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Income Tax Appellate Tribunal, “A” BENCH, MUMBAI
Before: SHRI MAHAVIR SINGH & SHRI RAMIT KOCHAR
आयकर अपील"य अ"धकरण “A” "यायपीठ मुंबई म"। IN THE INCOME TAX APPELLATE TRIBUNAL “A” BENCH, MUMBAI BEFORE SHRI MAHAVIR SINGH, JUDICIAL MEMBER AND SHRI RAMIT KOCHAR, ACCOUNTANT MEMBER आयकर अपील सं./I.T.A. No. 904/Mum/2013 ("नधा"रण वष" / Assessment Year : 2009-10) The Assistant Commissioner Liva Healthcare Limited बनाम/ of Income Tax, Circle 6(3), Shivsagar Estate, v. Room No. 522, 5 th Floor, ‘A’ Block, Aayakar Bhavan, M K Road, Dr. Annie Basant Road Mumbai-400020 Worli, Mumbai-400 018 "थायी लेखा सं./PAN : AAAFW0040N (अपीलाथ" /Appellant) .. (""यथ" / Respondent)
आयकर अपील सं./I.T.A. No. 945/Mum/2013 ("नधा"रण वष" / Assessment Year : 2009-10) Liva Healthcare Limited The Assistant बनाम/ Shivsagar Estate, Commissioner of Income v. ‘A’ Block, Tax, Circle 6(3), Room No. Dr. Annie Basant Road 522, 5 th Floor, Aayakar Worli, Mumbai-400 018 Bhavan, M K Road, Mumbai-400020 "थायी लेखा सं./PAN : AAAFW0040N .. (अपीलाथ" /Appellant) (""यथ" / Respondent)
Revenue by Shri A. Ramachandran Revenue by : Shri B.V.Jhaveri
सुनवाई क" तार"ख /Date of Hearing : 16-6-2016 घोषणा क" तार"ख /Date of Pronouncement : 12-09-2016 आदेश / O R D E R PER RAMIT KOCHAR, Accountant Member
These cross appeals , filed by the Revenue and the assessee company, being ITA No. 904/Mum/2013 and 945/Mum/2013, are directed against the ITA 904 and 945/Mum/2013 2
appellate order dated 8th November, 2012 passed by learned Commissioner of Income Tax (Appeals)- 12, Mumbai (hereinafter called “the CIT(A)”), for the assessment year 2009-10, the appellate proceedings before the learned CIT(A) arising from the assessment order dated 29th December, 2011 passed by the learned Assessing Officer (hereinafter called “the AO”) u/s 143(3) of the Income Tax Act,1961 (Hereinafter called “the Act”).
First we shall take up the assessee appeal in ITA No 945/Mum/2013. The grounds of appeal raised by the assessee company in the memo of appeal filed with the Income Tax Appellate Tribunal, Mumbai (hereinafter called “the Tribunal”) read as under:-
“1. The learned C.I,T.(Appeals) is not justified in upholding the disallowance of Rs.76,54,986/- under sec. 37 of the Income Tax Act,1961. 2. The learned CIT(Appeals) while disallowing the claim of expenditure incurred by the appellant on overseas travel of doctors has overlooked the fact of the commercial expediency and business necessity of such expenditure and that the expenditure was incurred by the assessee wholly and exclusively for the purpose of the business..”
The Brief facts of the case are that the assessee is engaged in the manufacturing of drugs and pharmaceutical.
