh rupee salary. 30% tax. – 10:20

Allowances are given to deviate from the income tax act. It is done to retain talent.

NOTE – TDS is deducted and then returned to the employee, it will be your income. It does
not matter if it was paid directly or it was then transferred to the employee’s account.

Example – Two organisations. Propagating religious sentiments. There are certain issues in
reference to this case. It is currently before a larger bench of the SC. Up to the HC, it was
treated as a case of salary. Once it is a case of application of income, it would automatically
be a case of salary.

Union of India v Society of Mary Immaculate – before the SC, it was argued that if it is a
book keeping exercise, it should be a case of non-salary. It was mentioned before a larger
bench in 2019.

When it comes to organisations coming after charitable trust act, there is a presumption that
it will be a case of application of income. If the organisation is old, then the Mary case will
apply.

The ratio should have been that if salaried persons are not taking anything for themselves and
giving the entire amount to the organisation, then it should not be a case of salary.

If the teachers are employed from outside and are actually receiving a salary, then it should
be salary as per the income tax act. In some organisations, the lectures can be as per the
organisation’s own mandate as well, what would happen in this case is something that the
court will decide.

If an entity is registered under the trust act and salaries are being given, then will the income
tax act apply?

18th April 2022

Illustration – If a person is going to receive employment allowances, then should it be termed

as salary? – a person is supposed to join from July 1, 2022 but on 18 th April, the law firm asks
the person to not join them. In lieu of that, they also give some compensation – section 17

56
will start from 1st July. Anything before that won’t create a case of salary. There has to be an
obligation arising out of the employer-employee relationship.

CIT v Pritam Das Narang – (2016) 381 ITR 416 – Justice Muralidhar – A company hired
the assessee. However, the company later informed the assessee that it would not be able to
take him on board. The assessee requested compensation for the loss incurred by him as he
had to let go of other opportunities. The company paid Rs. 1,95,00,000 to the assessee as
compensation as a mark of goodwill.

Section 17(3)(iii)(A) pre-supposes the existence of an employment, i.e., a relationship of

employee and employer between the Assessee and the person who makes the payment of
"any amount" in terms of Section 17(3)(iii) of the Act. Likewise, Section 17(3)(iii)(B) also
pre-supposes the existence of the relationship of employer and employee between the person
who makes the payment of the amount and the Assessee. It envisages the amount being
received by the Assessee "after cessation of his employment". Therefore, the words in
Section 17(3)(iii) cannot be read disjunctively to overlook the essential facet of the provision,
viz., the existence of 'employment' i.e., a relationship of employer and employee between the
person who makes the payment of the amount and the Assessee. It was ultimately held that
this was a case where there was no commencement of the employment and that the offer by
the company to the Assessee was withdrawn even prior to the commencement of such
employment. The amount received by the Assessee was a capital receipt and could not be
taxed under the head 'profits in lieu of salary'.

Illustration – A person receives compensation for knowledge. This is for confidentiality.

After leaving the law firm, the person is given compensation for not releasing confidential
information of the firm. Whether this compensation be a case of salary or not? – as it is given
after the employment, it won’t be a part of employer-employee relationship and it will not be
a case of salary.

Before joining there are two types of compensation:

i. house accommodation, uniform, etc. – for the job – it is salary

ii. compensation not to join – not salary

example – office car is given a few days before the date of joining. Met with an accident. The
employer asks not to join. In this situation, vicarious liability under the motor vehicles act

57
will also apply. This arises out of the employer employee relationship. The date of joining
will be determined based on the facts of each case.

Illustration – person takes their employer’s car without permission. But it is an unauthorised
act and won’t be a part of the employer-employee relationship.

NOTE – Even if it’s a de facto case of use, then it will be a case of salary. It is not necessary
that it has to be mentioned in the offer letter. The only exception is unauthorised use.

Aroon Purie case – Delhi HC 2005

Tilak Raj Kalra – Punjab HC

Educational trust created by an employer – amount is given as scholarship to the children of

employees – one in sense of trust and another as scholarship – will this be a case of salary? –
over this income there is no control. It will not be a case of salary. It is an allowance given
independently of the employer-employee relationship.

NOTE – If the employer’s own children are funded by the trust, then it will not be a case of
violation of the trust if the children genuinely fulfil the criteria. Otherwise, it is a violation of
the trust.

Jamshed Bhai Tata Case – they created hospitals. Various trusts for higher education.

De Beers Case -

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 19th April 2022

INCOME FROM HOUSE PROPERTY

You have two houses. You are living in one and the other one is vacant. Is tax payable on the
second one? – There is no generation of income in this case. This is where section 22 comes
into the picture. Here, there is a notional tax – tax on notional income. Despite the fact that no
income is being generated, tax is payable. Section 22 is on the ground of annual value of
buildings and lands appurtenant. Annual value is defined in Section 23. It is subject to
consumer index, circle rate and various other constraints present in the market. In maximum
cases, the market circle rate is available with the income tax department. Even if you have
two houses and the other house is vacant, despite that hypothetical income arises because of
notional income. This sounds illogical but ownership has the key task. The only exception is
when you are going to use the house for business and profession, you don’t have to pay tax
on income from house property.

Once the rent is being paid, income is generated in the sense of rental income. there is no
need to pay on the basis of hypothetical income. notional/hypothetical income is applicable
when you are not giving the house on rent. After the second world war, no houses were
available to live. As a policy measure, there is a standard rent under the Delhi Rent Control
Act. Standard rent is there and no one is supposed to cross that. Whenever there is a case
wherein the rent is less than 3500, Delhi rent control act applies (Section 14 – provisions for
eviction of the tenant). If the rent is more than that, Section 6 of the Transfer of Property Act
shall apply. Every tenant must not be evicted with force. Earlier, it was very difficult to get
evictions under the Delhi Rent Control Act.

If the house is situated in such a position that it is impossible stay there (sewage plant
nearby), then can tax be imposed based on hypothetical income?

NOTE – House tax is a municipality test.

If the house is used for business and profession, it will not be subject to income from house
property.

Illustration – Nupur is holding 10 jhuggis.

Land, buildings and land appurtenant

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Will vacant plots fall under the category of buildings and lands appurtenant? – the DRC talks
about four walls and a roof; only then it will be a house. When we are looking for income
from house property, we look for lands and buildings. This does not cover vacant lands. If
you have given a vacant land on lease for less than 3500, DRC won’t apply. Same goes for
the income tax act. If it is an open land, then it won’t be presumed as house. Any vacancy of
that won’t create hypothetical income. We are searching for buildings and not vacant lands.

What are lands appurtenant? – if there is a case of land appurtenant, then that land will also
fall under the category of income for house property. Here it is a case of ‘land relating to’ or
‘belonging to’ but not ‘adjacent to’. It has to work like an indivisible unit. So that land
appurtenant and the building must be seen as an indivisible unit. There may be a chance that
both are dependent on each other to the extent that they look like a unit despite the fact that
they are very far from each other.

In agricultural taxation, the third part was in relation to land. Over there, we were looking for
use of land appurtenant. Even if the house is beyond the actual house but they work like an
indivisible unit, then it’s belonging too and it will be land appurtenant. Income from there
will be a case of income from house property.

Illustration – there is a house. The kitchen or toilets of this house are pretty far. There is also
a road connecting these. All this will form a part of land appurtenant. When you gave the
house, you also gave the road.

Illustration – Nupur has a house (just one floor). It gets direct sunlight. Devesh builds a house
in front of her house. Nupur is not getting the sunlight anymore. However, Nupur didn’t say
anything because they are friends. Is this a case of violation of easement? – The water line
was also broker, the road was also dug.

In reference to land appurtenant, when there are going to be wells which will be land
appurtenant, there are many godowns and gardens which will be land appurtenant – they are
easements. In luxury villas, servant quarters are also there. This why house property includes
both buildings and land appurtenant.

Illustration (1:09:00) – Took on rent a house near NLUD. Made a road to there. You are
paying maintenance also. Is this maintenance amount a part of the rent? You are paying 25k
per month to the owner. Is the maintenance amount income from house property (electricity
and water bills not included)? –

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There are two ways of giving maintenance. The house is in a group housing society.

Illustration – Devesh has a house in a housing society. You took the house on rent. You are
paying the maintenance to the managing committee separately.

Suppose you took a shop on rent in Pacific mall. Devesh is the mall owner. He is charging
rent. He also charging maintenance cost. Will this be a case of his income?

Test of Land Appurtenant – CIT v Zaibunnisa Begum – Karnataka HC – the court explained
the meaning of Land appurtenant. There were three sisters. Partition took place. The court
said that when we talk of land appurtenant, the dominant test is to look into the indivisibility
of the building with the land appurtenant. If there is indivisibleness between the two, it will
be a case of land appurtenant. If they are situated in such a way that they have to be read as a
single unit, then also it would be appurtenant.

Illustration – the market rate says that this house should be given on 50k per month. Devesh
gave the house to Nupur for 70k. till 2001, the word used was annual value. Now, the word is
actual rent. What if he gave on rent for the cost of 10k with premium amount of 10 lakhs
(refundable)? – What is only 10k was given as rent? – Whatever money is given as rent, it
will be income from house property regardless of the amount.

Illustration – the house is on rent for 3 months (50k), empty for 3 months, rent for 3 months
(10k) and empty for 3 months. (1:25:00) the reason for it being empty is the inhabitableness
of the house.

20th April 2022

Inhabitable State – the property is in a state that it cannot generate any income. these are not
covered by the section. Despite that the fact that it is impossible to live there, as a sewage
plant is there, in such cases the court can say that the income cannot be presumed despite
what the statute says. The inhabitable state is based on the facts and circumstances of the
case.

Even if it is the case that the property is not for rent for some months but it is generally on
rent, then the rental income for the vacant months will not be presumed. There cannot be any
hypothetical income. No annual value.

Illustration – there are three rooms. You’ve given two rooms on rent. The other party
compensated you for three months, although they are not taking it on rent. This three-month

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period is not rental income but blocking income. will this blocking income be a case of house
property?

There are three shops belonging to an owner. Devesh is the owner. He developed the
properties only to generate rental income. he has given the shops on rent. Two continuous
shops he gave. But for the third one, the party did not take it, but paid an amount for three
months just in case they want it, they should have a pre-emptive right over it. He is not
supposed to give that room on rent to anyone for the period which the compensation is given.
The shop is still under the control of Devesh. Will the compensation be included in his
income from house property?

If anyone has developed the land to generate income by giving it on rent, then he wants to
exploit the building and land appurtenant. Any exploitation will make a case for income from
house property. There is an exception – if someone uses this for business and profession
(profession includes vocation), then it will be business income and not income from house
property.

In the context of income from house property, the following points are to be looked at:

1. annual value - apply judicial mind in reference to what it is - annual value of buildings and
land apartments

2. buildings and land apartments - vacant land, gardens, wells, etc which are related to and
not adjacent to

3. ownership - whomsoever is the owner, search for annual value and buildings and land
apartments in reference to them

4. exception - business and profession

income from house property vs income from business and profession - thin line/thick line?

Illustration - when we are searching for ownership can the third room be seen in the context
of business and profession or house property? - compensation given to create a pre-emptive
right. will such compensation be a case of income from house property? -

Illustration - Devesh gave the rooms to Rohit. Rohit sub-leased them to generate income. He
contracted two rooms on rent and one on pre-emptive basis. Income is being generated in the
favour of two people now.

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Twist 2 - Rohit took it on lease for 3 years.

Twist 3 - Rohit took it on lease for 15 years.

In this case, we have to look for two things:

1. Dominant Objective - looking for usage. the relationship of owner in the context of
property - how is he exploiting in the sense of dominant object - what is the dominant object
he had in mind when he used the property to generate income - whether exploiting the
property to generate income or using it for business and profession - it is the owner only
who'll get the benefit of this section - if it is for generation of income from house property
only then can this section be imposed

2. Dominant Intent - relation of ownership with the income. when the owner generates
income from buildings and land apartments. at times, the line between house property and
business & profession will be thin or thick line. line is to be determined by looking at how the
income is coming.

NOTE - if there is no value, then market value. if there are many values, then all the values.
look at actual value. if the property is inevitable, then nothing.

Vacant plots are not covered. only buildings and land appurtenant.

If Devesh is the owner and he himself has given, then it will be a case of income from house
property. we will go by the dominant intent. the intent was to generate house property. Two
flats are generating. the third one is blocking. when he gives the apartments to Rohit, it is
income from house property. but what Rohit is doing is income from business and profession
and not income from house property. Rohit is not the owner of the flats. time period will also
not make a difference between ownership is the factor that decides.

Illustration - Devesh is a forceful occupant.

Illustration - Devesh is the owner. part payment done. but after taking possession of the
house, he did not give the remaining payment. property worth 1 crore. gave 10k in advance.
due to this, there was no sale deed between them. but he further entered into different types of
leases to generate income from house property. he did not pay anything to Livie.

Twist 1 - he gave 50 lakhs and 50 lakhs are remaining.

Twist 2 - payment is done but the sale deed has not been registered.

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Devesh got the house fixed. is paying the utility bills. for everyone, Devesh is the owner -
government and tenants included.

in this case, despite the fact that devesh is the de facto owner, whatever use he will do with
land can be a case of income from business and profession but not through ownership.

for 10k, devesh is not the owner.

for 50k, devesh is not the owner.

for total amount paid, devesh is the owner and income from house property belongs to
devesh. despite the defect in title, ownership is with devesh.

we have to create a thin line between income from HP and BP

25th April 2022

Illustration – A person has a flat on rent. The person is paying rent to the owner. This person
is also paying 10k as maintenance of the flat to the society committee. The owner is also the
owner of the building.

If there is a case of giving property to tenant, then two types of income would be generated.
First, income in the sense of lease money. For instance, if Devesh has three agreements with
a company called Gayle, whose managing director is Nupur. Two agreements are in the
context of the property that he is leasing to Gayle. The third agreement says that Gayle is
expecting the land owner to upkeep the properties as per Gayle’s requirement. Two types of
amounts are coming – lease money and the expenses that he’ll incur for upkeep. Two heads –
lease property and maintenance. The maintenance can be further divided into water charges,
electricity charges, gardens, roads, etc.

When you file returns, one thing is clear (for first two agreements) that there will be income
from house property. The owner has constructed the building to earn rent. What about the
maintenance?

There are two types of agreements. First, individual agreement, and second, composite
agreement. At times, the single agreement might consist of various guidelines. If you look at
these provisions, it may say that for the use of the premises, they are providing you rental
income.

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The property that you will get might come along with furniture, tv, fridge, etc. The agreement
will allow the use of everything. Will the income from all this be a case of house property?

Chitrakoot Apartments in Dwarka – supposed to pay 50k as rent and 50k as other charges.
This is mentioned in the agreement itself. Will this total income be income from house
property? –

Answer: Where there is a composition and it is difficult to divide, it will be covered under the
head of income from house property. This is the general interpretation. However, where
bifurcation is possible, for instance there are two agreements for lease property and one
separate agreement for services, the first two will be a case of income for house property, but
the third agreement is for upkeeping, this will be income from other sources and not income
from house property.

Illustration – 50k is being paid towards the third agreement. It is called income from house
property.

Illustration - Nupur is providing raw materials to Devesh. She is not getting her money back
but is investing. Nupur bought customized machinery to provide this raw material. Due to
insolvency, the company stops functioning. She cannot call for the performance of the
contract due to the IBC embargo. The IBC professional will only look into the formal debts
and not anything informal.

Section 22 does not talk about stricto senso ownership, but mere ownership. Whomsoever is
taking the fruits of the ownership should pay the tax.

Illustration – A rented the property to B. B sub-leased that property to C. For A, this will
always be income from house property. When B sub-leased the property, the agreement has
to be seen. If B gave it to C for a number of years, then it will be income from house
property. If the lease is there with you for 50 years, and you sub-leased it for 50 years, then it
will be income from house property.

Illustration – mining rights. This will always be a case of income from house property.

NOTE - a land with four walls and a tin sheet will also make a case for income from house
property.

Illustration – for 20 years they use the property in their own way. After that, they revert the
property back to the way in which they got it.

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Left at 25:47.

The other person had the authority to remove the tin thing and establish a new structure. This
would be at the cost of the person taking it on rent. The person giving on rent will get some
amount for the next 30 years. Immediately thereafter, Nupur removed everything from the
ground and created a superstructure, which she then gave on rent. Is Devesh still the owner? -
Nupur is the owner of the superstructure, and the rent coming out of it will be a case of
income from house property. Initial agreement was between D and N. in this example, both
Devesh and Nupur will be getting income from house property (check this last line)

Agreement - if composite agreement is present,

Same property is given to you and you maintain it as it is - some agreements say that comply
with the municipal laws of construction - any violation will make a case of termination of
agreement

With intent agreement - you are aware that whatever structure you give you are giving for
years so that you get a stable income

Devesh says that i have a piece of land. Nupur says that give me the structure but allow me to
develop this land and you will get your income from house property.

If i create something and you get a cut from that, then that will be a case of income from
business and profession.

Nupur also doesn’t want to do anything but get rent from the superstructure.

NOTE - if composite agreement is a speaking agreement, then

When the property is given on paying guest basis, it is income from house property. But if the
property is used as a hotel, it is the case of income from business and profession.

What if Devesh enters into forceful ownership? -

Neeraj Estate Developers v CIT - Mall example - 2020 269 Taxmann 164 - Allahabad
judgment - 3 agreements - 2 for rent and 1 for upkeeping

In malls, they used to give a particular sum to the mall owners and provide certain services. It
worked like a composite agreements, which made it difficult to read.

Give me maintenance charges and i’ll deposit this but the owner actually did not. What to do
in this case? -

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Any expenditure undertaken for business will not be taxed.

Property dealers trade in houses and enter into MoUs with the owner. In such cases, you have
to see the context of the partnership.

From the perspective of the property dealer, it is income from business and profession.

The main problem comes from whether the owner who gave it on rent are getting income
from house property or business and profession - thin line

26th April 2022

Deemed Ownership

Section 27(1) – the moment the assessee transfers property to a minor or the spouse, it will be
a case where the assessee will be the deemed owner.