The AO observed from the Profit and Loss Account of the assessee that the assessee has incurred Rs. 76,54,986/- for sponsoring the Doctors overseas Tour. The assessee on being asked to explain the same submitted that the said expenses are allowable u/s 37 of the Act being incurred wholly and exclusively for the business of the assessee and being revenue in nature and not capital nor personal in nature. The AO rejected the contentions of the assessee. The AO observed that the assessee had contended that the real persons who create the market for a particular drug are the Medical
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Practitioners and for this purpose the assessee organized various seminars , group visits at various places. The assessee , however, did not brought before the AO anything on record to show that whether any seminar was conducted during these trips. Thus, as per AO that the assessee has not proved that the expenditure were incurred wholly and exclusively for the purposes of business. It was submitted by the assessee that by conducting such trip/tour programs , it is creating certain amount of relationship with the Doctors who may buy or prescribe medicines. Thus, it was observed by the AO from reply of the assessee that it is trying to keep the Doctors in good humour who may then buy or prescribe medicines . Thus, these trips are organized to lure the doctors to buy/prescribe the medicines and to allure the Doctor the assessee company is trying to sponsor their travel program. Thus, the Doctors have undertaken the trip which is merely sponsored by the assessee and this does not substantiate the fact that it was incurred wholly and exclusively for the purposes of the business of the assessee. The assessee submitted before the AO that these doctors nor the tour operators are related to the assessee. Thus, it is was observed by the AO that neither the doctor, nor the tour operator nor the expenses are related to the business of the assessee. The assessee submitted few photographs of the visits which as per AO did not establish that the expenditure was incurred wholly and exclusively for the purposes of the business, for which no evidences had been given. Thus, the AO held that keeping in view the facts and circumstances of the case, since the assessee has not been able to prove that these sponsorships of the Doctors of the overseas tours was incurred wholly and exclusively for the purposes of the business, the assessee cannot be allowed this sum of Rs. 76,54,986/- as a deduction u/s 37 of the Act as claimed by the assessee and the same was disallowed by the AO as not being incurred wholly and exclusively for the purposes of the business and was added back to the income of the assessee by the AO vide assessment order dated 29-12-2011 passed u/s 143(3) of the Act.
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Aggrieved by the assessment order dated 29-12-2011 passed by the AO u/s 143(3) of the Act, the assessee filed an appeal before the learned CIT(A) who dismissed the appeal of the assessee following the appellate order of the learned CIT(A) for immediately preceding assessment year 2008-09 wherein the learned CIT(A) had dismissed the appeal of the assessee for the assessment year 2008-09. The learned CIT(A) observed that the assessee is contending that the assessee is able to increase sales and profits due to these trips and therefore these expenses would need to be covered under sales promotions expenses and consequently allowed. The assessee also submitted that these expenses spread awareness about the assessee’s business. The learned CIT(A) observed that general statement has been made which cannot be the basis of allowability of an expenses unless the nexus is directly established. The assessee has to establish nexus between the sales and the expenses incurred which the assessee failed to establish. It was also observed by the learned CIT(A) that allowability of these expenses are prohibited under the Circular of Indian Medical Council dated 10-12-2009 read with explanation to Section 37(1) of the Act and CBDT circular dated 01-08-2012. It was observed by learned CIT(A) that these circulars may be issued after the end of previous year but the contents of these circulars are not new but just a formalization of the principles already existing u/s 37(1) of the Act since 1998 wherein explanation was inserted w.e.f. 01-04-1962 by Finance Act,1998. Thus, learned CIT(A) confirmed/sustained the additions made by the learned AO vide appellate order dated 08-11-2012 passed by learned CIT(A).
Aggrieved by the appellate order dated 08-11-2012 passed by learned CIT(A), the assessee filed second filed second appeal with the Tribunal. The learned counsel for the assessee submitted at the outset that the issue is covered in favour of the assessee by the decision of the Tribunal in assessee’s own case in ITA No 388/Mum/2012 for the assessment order dated 2008-09
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vide Tribunal order dated 31-08-2015. It was submitted that the said expenses be allowed as expenses u/s 37(1) of the Act. It was submitted that the assessee has incurred expenses on tours of the Doctors to Istanbul and Hongkong. The details of the expenses are placed in paper book/page 18-37 which also included few photographs of the program abroad.
The learned DR relied upon the orders of learned CIT(A).
We have heard the rival parties and considered the material available on record. We have observed that the assessee has incurred expenditure of Rs.76,54,986/- towards Doctors foreign tours to Istanbul and Hongkong. It is the contention of the assessee that the same was organized to keep the doctors in good humor and to create awareness among Doctors about the assessee’s products so that the Doctors can write prescription for the assessee’s pharmaceutical products to the patients which will lead to increased sales and profitability. The assessee vide its replies dated 21-12- 2011 filed before the AO (paper book/page 9-10) clearly stated and admitted that by organizing such sponsored travel programs , certain amount of good relationship is created with the doctors who may then buy or prescribe those medicines and thus help the assessee increase its business volume and thereby earning increased profits. It is admittedly submitted in the same reply dated 21-12-2011 by the assessee before the AO that such sponsorship strengthen relation between the doctors and the assessee and which in turn generates more and more business for the assessee(page10/pb). It is the say of the assessee that seminars were organized but no such evidences were brought on record about seminars being conducted by the assessee overseas and the course contents of the said seminars and topics for deliberation in seminar for knowledge enhancement and sharing, except few photographs . The mandate of Section 37(1) of the Act being residuary clause covers expenses which are not covered by clauses of Section 30 to 36 of the Act of ITA 904 and 945/Mum/2013 6
1961 and that the expenses should be incurred wholly and exclusively for the purposes of the business of the assessee , the said expenditure should not be capital expenditure nor the same should be personal in nature. Further explanation has been inserted in Section 37 of the Act by Finance Act,1998 w.e.f. 01-04-1962 whereby if the expenses are incurred for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction on account of business expenditure shall be allowed w.r.t. such expenditure. Section 37 of the Act as applicable for the assessment year 2009-10 is reproduced hereunder:
“General. 37. (1) Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the businessor profession shall be allowed in computing the income chargeable under the head “Profits and gains of business or profession”.
[Explanation.—For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.] (2) [* * *] [ (2B) Notwithstanding anything contained in sub-section (1), no allowance shall be made in respect of expenditure incurred by an assessee on advertisement in any souvenir, brochure, tract, pamphlet or the like published by a political party.]”
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The purpose for incorporation of this Explanation had been explained by the Central Board of Direct Taxes in Circular No. 772, dated December 23, 1998 ([1999] 235 ITR (St.) 35, 53) as under :
"20. Disallowance of illegal expenses.
20.1 Section 37 of the Income-tax Act is amended to provide that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction or allowance shall be made in respect of such expenditure. This amendment will result in disallowance of the claims made by certain assessees in respect of payments on account of protection money, extortion, hafta, bribes, etc., as business expenditure. It is well decided that unlawful expenditure is not an allowable deduction in computation of income.
20.2 This amendment will take effect retrospectively from 1st April, 1962, and will, accordingly, apply in relation to the assessment year 1962-63 and subsequent years."
The expenditure if it is an offence or prohibited by law shall not be allowed as an expenditure u/s 37(1) of the Act by virtue of insertion of explanation to Section 37 of the Act of 1961 by Finance Act , 1998 w.e.f. 01-04-1962 . The Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 prohibits vide regulation 6.4.1 the physician to receive any gifts, gratuity, commission or bonus in consideration or return for referring the patients for medical, surgical or other treatment. The said regulation 6.4.1. is reproduced hereunder:
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“6.4 Rebates and Commission:
6.4.1 A physician shall not give, solicit, or receive nor shall he offer to give solicit or receive, any gift, gratuity, commission or bonus in consideration of or return for the referring, recommending or procuring of any patient for medical, surgical or other treatment. A physician shall not directly or indirectly, participate in or be a party to act of division, transference, assignment, subordination, rebating, splitting or refunding of any fee for medical, surgical or other treatment.”
There was new regulation 6.8 inserted in the said regulation vide notification issued in official gazette on 14-12-2009 as under:
The Clause No. 6.8, as under, is included in terms of Notification published on 14.12.2009 in Gazette of India .