Whenever a property is transferred to a minor or the spouse, it is termed as deemed

ownership (transferor would be the deemed owner). A complication arises when husband
gives pin money to wife. The wife saves that money and uses it to purchase property. The
wife is not working anywhere. Who is the owner of this land and who will pay taxes on it?
Or, the husband gives 25k to the wife on her birthday as pin money and she uses it to buy
shares. The shares are now worth 3 lakhs. Who will pay taxes on it?

Where pin money is given and the wife bought shares, the husband will pay taxes. This is
because of application of income; the wife has no source of income. There used to be a time
when husbands used to invest money in the name of the wife or children to avoid taxes. So,
now if there’s no source of income for the wife, the income will belong to the husband. But
when the wife buys a house out of the pin money, whose house will it be for the purposes of
income from house property?

Illustration – when the money was given, the wife bought a second-hand taxi. She generated
funds out of it, which she then used to buy another taxi. She then established a taxi services
business. From that money, she got a house. In this case, there is an independent source of
income. The husband need not pay taxes but the wife will have to.

Wherever there is a direct nexus, the person has to pay taxes despite the fact that a transfer
took place. If the income is independent, then not required.

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Deemed owner – section 27(1) – search for transfer – if the transfer is in the name of the
spouse or minor children, then it is deemed that the assessee is the owner. Even if you create
a tile in the name of the spouse or minor children, it is presumed that the assessee has control.

Section 27(2) –

This provision is imp because various properties in India belong to HUFs.

Illustration – There are 5 coparceners. Devesh sold the impartible estate to a muscle man.
After 7 years, it comes back to the HUF.

Similarly, a partner transferred a property belonging to the firm illegally.

Impartible Estate – it looks indivisible – belongs to HUF/partnership firm – say there is a

single house in which there are multiple things (well, doors, rooms, floor-wise allocation, etc)

Pre-emptive rights – given to the person living close to the place –

Section 27 is important because of 2 things –

(i) either these things are going to happen

(ii) it will be constructed – with the help of tax strategy

In the above example, the possession remains with HUF. Only the ownership is transferred
which is currently in dispute.

NOTE – Irrespective of whether or not the HUF has possession, they will pay taxes because
they are the owners.

Illustration – property transferred. Muscle man is here to take it. The family is not leaving.
Now both of them are paying taxes. Is this possible? – it can be collected from both the
parties.

NOTE – if four years have passed, then the income tax authorities cannot re-assess unless the
assessee suppressed any information – Sections 147 and 148 – this is when the AO had all the
information and reasoning and did not act on it

Section 27(3) – cooperative society – presumed to be deemed owner

Freehold –

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When cooperative societies were created, they came up with a common lease. The owner
would the cooperative society only, but individuals were owners in the sense of how the
property was allocated.

Cooperative societies can get land for cheap. People get together and contribute money and
construct the house. However, all the people may not pay up at the same time. This would
lead to a lack of compliances. So, it would still be on common lease. To make it freehold, you
will apply to the DDA for a freehold – freehold will allow you to dispose of the land in
whatever way you want. The land is always given on leasehold for 99 years.

The entire society has to pay the lease money. If even a single person hasn’t, then all of them
would end up paying. Therefore, a number of people started paying the DDA on behalf of all
the people. Now, the freehold system will start. The lease of DDA has been paid off.
Individuals will be informed how much they need to pay now. Now if anyone will go to the
DDA, then can deal with it.

The income tax act says that if you are a member of a cooperative society and have a
leasehold, you will be deemed to be the owner.

Section 27(iiia) – if you have a cooperative society house, then irrespective of the fact that
you are owner or not, you will be seen as unit holder and the society will not be seen as a
unit. You will have to pay tax on income from house property.

Section 27(iiib) –

If by paying part performance, anyone has retained the possession or transferred the
possession, then in both the cases whomsoever has the possession is supposed to pay the tax
on income from house property.

The problem arises when there is a lease and the person who took the property on lease is
using the property to generate income. If you are living on the land, then there’s no issue. If
you covert it into a hotel, then it will have to be seen if it will be income from house property
for you.

If the contract says that it will be sub-leased thereafter, then it will be income from business
and profession. But if the contract does not say that and you decide to give it away for lease
later, then it will be income from house property.

Consider the dominant test in these cases.

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Last – 8 minutes – rewatch

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 27th April 2022

INCOME FROM BUSINESS AND PROFESSION

Illustration – Devesh has a firm. Due to the third world war, he is not in a position to run his
factory. He gave his factory on lease, along with the machinery and other things. Is this a case
of income from business and profession or income from house property?

Due to insolvency

Due to inefficiency of working

He is into the business of establishing factories and giving them on rent. This generally
happens in textile industries.

NOTE – Even if a completely furnished house is given on rent, that would also be termed as
income from house property. The fixtures are also seen as income from house property.

It will still be a case of income from business and profession. In this case, you provided a set
up not to live, but to carry out commercial activities. Even where there is a mixed use of land
allowed and the agreement also mentions giving up of setup for business, then it will be
income from business and profession – other things like installation of commercial electricity
meter, etc are involved. If it is a simple rent agreement, then income from house property.

If due to any reason the business is closed, and so give the property along with machines to
other party and take rent on it, then it will be a case of income from business and profession.

Even if the place is under the stage of construction, it would still be income from B&P –
nature of the transaction remains the same.

The difference is crucial because in the sense of business, different sections will apply
differently. Every head is an inclusive head – some deductions have been provided by the
authorities themselves.

For salary, section 80 provides deductions. For business, there are no deductions for initial
investments. But for profession, there are deductions.

Whenever a business is established for the first time, whatever things are bought for the first
time, they are not subject to tax. But for profession, they are subject to tax. It is necessary to
differentiate between business and profession due to this.

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For instance, there is a professional. Devesh is teaching yoga. He also has some disciples.
They are giving him a monthly payment for teaching philosophy and yoga.

Suppose he had not learned yoga but crafted a new yoga – Devesh yoga.

There is a Khadim at a dargah, who has not given a specific preaching to someone but
someone in the UK dreamt about the Khadim and won a lottery. He gave 1 crore rupees to
the Khadim. Although Khadim is a professional teacher, they did not teach this person – In
this case, there is no causa causans. It is all because of a dream. The gifts won’t fall under the
category of profession because there is no quid pro quo.

CIT v Abdul Gani Gurdeji – Rajasthan HC – The assessee was a Khadim at a Dargah and
derive income by exercise of such profession. He received ₹1,05,000 from a non-resident
pilgrim who had been coming to the Dargah for a number of years. The Khadim treated this
amount as a gift. However, the AO said that the real nature of the sum was a receipt by the
assessee on account of his Khadim profession. The HC held that in order to constitute the
revenue as income, it is necessary to establish the link between the receipt and the service
rendered, i.e., rendering of service was causa causans of the receipt. It said that the amount
which has given to the assessee was not directly related to the exercise of the
profession/vocation but was incidentally connected with the profession as Khadim carried on
by him. The donor did not benefit from any preaching of the assessee, but donor on his own
noticed some supernatural-power in the assessee and being influenced by that, he made the
payment. There is no link between the payment and ordinary services rendered by the
Khadim. Thus, it was not taxable as income from profession.

Similarly, Vedanta philosophy is taught by a person. In this case, the person is preaching. The
students heard this – in this case, the person is delivering the lectures regularly. The person
giving gifts are due to this. Because of this causa causans, it will be a case of income from
business and profession.

P. Krishna Menon v CIT – AIR 1959 SC 75 – The assessee was teaching his disciples
Vedanta philosophy without any motive or intention of making a profit out of such activity.
One of his disciples made gifts of money to him on several occasions. It was contended by
the assessee that he was not liable to tax on the amounts received as he was not carrying on
any vocation and as the receipts were not profits or gains. It was held that in teaching
Vedanta, the assessee was carrying on a vocation. It is not necessary for an activity to be a
vocation that it should be an organised activity or that it should be practiced with a motive for

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making profit. The appellant received the gift because of the teaching that he had imparted.
The imparting of the teaching was a causa causans of the making of the gift; it was not
merely a causa sine qua non. The payments were repeated and came with the same regularity
as the disciple’s visits to the appellants for receiving instructions in Vedanta.

Whenever there is a case of personal qualities, it won’t be a case of income from business and
profession. This is personal income because it has nothing to do with the profession.

Illustration – If Devesh is 80 years old and has been giving Vedanta lectures for the last few
years, and receives a lot of gifts on his birthday, then how would this income be categorised?
– this would not be income from business and profession. [here if the teachings are on
YouTube or other any other platform and after watching such videos someone is giving gifts,
it might be a case of income from business and profession]

There has to be a relation between the person getting the gifts and delivering the gifts – causa
causans must be there. If this is absent, then the revenue receipts would not be subject to tax.

For Vedanta philosophy, if he is taking regular receipts, then any other gift won’t be income.
But in cases where nothing is being charged, then it will be presumed that on birthdays etc it
will be a case of income from business and profession.

Illustration – if a person teaches only on the weekends for free, but also provides the things
necessary for such lectures, then if anyone gives gifts then it will fall under the category of
income from business and profession although this is not the actual profession of such
person.