“6.8 Code of conduct for doctors and professional association of doctors in their relationship with pharmaceutical and allied health sector industry. 6.8.1 In dealing with Pharmaceutical and allied health sector industry, a medical practitioner shall follow and adhere to the stipulations given below:- a) Gifts: A medical practitioner shall not receive any gift from any pharmaceutical or allied health care industry and their sales people or representatives. b) Travel facilities: A medical practitioner shall not accept any travel facility inside the country or outside, including rail, air, ship , cruise
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tickets, paid vacations etc. from any pharmaceutical or allied healthcare industry or their representatives for self and family members for vacation or for attending conferences, seminars, workshops, CME programme etc as a delegate. c) Hospitality: A medical practitioner shall not accept individually any hospitality like hotel accommodation for self and family members under any pretext. d) Cash or monetary grants: A medical practitioner shall not receive any cash or monetary grants from any pharmaceutical and allied healthcare industry for individual purpose in individual capacity under any pretext. Funding for medical research, study etc. can only be received through approved institutions by modalities laid down by law / rules / guidelines adopted by such approved institutions, in a transparent manner. It shall always be fully disclosed. e) Medical Research: A medical practitioner may carry out, participate in, work in research projects funded by pharmaceutical and allied healthcare industries. A medical practitioner is obliged to know that the fulfillment of the following items (i) to (vii) will be an imperative for undertaking any research assignment / project funded by industry – for being proper and ethical. Thus, in accepting such a position a medical practitioner shall:- (i) Ensure that the particular research proposal(s) has the due permission from the competent concerned authorities. (ii) Ensure that such a research project(s) has the clearance of national/ state / institutional ethics committees / bodies. (iii) Ensure that it fulfils all the legal requirements prescribed for medical research. (iv) Ensure that the source and amount of funding is publicly disclosed at the beginning itself.
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(v) Ensure that proper care and facilities are provided to human volunteers, if they are necessary for the research project(s). (vi) Ensure that undue animal experimentations are not done and when these are necessary they are done in a scientific and a humane way. (vii) Ensure that while accepting such an assignment a medical practitioner shall have the freedom to publish the results of the research in the greater interest of the society by inserting such a clause in the MoU or any other document / agreement for any such assignment. f) Maintaining Professional Autonomy: In dealing with pharmaceutical and allied healthcare industry a medical practitioner shall always ensure that there shall never be any compromise either with his / her own professional autonomy and / or with the autonomy and freedom of the medical institution. g) Affiliation: A medical practitioner may work for pharmaceutical and allied healthcare industries in advisory capacities, as consultants, as researchers, as treating doctors or in any other professional capacity. In doing so, a medical practitioner shall always: (i) Ensure that his professional integrity and freedom are maintained. (ii) Ensure that patients interest are not compromised in any way. (iii) Ensure that such affiliations are within the law. (iv) Ensure that such affiliations / employments are fully transparent and disclosed. h) Endorsement: A medical practitioner shall not endorse any drug or product of the industry publically. Any study conducted on the efficacy or otherwise of such products shall be presented to and / or through
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appropriate scientific bodies or published in appropriate scientific journals in a proper way”.
The title of Section 6.8 shall be further amended by deleting the words "and professional association of doctors" in terms of Notification published on 01.02.2016 in Gazette of India as under:- “6.8 Code of conduct for doctors in their relationship with pharmaceutical and allied health sector industry"
The Section 6.8.1(b) shall be substituted in terms of Notification published on 01.02.2016 in Gazette of India, as under:-
“(b) Travel Facilities : A medical practitioner shall not accept any travel Facility inside the country or outside, including rail, road, air, ship, cruise tickets, paid vacation, etc. from any pharmaceutical or allied healthcare industry or their representatives for self and family members for vacation or for attending conferences, seminars, workshops, CME Programme, etc. as a delegate.”
The CBDT brought a circular no. 5/2012 dated 01-08-2012 as under:
“SECTION 37(1) OF THE INCOME TAX ACT, 1961 - BUSINESS EXPENDITURE - ALLOWABILITY OF - INADMISSIBILITY OF EXPENSES INCURRED IN PROVIDING FREEBEES TO MEDICAL PRACTITIONER BY PHARMACEUTICAL AND ALLIED HEALTH SECTOR INDUSTRY
CIRCULAR NO. 5/2012 [F. NO. 225/142/2012-ITA.II], DATED 1-8-2012
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It has been brought to the notice of the Board that some pharmaceutical and allied health sector Industries are providing freebees (freebies) to medical practitioners and their professional associations in violation of the regulations issued by Medical Council of India (the 'Council') which is a regulatory body constituted under the Medical Council Act, 1956. 2. The council in exercise of its statutory powers amended the Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 (the regulations) on 10-12-2009 imposing a prohibition on the medical practitioner and their professional associations from taking any Gift, Travel facility, Hospitality, Cash or monetary grant from the pharmaceutical and allied health sector Industries.
Section 37(1) of Income Tax Act provides for deduction of any revenue expenditure (other than those failing under sections 30 to 36) from the business Income if such expense is laid out/expended wholly or exclusively for the purpose of business or profession. However, the explanation appended to this sub-section denies claim of any such expense, if the same has been incurred for a purpose which is either an offence or prohibited by law.
Thus, the claim of any expense incurred in providing above mentioned or similar freebees in violation of the provisions of Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 shall be inadmissible under section 37(1) of the Income Tax Act being an expense prohibited by the law. This disallowance shall be made in the hands of such pharmaceutical or allied health sector Industries or other assessee
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which has provided aforesaid freebees and claimed it as a deductable expense in its accounts against income.
It is also clarified that the sum equivalent to value of freebees enjoyed by the aforesaid medical practitioner or professional associations is also taxable as business income or income from other sources as the case may be depending on the facts of each case. The Assessing Officers of such medical practitioner or professional associations should examine the same and take an appropriate action.
This may be brought to the notice of all the officers of the charge for necessary action”
The afore-stated circular of CBDT is clarificatory and clarifies that any expenses incurred in violation of the provisions of Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 shall be inadmissible under section 37(1) of the Income Tax Act being an expense prohibited by the law. The law as stood during relevant previous year as per provisions of Section 37(1) of the Act read with explanation inserted by Finance Act , 1998 w.e.f. 01-04-1962 clearly stipulates that if an expenditure is incurred for any purpose which is an offence or which is prohibited under law shall not be allowed as deduction due to restriction contained u/s 37 of the Act read with explanation.
The said circular dated 01-08-2012 issued by the CBDT was subject to challenge in writ petition filed in Hon’ble Himachal Pradesh High Court in writ petition no. 10793 of 2012-J in the case of Confederation of Pharmaceutical Industry v. CBDT where in validity of the said CBDT was ITA 904 and 945/Mum/2013 14
challenged , the Hon’ble Himachal Pradesh High Court held that the said circular is valid and the Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 governing professional ethics of Doctors issued is salutary which is in the interest of public and patient. The Hon’ble Himachal Pradesh held as under:
“The petitioner by means of this petition has prayed that Circular No. 5/2012 dated 1.8.2012 issued by the Central Board of Direct Taxes be quashed. The relevant portion of the circular reads as follows:-
“2. The council in exercise of its statutory powers amended the Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 (the regulations) on 10.12.2009 imposing a prohibition on the medical practitioner and their professional associations from taking any Gift, Travel facility, Hospitality, Cash or monetary grant from the pharmaceutical and allied health sector Industries.
Section 37(1) of Income Tax Act provides for deduction of any revenue expenditure (other than those falling under Sections 30 to 36) from the business Income if such expense is laid out/expended wholly or exclusively for the purpose of business or profession. However, the explanation appended to this sub-section denies claim of any such expense, if the same has been incurred for a purpose which is either an offence or prohibited by law. Thus, the claim of any expense incurred in providing above mentioned or similar freebees in violation of the provisions of Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 shall be inadmissible under Section 37(1) of the Income Tax Act being an expense prohibited by the law. This disallowance shall be made in the hands of such pharmaceutical or ITA 904 and 945/Mum/2013 15
allied health sector Industries or other assessee which has provided aforesaid freebees and claimed it as a deductable expense in its accounts against income.
It is also clarified that the sum equivalent to value of freebees enjoyed by the aforesaid medical practitioner or professional associations is also taxable as business income or income from other sources as the case may be depending on the facts of each case. The Assessing Officers of such medical practitioner or professional associations should examine the same and take an appropriate action.”