If the lectures are recorded and uploaded on YouTube, and a person watches from the UK
and gives some money, which is then put into a bank account, it will be a case of income
from business and profession. In such cases, the payment of fees is not important – what is
important is that there is some learning.

2nd May 2022

Certain exemptions are available only for business and not profession. From section 29 to
Section 35 A and B, exemptions are there for both business and profession – these are
straightforward. For example, if you have property for business, the rent is exempted,
depreciation on machine lease, income generated from specified business is exempted,

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patents and copyrights, insurance receipts, etc. But Section 37 and 36 are not straightforward
– you need to search for subjectivity on the basis of different tests that have been devised.

In case of bad debts, if they can’t be recovered and are written off, only then they can be
deducted.

Before 1989 – in this phase, there are various processes. For example, you were not supposed
to put into your accounting system any debt as bad debt unless specified how it became bad
debt.

After 1989 – in this phase, you just had to mention that the debt has become bad debt and
cannot be recovered.

The first test is that it has to be a business.

Secondly, the business has to be continuous in nature. If there is any discontinuation, you
won’t get any benefits.

Thirdly, the debt generated should be in due course of business.

It should become irrecoverable during the business and be written off in your accounts.

Illustration 1 – Shikhar has a business of cars. He is the owner of a company. He sponsored a

C grade movie. He entered into a contract with a distributor. He gave loan for the purpose of
producing the movie and running it into theatres. He faced a loss. Can this be written off as
bad debts and get deductions as per Section 36(1)? Is this in the ordinary course of business?
– In this case, his payment made in reference to movie making, if there is any non-recovery
of debt, it won’t be a case of bad debt as per section 36(vii). This is not in the ordinary course
of his business.

Illustration 2 – Volkswagen is going into different ventures. He entered into the banking
business or into the movie business. This is a new company unlike the previous example –
Volkswagen Movies. He gave loan for a particular movie. Can he now claim an exemption? –
in this case, he is into movie business. If there are losses after taking due care, then
exemption can be claimed. Due care is important – minimum due diligence has to be
exercised.

Illustration 3 – Shikhar is into money lending business. Gives money to producers and
directors for movies. In one case, he gave a loan to Chelsea for producing a C grade movie
subject to contract which says that after 6 months, she’ll return the amount with interest.

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Along with that, he’ll take 10% profits in the movie. Within 6 months, the movie has to
release in Bombay. If not, then from the seventh month, she has to give the total due subject
to 7% interest. Further, every month from the beginning, on 7 th day of the month, she has to
inform everything with respect to profit and loss account. Firstly, the movie was not launched
within 6 months. It also incurred losses. Within 7 months, she returned 25k out of 1 lakh.
Rest she hasn’t returned till date. Can this be claimed as bad debts under Section 36?

The nature of the business has shifted towards being a producer of the movie. (Confirm,
10:06, 30:00 recording) The distinction is blurred here. Supposedly Shikhar is running a
money lending business. He gave the money to Chelsea because she’s a friend and knows
that she’s good at making movies. In this scenario, if the loan becomes bad, can it be said that
it’s in the due course of business?

Illustration 4 – it is a sugar cane business. Sugar mill owners are giving advanced loans to
sugar cane farmers. If Ananaya is going to pay to the sugar cane growers, she’ll get the
amount back plus the additional amount for next year. Next year she’ll buy fertilizers etc. If
advance amount is given and there was a draught, the sugar owners are not in a position to do
anything. Can the advance here be termed as advance given in the ordinary course of
business? –

Illustration 5 – Mayank owns a beer bar. To run his business of beer bars, he starts giving
loans to his customers. The idea was that if he gives loans and they come back to pay the
instalments, they will buy beer as well. In that sense, it will be good for the business.

Suppose that he owns a brewery. He is a manufacturer. He is giving loans to his customers.

The purpose is that the more loans he gives, the more relations he’ll develop. If he has more
relations, he’ll get more orders. This is basically a marketing scheme.

One at the level of beer bar and one at the level of manufacturer. Will the loan given be in the
due course of business?

When does the debt become bad debt? – in the Chelsea situation, no case was filed for the
recovery of money. Despite filing the case, can the amount be claimed as bad debt? What if
he just sends a legal notice?

In the first situation, a manufacturer has given loans to his customers.

In the second situation, the beer bar owner has given loans to his customers.

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Are these marketing skills in consonance with the business model that he is running? –

Here, the due course is of selling the product. But the model is that when loans are given,
they will be better customers. A relationship will be created and they’ll have to come back.
This scheme is a supplement to the actual business. The actual business is the sale of beer.
This scheme is allowing to build better relationships. This is not a separate money lending
business.

Reid’s Brewery Company v Male – 3 TC 276 – The brewery company carried on, in
addition to the business of a brewery, a business of bankers and moneylenders making
loans and advances to their customers. This helped the customers in pushing sales of the
product of the brewery company. Certain sums bad to be written off and the amount was
held to be deductible.

What it is, is this. It is capital used by the Appellants but used only in the sense that all
money which is laid out by persons who are traders, whether it be in the purchase of
goods be they traders alone, whether it be in the purchase of raw material be they
manufacturers, or in the case of money-lenders, be they pawnbrokers or money- lenders,
whether it be money lent in the course of their trade, it is used and it comes out of capital,
but it is not an investment in the ordinary sense of the word.

BD Bharucha, Bombay v CIT – AIR 1967 SC 1505 – The appellant, who was carrying on
the business of financing film producers and distributors, had advanced a sum of Rs. 1,00,000
to a firm of film distributors. Clause 3 of the agreement between the parties provided that the
appellant was not entitled to any interest but that he was to share with the distributors their
profit and loss; and cl. 7 provided that in case the picture was not released within the
stipulated time, the distributors would return to the appellant all the moneys advanced by him
together with interest at 9% per annum. There was delay in releasing the picture and a dispute
arose between the appellant and the distributors, which was settled. The appellant found that
a sum of Rs. 80,759 was irrecoverable. He accordingly wrote it off as a bad debt and claimed
it as a revenue loss which should be deducted under Section 10(2)(xi) of the Income Tax Act,
1922.

It was held that since all payments reduce capital, one is apt to consider a loss as a capital
loss. But losses in the running of a business cannot be said to be of capital. To find out
whether an expenditure is on the capital account or on revenue account, one must consider

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the expenditure in relation to the business. In the present case, the debt was in respect of and
incidental to the business of the appellant in the relevant accounting year, and the accounts of
his business were kept on mercantile basis. If clauses 3 and 7 of the agreement are read
together, the transaction would be a money-lending transaction or a transaction in the nature
of a financial deal in the course of the appellant's business, resulting in a loan repayable with
interest. Therefore, the loss suffered was a revenue loss and the appellant was entitled to
claim the deduction of the amount as a bad debt.

If there is a money lending business and a person has given a loan for producing a movie and
now there is a loss, there is partial return of the payment only, (check with someone)

A person was in the money lending and then entered into financing movies

Another scenario: there was a contract and then decided to finance with profit shares and
control over account books –

In this case, he was into general nature of money lending, but gave loans to producers as well.
Looking at how much movie makers earn, he wanted a share in the profits and reduced the
interest rate too.

The test is to look at the contract in a comprehensive way. Don’t have to look at separate
points. Even if there is sharing of profits, see if it is the essence of the contract. If the essence
of the contract is to secure the amount and sharing of profits is an additional thing, then it will
be in the due course of business. In this case, there was a comprehensive mechanism to
recover the money. If there is a case of profit sharing, then there has to be a sharing of losses
too which was absent in this case.

If they are not going to file any case against the other party, then can it still be claimed as bad
debts/? – Suppose that Shikhar has filed a case and won it. But Shikhar did not go for
execution despite having a decree. Can this loan be termed as bad debt?

Suppose that Tanishka entered into a contract with a US based company. She took an order
for manufacturing 10k shoes. She did not have the capacity to do so and entered into
contracts with smaller contractors – Ananaya, Chelsea and Philip. Told them that future
contracts will also be given. Philip took a loan to have own factory and machinery. Tanishka
is unable to finish her first contract – Ananaya was not able to fulfil her part. Also, the quality
wasn’t good. Tanishka did not get anything from the US firm. Due to this, a chain of defaults
started. If she files a case against Philip, he can file a counter claim too. How will Tanishka

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treat this debt – she had given an advance to all the small manufacturers (1 lakh to each) –
now she is not claiming any amount back and is putting them in accounts as irrecoverable
debt. Can she do so? –

4th May 2022

There are two things – bad debts and bad debts v trade loss. A case of trade loss won’t be
covered by bad debts and won’t be a part of Section 36(1)(vii). Every bad debt is a trading
loss, but every trade loss is not a bad debt.

An employee of the company embezzled a certain amount. Is embezzled amount a case of

bad debts? – The embezzled amount can be a case of trading loss but not bad debt. Also, for
bad debts there has to be a debt, which is not there in embezzlement. In extortion also, it
won’t be termed as bad debt.

A debt has been given to the employee, which they failed to return. Will this be a case of bad
debts? –

A house loan which he hasn’t return and simultaneously extorting money from the owner and
at the same time, he is also embezzling the amount. Is this a case of bad debts?

In the above example, no recovery process has started against the employee. There is no FIR
as well.

In running of a business, there are two things – running the business and keeping the
employees with you.