It is apparent that the Medical Council of India in exercise of the powers vested in it under the Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002 imposed prohibition on any medical practitioner or their professional associates from accepting any gift, travel facility, hospitality, cash or monetary grant from any pharmaceutical and allied health sector Industries. This regulation is a very salutary regulation which is in the interest of the patients and the public. This Court is not oblivious to the increasing complaints that the medical practitioners do not prescribe generic medicines and prescribe branded medicines only in lieu of the gifts and other freebies granted to them by some particular pharmaceutical industries. Once this has been prohibited by the Medical Council under the powers vested in it, Section 37(1) of the Income-tax Act comes into play, which reads as follows:-
“37(1) Any expenditure (not being expenditure of the nature described in Sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be ITA 904 and 945/Mum/2013 16
allowed in computing the income chargeable under the head “Profits and gains of business or profession”.
(Explanation - For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.)”
Shri Vishal Mohan, Advocate, on behalf of the petitioner contends that the circular goes beyond the section itself. We are not in agreement with this submission. The explanation to Section 37(1) makes it clear that any expenditure incurred by an assessee for any purpose which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession. The sum and substance of the circular is also the same. In case the assessing authorities are not properly understanding the circular then the remedy lies for each individual assessee to file appeals under the Income-tax Act but the circular which is totally in line with Section 37(1) cannot be said to be illegal. In fact para 4 of the circular quoted hereinabove itself clarifies that the value of the freebies enjoyed by the medical practitioner is also taxable as business income or income from other sources depending on the facts of each case. Therefore, if the assessee satisfies the assessing authority that the expenditure is not in violation of the regulations framed by the medical council then it may legitimately claim a deduction, but it is for the assessee to satisfy the assessing officer that the expense is not in violation of the Medical Council Regulations referred to above.
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We, therefore, find no merit in the petition, which is accordingly rejected. No costs.
The Hon’ble Punjab and Haryana High Court has vide decision in CIT v. Kap Scan and Diagnostic Centre Private Limited (2012) 25 taxmann.com 92(P&H HC) has confirmed disallowance of commission as not allowable u/s 37(1) of the Act being against public policy prohibited by law . The relevant part of the judgment is as under:
“10. We have given our thoughtful consideration to the submissions of learned counsel for the assessee but do not find any merit in the same. A perusal of the orders passed by the Assessing Officer, the Commissioner of Income-tax (Appeals) and the Tribunal shows that the issue was with regard to admissibility of deduction of the commission paid by the assessee to the doctors for having referred the business to its diagnostic centre. Once that is so, it cannot be said that the point with regard to section 37(1) of the Act was never raised though it was only under the said provision. The argument, thus, does not carry any weight.
Adverting to the second and third arguments, the payment of commission to the private doctors for having referred the business for diagnosis to its centre requires examination with reference to section 37 of the Act.
Section 37 is a residuary provision. An assessee is entitled to deduction of all expenditure which is wholly and exclusively laid out or expended for the purposes of the business which has not been expressly covered by any other specific provision of the Act.
In order to be eligible for an allowance under this residuary provision, the following conditions are required to be fulfilled :
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"(i) The expenditure must not be governed by the provisions of sections 30 to 36. (ii) The expenditure must have been laid out wholly and exclusively for the purposes of the business of the assessee.
(iii) The expenditure must not be personal in nature.
(iv) The expenditure must not be capital in nature."
The Explanation to sub-section (1) was inserted by the Finance (No. 2) Act, 1998, with retrospective effect from April 1, 1962, which reads thus :
"Explanation.-For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure."
The purpose for incorporation of this Explanation had been explained by the Central Board of Direct Taxes in Circular No. 772, dated December 23, 1998 ([1999] 235 ITR (St.) 35, 53) as under :
"20. Disallowance of illegal expenses.
20.1 Section 37 of the Income-tax Act is amended to provide that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction or allowance shall be made in respect of such expenditure. This amendment will result in disallowance of the claims made by certain assessees in respect of payments on account of protection money, extortion, hafta, bribes, etc., as ITA 904 and 945/Mum/2013 19
business expenditure. It is well decided that unlawful expenditure is not an allowable deduction in computation of income.