House Loan – will be covered as bad debts

To call any debt as bad, you need to take some steps to recover it. If you can’t, only then it
would be irrecoverable. But if the person is no more,

Illustration – Devesh is the owner of a company. He entered into a contract with an American
company to manufacture 1 lakhs shoes per month. There is no advance amount given to
Devesh. Since he did not have the capacity, he entered into small contracts with others. He
gave 1 lakh rupees loan to everyone, including Rohit. Devesh told Rohit that he’ll get
consistent orders. So, Rohit customised his factory to manufacture the required product. After
2 months, Devesh was not in a position to complete the order. However, Rohit and Shruti

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made some shoes which were sent to the company. Out of this, some shoes were rejected and
some accepted – did not meet quality standards. Asked for 500 more shoes. As he did not get
even a single penny, he was not in a position to give advance money to his smaller contracts.
As a result, the smaller contractors defaulted in their payments. This is a chain. After a
financial year, Devesh wants to file his return claiming the amount as irrecoverable debt to be
written off, and termed as bad debts. The eleven persons with whom he entered into the sub-
contracts and gave an advance amount, he is not trying to recover the amount but is trying to
write that off as bad debts.

It is a case of bad debts. In cases where no step was taken, it would also be a case of bad
debts. If recourse it taken, it will be more dangerous for the company. A person may not be in
a position to take legal action – further money is required. Once you explain, it will be a
sensible business decision.

Once it is not for due course of business and steps are not taken for recovery, then it will not
be a case of bad debts.

Illustration – In the bank, you gave money to the security guard to give it to the cashier for
deposits but the security guard siphoned off that money. Will this be a case of bad debts? –
there is not debt in this case. A debt has to be established. Once there is a debt, there can be a
bad debt.

In case where the person has passed away, it will be a case of bad debt.

In the case where decree was taken but not executed (see above), it will be a case of bad debt.

Sugar Cane example – it will be a case of bad debt. The advance was given in reference to the
business. This was during the course of the business only.

SoGA – Section 21 –

Any deviation from performance of contract will lead to bad debt.

Example in which money was lent to a friend, not in course of business tho – it will be a
trading loss and not bad debts

Beer bar owner example – in both the cases it will be a case of bad debts. This was towards
the business.

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Whenever there is a business relationship, even if you are not in a position to take appropriate
steps, that amount will be written off for that financial year. The limitation period is for three
years, and in future if you get the money, you can change the account in future accordingly.

Illustration – time barred debt. 250 rupees. Ready to pay 100 rupees.

1 lakh was given to Chelsea by Tanishka. Chelsea didn’t repay.

Chelsea approached Devesh. Out of 1 lakh, she was wililing t

It was a time barred debt. 200 rupees. 100 rupees she was willing to pay on the day. Devesh
filed a case for recovery of 100 rupees and 1 lakh as compensation for mental agony.

There can be a contract on time barred debt. This agreement cannot go to courts though.
Since the agreement is now fresh, can go to the courts. He can show the 200 rupees as time
barred debt. This 200 can be taken as bad debts.

Debt has to be a debt first, and second, it has to be bad. Once it is bad, steps must be taken to
show it as irrecoverable. But there might be taken where steps are not taken because business
sense requires so, and it will be a case of bad debts too. Further, during the course of business
means the business you have. In this course, if you give any advance in demand of the
business, then it will be bad debt.

Said something after this. 10:30

As per the limitation act, time barred debt cannot be recovered. But if later the person agrees
that they want to pay, then it is recoverable. There can be a fresh agreement in respect of time
barred debts. This agreement will be an independent agreement, and if it is not enforced, it
will be a case of bad debts.

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 5th May 2022

SECTION 37

It is a residuary section. From section 30 to 36, there are various deductions and exemptions.
Section 37 required more judicial interpretation. This is because it is a residuary section and
the terms used in it are very subjective. If any of the expenses don’t fall under Sections 30 to
36, it can be covered under Section 37. But if the part has already been defined somewhere,
and it did not qualify for the earlier sections, then it cannot be covered under section 37.

The definition has two major parts:

1. What are the expenses which can be exempted – revenue expenditure is exempted and not
capital expenditure.

2. anything which is referred in reference to section 30 to 36 will not be covered under 37

3. any personal expenditure which is incurred on yourself will not be covered – this expense
is not for the business.

Any expense of revenue in nature, not covered under 30 to 36, and not personal in nature,
will be covered under section 37. However, following three are not covered under Section 37:

Any expenditure towards political parties

Any expenditure towards bribes

Any expenditure towards CSR

There are various tests in relation to capital expenditure and revenue expenditure:

Test for Fixed and Circulating Capital – if there is any expense towards fixed assets, then you
cannot take exemptions. If any expense is towards circulating capital, then exemption can be
taken. Any expenditure which is recurring and essential for running the business will be
revenue expenditure. Any asset that will provide a long and enduring benefit to the business
will be capital expenditure and there is no exemption on that. Only the first capital
expenditure to establish the business is exempted.

Expenditure means expenses. Will this also include contingent expense? – for example,
Aditendra files income tax return for FY21-22. For that, can he include expenses in the
context of claims filed against him which he disputed and the matter is pending before the
court?

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Example – lawyer needs to buy a coat. This will be professional expense as per section 37.
However, what if the lawyer buys a coat from Zara or Manyavar? – when something like this
happens, look at the threshold. It will depend on person to person – who will buy what kind
of court. What about pens, cufflinks, etc? a lawyer buys some books – books are of two types
– commentary (criminal law) and dynamic commentary (tax, gst) – taking subscriptions like
Manupatra and SCC – buying journals –

Illustration – clashes took place at Maruti Udyog. The manager was killed and burnt. A case
was filed against the labourers. Expenses are incurred by Maruti. If they do not go for
prosecution, the labour may protest again and kill someone – will this be legal expense or
expense under section 37? To solve such things, there are certain tests – legal expenditure
will be revenue expenditure

Tests pertaining to long and enduring benefits – Long and enduring benefit test is a subjective
one. It means the benefit which is of a very long duration – say it can be for a 20 years lease.
It depends upon business to business.

Every business works in a different way. Consider the loom industry – how cotton mills work
and their expenses take place. There is a demarcated place by the government where the
business will occur. At a particular place, there are a number of cotton industries working –
however, all of them do not work at the same time – some have a lot of work, some don’t
have any work. To manage the cotton industry, there is a concept of loom hours – each loom
to work for a certain number of hours. If you want to work more, then pay to other loom
owners for such loom hours – the factory receiving the money won’t work then. Note that
you are using your own place only, but using the time allotted to others.

Illustration – Uniqlo – will buy the loom hours of other companies. No smaller company will
be working, yet they’ll receive an income.

Illustration – Aditendra has an agreement with an American company to provide cotton

products for 5 years. For continuous production, he bought 90 hours of loom hours from 9
companies for 5 years; he is paying the lease amount in advance every year. Will the 90 hours
bought by him be read as expense on fixed asset, circulating asset, or long and enduring
benefit?

Illustration – In a lawyer’s firm, 5 lakhs maybe spent on designing the reception. Will this be
a case of long and enduring benefit or revenue expenditure? –

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Mohan Cooperatives – situated at the outskirts of NCR. You spend on developing the road
from one branch to another branch.

Enclosed area of mohan cooperative – belongs to cooperative

Right outside the area, leading to the highway – belongs to MCD

Within the factory – belongs to the assessee

The expenditure in this case was necessary for the business because the tyres of the trucks
were getting spoilt due to the bad roads.

9th May 2022

No contingent expenditure can be there. Only per se expenditure can be included. In the
mercantile system (you give the goods and don’t receive the money immediately), you make
the entry immediately and it becomes a debt that is owed to you – this is contingent
expenditure and is not to be included. For the IT act, we need to look at the expenditure
which we’ve actually incurred.

All debts are expenditure. Anything which is not covered under Section 30-35 and is a
personal expense and is used for illegal means/political donation/CSR won’t be covered.

When goods are given on debt, it may be a case of Section 37 for the initial one year,

Any expense which will be useful in the running of the business is revenue expenditure, but
anything which will create a long and enduring asset for the company will be capital
expenditure.

Illustration – Dhruv is running a state-owned company. Nupur is creating a company only for
the purpose of acquiring this company and to later run its business. Cash transaction of 40
lakhs rupees. The term further says that she will pay 20% of the profits that the company will
earn every year plus additional 4 lakhs per annum forever. What about this latter
expenditure?

Illustration – in the above example, the 20% of profit and 4 lakhs rupees per annum is fixed
for 20 years.

Illustration – what if such payment is a government mandate

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If it is taken as the sale consideration, and the point is there in reference to 20% and 4 lakh
rupees, it won’t add to the capital side of the company in any way (no capital has been
expanded)

In both the cases, there sale was no affected. In one case it was 40 lakhs and in the other cases
it was the additional amount.

If time period is fixed, it will be capital expenditure. If no time period has been fixed, then
there will be ambiguity. Only 40 lakhs will be seen as sale consideration. Once you know the
exact sale amount, only that will be capital expenditure. Where it is not known, the remaining
will be revenue expenditure.

Illustration – giving a running business. The sale consideration for the land, superstructure
and the machinery is huge. 10 crore rupees being given. Along with this, she has to deposit
10 lakhs every year plus 3% of the profits into the account of his wife. No time period has
been fixed for this – only 10 crore is capital expenditure and rest is revenue expenditure

CIT v Travancore Sugar and Chemicals Ltd – 1973 –

Illustration – Pharma company giving gifts to doctors from their funds and also spending
money on marketing – is this a revenue expenditure under section 37 – it is illegal so it will
not be covered. If a program is organised for marketing the drugs, it is revenue expenditure.
But if you are doing this by giving this to doctors and promoting it through that, it will fall
under the exception to section 37 – expenditure towards illegal means.

Lawyers illustration – difference between buying commentaries and digest? –

Subscription amount for databases like SCC and Manupatra?

Commentaries will always be a case of fixed assets – capital expenditure

e-subscriptions in any way other than life subscriptions will be a case of revenue expenditure
because it is necessary for running the business

even monthly journals for a lawyer will be a case of capital expenditure (though it should be
revenue expenditure)

when a lawyer keeps books and journals, they’ll be there forever. For a trader, it will be
circulating capital. Any asset towards fixed asset will be capital expenditure and towards
circulating capital will be revenue expenditure. For example, house for a person will be

84
capital expenditure and house for a property dealer will be revenue expenditure. A computer
for lawyer will be a capital expenditure but for a trader it will be revenue expenditure.

10th May 2022

Illustration – a law firm that invests in expanding its library and renovating its reception. In
renovation, one is simple renovation and another is fancy types (luxury) – a modelling
agency or a hotel usually have such receptions – whether expenditure towards creating a new
library room will make capital/revenue expenditure –

Illustration – NLUD prepares a room with machines usually available at advanced hospitals –
to be used only by the students –

Illustration – instead of creating a room, NLUD just used a room for the advanced machines.
Similarly, in the hospital, they stored the machines in an existing room.

In one situation, the hospital is being constructed. In another situation, the hospital already
exists and it’s being redeveloped.

There are two types of hospitals – (i) meant for only a certain set of people, say employees of
a company; and (ii) everyone can go

Insofar as technology is concerned, spending on it will be a case of revenue expenditure. The

business requires you to change things.

Software – it is almost always going to be a case of revenue expenditure

If a lawyer is using only MS word, it will be a case of capital expenditure. But in the fashion
industry or in any industry requiring to change software, it will be revenue expenditure

In the fashion industry, machines are also coming. It would be a case of revenue expenditure.

Where there is a monetary linkage and it is adding to the assets, the outcome is going to add
forever – long and enduring benefits. In the case of NLUD, there is no monetary structure. It
will only add to the revenue side. Students will use it as a medical room. The purpose of the
machines is not to add on the capital side but on the depreciation side.

If NLUD is bringing latest technology in the library, it will be revenue expenditure.

Whenever a separate room is created either by NLUD or hospital, it will be a case of capital
expenditure. If existing room is used to install the machines, for NLUD there will be no
monetary linkage and it will not add to the asset, it will be periphery expenditure running

85
alongside education, the investment towards it will be a case of revenue expenditure. Such
facilities are necessary to run a good education industry. Any expenditure incurred to expand
education will constitute revenue expenditure.

Even if in an already exiting hospital or NLUD a new room is created, it will be capital
expenditure.

In hospital – existing room is classified to store advanced tech – capital expenditure

If you buy hardware, it will be on the capital side. If you take the software for a long period
of time (enduring benefits), it will be on the capital side.

If you are going to use the technology through AI in a law firm – you have certain templates
– click the button and it’ll fill the form automatically –

Three factors in relation to using an asset:

1. Through

2. With

3. Upon

HP Case –

Laptop with windows – preinstalled – revenue expenditure

CD purchased separately – capital expenditure

Hair salon – a hair dryer would be capital expenditure even if it malfunctions in a year

Every latest technology – hardware or software – always read in context of the business – any
business if it is in reference to computers (teaching tally, NIT, etc), then software, CDs, etc
will be revenue expenditure.

Wherever there is a satisfaction of a long and enduring benefit, it will be capital expenditure
automatically.

Through, with and upon – whatever you have bought, how will you use it –

With through – it is on capital side – becomes an essential component. For example, you are
doing good. But by addition of one good, it will increase efficiency. This will be a case of
‘through’.

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Equalisation levy – DTA controversy –

11th May 2022

In whichever business any tech is necessary to be replaced at any point of time, that tech will
be revenue expenditure for that company. It may be any industry. When talking about
technology, we are also talking about software and machines. Technology will mix at the
level of hardware as well. For example, in the fashion industry, a machine consists of both
software and hardware.

Two types of machines – fixed and portable. Certain machines are fixed but are temporary in
nature. There are turn key agreements across the world.

The test is to look whether it is whole and exclusively required to run the business/towards
business – the test of necessity – if it helps in profit generation, then it is cap ex

If towards business and not adding to the fixed side, it is revenue expenditure

If you start using the asset as a tool of making profits, then it will be capital expenditure.
There has to be a direct link between these two.

If there is a link but not a direct link, then it’ll be revenue expenditure. For example, by
putting advanced machines in NLUD, you are not catering to outsiders. It is solely for the
students from whom you are taking nothing/minimal charges.

NOTE – fashion industry – Machines may not qualify the long and enduring test.

10:07

Donation by itself is not an expenditure.

10:24

At times, business do not earn money. Renovate by taking loan. Can this loan be termed as
expenditure? –

In law firm, it would be capital expenditure. Aesthetics. You do not change it regularly –
extraordinary expenditure. If you do simple renovation (necessary to run the business), then
revenue expenditure. On the other hands, in hotels, regular change is necessary.

If something is wholly and exclusively for the business purposes towards running the
business, it is revenue expenditure.

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 17th May 2022

Illustration – agreement between conglomerates. They were working in a certain area.

Empire Jute Mills Case – loom hours

Bikaner Gipson case –

Mohan Cooperatives –

LB Sugar Factory and Oil Mills Pvt Ltd v CIT – 1980 SC – (one of the points from mohan
cooperatives dealt with in this case)

Loom Hours – There are various tests to differentiate between revenue and capital ex

In the Empire Jute mills case, where cotton mills were established at a certain place. They
had an agreement whereby they would work as per fixed hours. This was to safeguard the
cotton industry. Do not allow any other company to work on cotton. Whomsoever wants
cotton, they have to use only these factories. If anyone wants to cross the prescribed hours,
then pay for it. To get extra hours, the factory can get into agreements with other companies
and give them payment for it. Will this expenditure be a case of capital expenditure or
revenue expenditure? – Loom hours is not an addition to the asset side in any way. If you are
using other factories, then it would still make sense. But here you are just using your own
machinery. The idea is not to give you any benefit, but just that this is as per the norms of the
factory owners that you are paying. This expenditure would be a case of revenue expenditure.
Even if it is given for 5 years, it would be revenue expenditure.

Illustration – 5 days space at a trade fair for 10 years – which expenditure? –

Illustration – Rohit takes over Shruti’s factory subject to the conditions that there would be
no encumbrances. However, she did not remove any charges. To save the goodwill of the
company, Rohit cleared the charges. Will this be a case of capital expenditure or revenue
expenditure? –

What if at the time of the agreement she says that she is not going to pay any charges and
then Rohit pays Shruti for that too (despite the fact that the agreement said that Shruti will
pay)? –

if there is a property transfer – asset and goodwill both – subject to the condition that charges
have been cleared?

88
In another situation, she says that she’ll pay but after 5 months she refused to pay? –

In such cases, there is a thin line difference.

If it is happening on the same day, it will be capital expenditure despite the fact that in the
agreement it has been mentioned that it is purchaser’s duty. Such arrangements are only on
paper. It will be read as capital expenditure only.

On the day when you make the agreement, it will be capital expenditure – you are buying the
business with the assets – it will be read into the total outlay – this will be long and enduring
benefits – towards the capital side – capital expenditure even if the agreement says otherwise

After 5 months if she doesn’t pay, then for the purposes of commercial benefits, pay it – you
will keep receiving notices from the people to whom you owe money, instead of Shruti, Rohit
is receiving such notices – this will be revenue expenditure – courts have said to read
carefully, whether on capital side or revenue side – if the title is clear anyway, then it will be
a case of revenue expenditure –

Illustration – There is a square land of 200 acres. On one of the squires, a 40 acre land is cut
by a railway line. The government is giving the offer that if you pay 40 lakhs, we’ll shift the
railway line to someplace else. However, the person is thinking that they’ll use the train to
transport stuff. Later he realises that the 40 acre land is useless as he does not know the
timings of the train. After 2 years, he opted to pay 40 lakhs and remove the line. Whether
paying this 40 lakh rupees now make a case of capital expenditure or revenue expenditure?
Will 5 months, 1 year or 6 years make any difference?

Earlier, it would have been a clear case of capital expenditure. If the amount is paid later,

If it is one month, it will be a very short period, it won’t make any difference. It will be
capital expenditure. After 5 months, the removal of obstruction will make a case of revenue
expenditure. An obstruction can arise at any point of time. Any removal of obstruction on the
day of agreement will be a capital expenditure, but after a period of time has passed, it will be
revenue expenditure.

Illustration – if there is a square land and the land has to be used in toto but it is impossible to
use it that way because of the railway track, then if you pay after 5 months, it will be a case
of capital expenditure. This is because the situation did not change even after 5 months. The
test is to see if any work actually happened or not.

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NOTE – if the land cannot be used, then the time period is irrelevant.

LB Sugar Mills –

18th May 2022

Lack of Continuous Electricity in the Area –

Factory of sugar. The road was such that there was a lot of spillage of sugar while
transportation. There was a separate business going on which was collecting the sugar that
fell on the road. There was a PPP, and the government was not willing to fund the
construction of the entire road. The government demanded to have a dam as well, and
expected fund from the state government, central government and the organisation. Having a
dam would provide electricity which would give long and enduring benefits.

When it comes to roads, the mohan cooperatives example will come into the picture.

There are small plots over there. Within the plot, if one set of factory is there, then travelling
is taking place within one section of the factory to another. Therefore, there are three roads.
One road is within the factory. Outside the factory but within the mohan cooperative area.
Third, outside the mohan cooperative the road which is leading to the public highway.

Will expenditure towards dam be capital or revenue expenditure?

Will payment made towards the road outside of mohan cooperative be capital or revenue
expenditure?

Illustration – Rohit has a brick company already in existence. He entered into a contract with
Shruti for a small land on lease from 3 months to 18 months. Terms of the contract:

i) can go only 3 feet deep, 100m width

ii) he will employ labour

iii) machines installed to extract the soil

will this expenditure on lease, labour and machines be a case of revenue expenditure or
capital expenditure?

When you instal machines, you have to employ engineers also. So, manufacturers often hire
the machines. These are generally not owned by the contractor. So, such expenditure is
generally revenue expenditure.

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There will be a case of revenue expenditure. This is because the lease was never given for the
purposes of possession. It was a limited lease – only 3 feet deep and 10m width. Once the
purpose is limited, and it is not towards the outlay of his business (just for clay, and not to
build anything on it), it will be for revenue expenditure – the use of land is for the strict
purpose of collecting the soil. It would have been capital expenditure had he been the
complete owner, but here he has limited use.

Machine is a fixed asset. It does not fall within the circulating capital test.

Illustration –

Tikaram case – 1975/25/45 –

For business, initial outlay will always be a case of capital expenditure, which otherwise
might be revenue expenditure. For example in car showroom, the initial few cars will
constitute capital expenditure.

Benarsi Das Jagannath of Amritsar v CIT – 1946 SCC OnLine Lah 71 – Justice Mahajan – in
this case, reference was made to tikaram. The assessee, who was a manufacturer of bricks,
had obtained certain lands on leases for the purpose of digging out earth for the manufacture
of bricks. Under the deeds he had the right to dig earth up to three and a half feet. He had no
interest left in the lands as soon as the earth was dug out and removed. The period of leases
varied from six months to three years. It was held that the main object of the agreements was
the procuring of earth for manufacturing bricks and not the acquisition of an advantage of a
permanent nature or of an enduring character, that the payments made were the price of raw
material and that the assessee was, therefore, entitled to claim them as revenue expenditure.

At the initial outlay, if you take complete lease (you will have full access to the land, even
with short period), always capital expenditure. But if it is a case of limited access, it will be
revenue expenditure evne if it was taken at the initial level. At the initial outlay, if the lease is
taken for a long period, then also it will be revenue expenditure.

If land is taken for a shorter period even with full access (the land is taken for a specific
purpose), it will be a case of revenue expenditure. This is because you are just taking raw
material from the land.

Limited access will always be revenue – irrespective of the time period

In the Rohit example, if the land is for 4-5 years, then it will be capital expenditure.

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 23rd May 2022

Mohan Cooperatives – What if the company is spending on things which are otherwise
necessary but not their obligation to bill?

A dam is to be built but the government wants the companies to build it. There is a common
committee of companies which has given donation for building the dam. These companies
will enjoy electricity generated from the dam. Individual contributions will be demarcated.

If the same company now is contributing towards the building of construction of the
following types of roads:

i) from Mohan cooperative to the highway –

fresh road construction – this will not contribute to capital side. This will also not be a case of
revenue expenditure for section 37.

ii) within the factory – one place to another – raw material to second building – for
reparation, it will be a case of revenue expenditure

iii) reparation of road within the Mohan cooperative enclosure – 40 to 50 companies present
in this enclosure – this will be revenue expenditure. It is towards the nature of the business.

Fresh road at the time of outlaw – capital expenditure

Fresh road after the factory has been constructed – whether the factory has that workload that
roads of permanent nature are required – if yes, then a case of long and enduring benefit and
hence capital expenditure. If it is made outside the reception area, it might be revenue.

Within enclosure but outside factory – will depend whether there is government intervention
or not – if there are sewage or water lines, then the activity will be controlled by the
government. So, making roads will be government’s work only. Building roads here would
neither be capital expenditure nor revenue expenditure for the purposes of Section 37. If it is
a case of reparation, then it will not be revenue expenditure

If mohan cooperative builds the road as a committee, it will be a case of revenue expenditure
– if the committee is not there, then MCD/DDA will come into the picture – if they construct
from their own money, it will be the government’s expenditure. If there is a committee, it
means that the government has handed over the duty to them. All members will contribute,

92
and it will be a case of revenue expenditure. Where the handing over has not happened, it will
be revenue expenditure but not exempted as per section 37.

NOTE – the moment internal administration is handed over, it will be revenue expenditure as
per section 37. If there is government intervention, it won’t make a case for revenue
expenditure.

NOTE – due to the long and enduring nature of roads, it is generally seen as capital
expenditure

If an electricity meter has been installed and you are paying for electricity bill – is there any
difference between paying for electricity and paying towards the construction of the dam? –

Illustration – Waleed has a business. He needs 7 crores but has only 1 crore. He gambles with
the money he has – Lucky7. He lost all the money. Will this be a case of capital expenditure
or revenue expenditure? –

If anything is missing, then section 37 will not be attracted. Any expenditure towards
donation for construction of dam would make a case for 37 unless the business is for such
construction – unless you expenditure is towards the promotion of the business. +

Illustration – business makes saffron chunni. Donates towards temple. This will be revenue
expenditure – taken as marketing.

If expenditure is towards promotion/business/marketing – it will be revenue expenditure.

“wholly and exclusively” – not every expenditure is exempted. Revenue expenditure is of

different types.

Personal expenditure, expense or donation outside business, illegal types – all of them are
excluded

Dam illustration – this donation is in the sense of revenue. But this is not covered by Section
37. This is not the mandate of the business. It will not help in long and enduring benefit. This
is not revenue expenditure for the purpose of availing an exemption under Section 37.

NOTE – If the expenditure is revenue, then see if it is a revenue expenditure covered by

Section 37.

Illustration – Delhi government example – 10:31

24th May 2022

93
Jetha Pharmaceutical Industries –

Calcutta HC judgment applied this case.

If we presume that whatever is seized amount to smuggled goods, and something is paid to
get them released, then it would be a case of revenue expenditure, but it would get an
exemption under Section 37.

Illustration – All the gold that belonged to him has been seized, the business closes. He files a
suit for damages against Waleed on ground of negligence. This will not be a case of revenue
expenditure because no business is left. In this situation, if the business was not closed but
only substantial damages were incurred, then it would be revenue expenditure.

Apex Laboratories v Deputy Commissioner Income Tax – 2022 SC – circular issued by

medical council of India.

Illustration – Gangaram Hospital – doctors are allocated into different departments.

Would huge freebies be revenue expenditure?

Tilak Raj Kalra case – various kinds of income can be there, though they may not appear to
be so.

Arun Puri case – the person got a medal and a cash prize. The award was delivered by GD
Goenka trust. There was no co-relation between the persons.

Explanation 1 to section 37 provides that the thing has to be prohibited by the law – the SC
said that the moment medical council issues any rules, they are binding on the medical and
pharmaceutical industry. This rule should be read as law. Once read as law, the explanation
will be applicable. The freebies will be subject to the provision. Therefore, exception is
applicable to them. Though it is revenue, it cannot be claimed as a deduction under section
37. (Apex Lab)

This case was followed by a Calcutta HC judgment. Peerless Hospitality (or PLS
Hospitality). In this case, the hospital was paying referral fees to the doctors. Whether this
referral amount given to doctors be a deduction under Section 37? – their argument was that
the amount was spent towards running of the business. In this case, the 2012 medical council
guidelines were applicable. Similar outcome as the Apex Lab case.

Malik Ganguly case – leading case in reference to medical negligence

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Jacob Mathew case – medical negligence

Illustration – Rohit is the MD of HUL. He launched a new product. He set up a new factory
for this. Will launching of a new product be a case of revenue expenditure or capital
expenditure? – the new product launch will be a case of revenue expenditure (in all cases it
will be revenue expenditure). New factory will be a case of capital expenditure.

What if the pharma industries start giving samples to doctors so that they can first use it and
if they are satisfied, the doctors can start recommending it? – can these samples be treated a
part of freebies as per the medical council guidelines, and hence not deductible as per section
37? – or will it be revenue expenditure as per section 37? – it would be revenue expenditure
as per section 37 and hence deductible. Free samples are part of revenue expenditure under
section 37. But if samples are used as a colourable device, then it will not be covered by
section 37.

NOTE – expenditure towards research and development is counted as revenue expenditure

under section 37.

25th May 2022

Illustration – expenditure towards the opening of a new store – say a fixed place is given to
you and you are installing new furniture –

Taking the lease is one expense

Developing the store is one expense

Develop there and then and start the business – immediately after taking the lease, you started
the business. Development and lease going on simultaneously

Create wooden structure before launch – here, you wait for some time (can be years) before
you create the wooden structure. Launch it on a fixed date in the future.

Illustration – took a property on lease for 30k per month. For initial outlaw, you spent 1 crore.
For the launch, you invested another 50 lakhs. Say the launch party is at Hyatt. There are
celebrities coming to the party. Where will this amount go? –

What if everything in the above example happens on the same day? –

Three situations now –

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1. land on lease, developed it and then launched it

2. there is a grand launch after waiting for a considerable period of time

3. took some time to start the business but the grand was not big – outside the store only
distributed sweets –

Trent Limited v BCI – 2022 Bombay HC – case on store launch.

CIT v Sara Bhai Management Corporation Limited –

Illustration – Rohit is buying bungalows and refurnishing them for giving them on lease.
When everything is finished, he starts people to take it on lease. From that day onwards
(before people start coming in), where will the expenditure towards gardening, plumbing, etc
go? – remember that the property has not been leased yet, but the advertisements have been
sent –

In brick projects, unless the outlay is complete, everything would be a case of capital
expenditure. In the Sara Bhai example, the person’s business was to acquire property. After
acquisition, he will redevelop it. If the property consists of three rooms, he may convert them
into five rooms with the help of wooden structure. Till the time people come, you will need
plumbers, electricians, etc. But they were there from the beginning only.

Illustration – the builder prepared everything. But for three months, he did not publish any
ads. Though, expenditure towards gardening etc was there.

Up to the point of completion of building, it will be a case of capital expenditure. The

publication of advertisement has no effect. If you are into the business of giving lease, issuing
advertisement would not matter – it will be revenue expenditure and deductible under section
37.

But if you are not into the lease giving business (even if you are planning to enter into the
business), then you cannot claim it was revenue expenditure – it will not be deducted under
section 37. In such cases, it will be personal expense under section 37, which is an exception.
Till the business does not start, it will be counted as personal expenditure.

Business man and you deal in the business of acquiring – after necessary modifications, you
lease the property – if you are already a professional – after completion till given on lease, it
will be revenue expenditure to be exempted under section 37

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Had a house, modified it, and then decided to give it on lease – completion certificate
received – this will be personal expenditure and it won’t be deductible under section 37 – this
is for someone who is establishing a business and spending on property for the first time.

Illustration – located the property with the intent of giving it on lease – here, till the date of
completion certificate, it will be capital. From that point, any other expense won’t be covered
by section 37. It will be personal expense despite with the intention. Reason being that you
are yet to start the business. Exemption under section 37 is given only if you have a business.

NOTE – in all the cases, till the time you get completion certificate, it will be capital
expenditure.

Basic Principle – if you are in a business, you well get the exemption as revenue expenditure

Illustration – you had an agreement with the builder that you want the best quality material.
But instead of giving best quality, the provided the quality named ‘best’. Renovation will be
required there and then. This will be capital expenditure despite the fact that it happened after
the completion certificate was issued. This is when the initial outlaw is poor. If you are
making any changes after 6 months or a year, it will be revenue expenditure.

NOTE – if luxury property is being constructed and things like chandeliers etc are to be
installed, it will all be capital expenditure.

NOTE – installing sofas, curtains, etc are subtle changes – these would be revenue
expenditure. Even minor adjustments like changing the window position etc are revenue
expenditure.

NOTE – if you yourself are living in the place, then it would be capital expenditure. The
above illustrations are from the perspective of the business person.

NOTE – if there were no windows and they were installed later, then it will depend on the
time of installation. If within one month, it will be capital expenditure. If changed after 6
months to make it more useable for the purpose of business, it will be revenue expenditure.

26th May 2022

Trent Case – showroom was launched with minimum expenses. There, those expenses would
be a case of revenue expenditure – it is necessary to run the business.

Lalit Modi IPL Case –

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BCCI has smaller companies which take care of various aspects of the IPL.

Any launch for the purposes of IPL, which expense will be taken as capital and revenue?

Celebrity performances; nothing to do with the sport – revenue expenditure or capital

expenditure?

The answer will depend on business to business. Even if the stock is around one crore and the
investment is around one crore, it will be revenue expenditure.

The product is their own but for the purpose of the store launch, a loan is taken – interest will
have to be paid on it – would it be revenue expenditure? – if the loan is towards business,
then it will be a case of revenue expenditure. The loan aspect is immaterial.

Store launch expenses – generally a case of revenue expenditure unless the expense is such
that there is no co-relation between the general business and the expenditure

NOTE – re-assessment is subject to limitation – 4 years only. If the AO makes a prima facie
view that the expenditure is towards the business and he closes the assessment, then it cannot
be opened at any subsequent case.

At times, the AO might reopen. If then an appeal is preferred, then the question arises as to
whether there is any new addition of information or mere opinion has changed. If it is the
latter, then the court would not allow that.

NOTE – if the launch takes place within 10-15 days of the competition, then the expenditure
spent towards launch will be counted as capital expenditure. If at that time, a grand party is
thrown, then it will be revenue expenditure.

NOTE – TOPA read with General Clauses Act – case of immovable property would be a case
of capital asset. However, if the construction is over and after 6 months someone makes any
change to the house, it would be revenue expenditure – it is a necessity for the business. If
you are going to change the windows, despite the fact that they are immoveable, it will be
revenue expenditure – this is seen as removal of obstructions. This is despite the fact that it is
adding to the capital side

NOTE – Vegas mall. Work going on for 5-6 years. Recurring expenses – all of it will be
counted as capital expenditure. After the mall has started, still work going on – income from
house property – there is some depreciation; some deductions are there.

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As of now, the work being carried out in Vegas mall is revenue expenditure. The major work
is now over. Can easily differentiate that proper business is going on. Vegas needs to
differentiate because the IT department will try to bring everything under capital expenditure.

30th May 2022

Kerala Distillery – it is not fixed that after 4 or 5 years, the thing would be fulfilled. Once it is
a case of infinite period, it won’t be capital expenditure. This will be a case of revenue
expenditure. Capital expenditure is what is used to acquire capital assets. The court held that
40 lakhs can still be a case of revenue expenditure. The agreement said that they would not
sell the unit. Case given in the material.

Compensation for gaining confidentiality after termination of employment – it will not be

salary because no employer-employee relationship is there. If he was getting salary after 2
years, then fine. However, compensation to leave the job is not salary unless it is mentioned
in the agreement.

Application of Income and Diversion by Overriding Title –

Sub-Partnership

HUF

The application of income is when it comes into your pocked and then it goes. Whether the
source of income is applicated or diverted. If the source is applicated, then it is application of
income. Before entering into the pocket of the assessee, the income should be diverted for it
to be diversion of income. Diversion of income has to be by operation of law, this also
includes customary law.

College example – there is a land. The owner has given this land to the college. A particular
fund for this fund will be into the pocket of the college. The tenant is a company which is
supposed to revert the amount to the owner. Tripartite agreement. A right was created in
favour of the college when the tenant doesn’t pay. 9:44. The question here was whether this
income in the name of the college is diverted? – the source is generation of rent. The
company is generating the income in the sense of rent towards the owner.

Tri agreement that 10000 rent is to be paid by the company, out of which 5k has to go to the
college. Then entered into separate agreement. If the company doesn’t pay college, then the
college can sue the company.

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By way of a law, income is already diverted through an agreement and right is also there. The
court here said that it cannot be read as law. Here the source of income is rent. Rent generally
generates to the land owner. The company already generated the rent in the accounts book in
the name of the land owner, then anything done by the land owner will be a case of
application.

The commissioner of income tax held that this will be application of income. The 5k that is
going to the college will be seen as money belonging to the assessee.

Dominant test – the dominance over the money belongs to the assessee despite the agreement
in place. The transfer has not created any special title.

It would have been diversion had the landlord created a trust in the name of the college.

Atmaram college – de jure relationship showed that a trust was created. Trust is a separate
entity. Once it is a separate entity, it will be a case of diversion. college

NOTE – even if the original agreement says that money is to be given to the college, unless
there is a separate legal entity created, it will be a case of application. Here also the land will
be accrued in the name of the land lord. If in the sale deed a title is created for the college,
then it might be said that it is diversion. But my merely saying in the agreement it would not
be diversion; it would be a sham transaction.

Partnership is a special law. Say they discuss a particular partner belongs to a other partner.
In this case, it might have been diversion of income.

NOTE – look at the law – how is it proposing the transfer. If diversion cannot be seen from
the law, then it would be application.

Income from house property – three agreements. One for maintenance.

Car for office travel – will depend on the agreement. If the office handed over the car, then it
will be salary despite the fact that the joining is from 1 st July. There is a context in which the
joining takes place. Dress allowance is in salary because given in the context of joining.

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