20.2 This amendment will take effect retrospectively from 1st April, 1962, and will, accordingly, apply in relation to the assessment year 1962-63 and subsequent years."
It, thus, emerges that an assessee would not be entitled to deduction of payments made in contravention of law. Similarly, payments which are opposed to public policy being in the nature of unlawful consideration cannot equally be recognized. It cannot be held that businessmen are entitled to conduct their business even contrary to law and claim deductions of payments as business expenditure, notwithstanding that such payments are illegal or opposed to public policy or have pernicious consequences to the society as a whole.
Now, we proceed to examine whether soliciting of business by the assessee by paying commission to the private doctors is unethical, against public policy and forbidden by law.
The Medical Council of India in exercise of powers conferred under section 20A read with section 33(m) of the Indian Medical Council Act, 1956 has made "The Indian Medical Council (Professional Conduct, Etiquette and Ethics) Regulations, 2002, which describes unethical acts under Chapter 6 of the said regulations. Regulation 6.4 provides that no physician shall give, solicit, receive, or offer to give, solicit or receive, any gift gratuity, commission or bonus in consideration of a return for referring any patient for medical treatment. Regulation 6.4 reads thus :
"6.4.1 A physician shall not give, solicit, or receive nor shall he offer to give solicit or receive, any gift, gratuity, commission or bonus in consideration of or return for the referring, recommending or procuring of any patient for medical, surgical or other treatment. A physician shall not directly or ITA 904 and 945/Mum/2013 20
indirectly, participate in or be a party to act of division, transference, assignment, subordination, rebating, splitting or refunding of any fee for medical, surgical or other treatment.
6.4.2 The provisions of para. 6.4.1 shall apply with equal force to the referring, recommending or procuring by a physician or any person, specimen or material for diagnostic purposes or other study/ work. Nothing in this section, however, shall prohibit payment of salaries by a qualified physician to other duly qualified person rendering medical care under his supervision."
If demanding of such commission was bad, paying it was equally bad. Both were privies to a wrong. Therefore, such commission paid to private doctors was opposed to public policy and should be discouraged. The payment of commission by the assessee for referring patients to it cannot by any stretch of imagination be accepted to be legal or as per public policy. Undoubtedly, it is not a fair practice and has to be termed as against the public policy.
Further, section 23 of the Contract Act equates an agreement or contract opposed to public policy, with an agreement or contract forbidden by law. Section 23 of the Contract Act reads thus :
"23. What consideration and objects are lawful, and what not.-
The consideration or object of an agreement is lawful, unless-
it is forbidden by law ; or is of such a nature that, if permitted, it would defeat the provisions of any law ; or is fraudulent ; or involves or implies, injury to the person or property of another ;
or the court regards it as immoral, or opposed to public policy.
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In each of these cases, the consideration or object of an agreement is said to be unlawful. Every agreement of which the object or consideration is unlawful is void."
The judgments relied upon by the assessee cannot be of any assistance to the assessee as they are prior to insertion of the Explanation to sub-section (1) of section 37 of the Act. Reference may also be made to the apex court judgment in Dr. T. A. Quereshi's case (supra) on which reliance has been placed by the learned counsel for the assessee. The hon'ble Supreme Court in that case was seized of the matter where heroin forming part of the stock of the assessee's trade was confiscated by the State authorities and the assessee claimed the same to be an allowable deduction. The hon'ble Supreme Court held that seizure and confiscation of such stock-in-trade has to be allowed as a business loss and Explanation to section 37 has nothing to do as that was not a case of business expenditure. Since the present case is not a case of business loss but of business expenditure, that judgment is distinguishable and does not help the assessee.
The issue with regard to the amount illegally paid to the police authorities for running their business came up for consideration before the Madhya Pradesh High Court in Gwalior Road Lines v. CIT [1998] 234 ITR 230 wherein it was held that after insertion of the Explanation to section 37(1) by the Finance Act, 1998, with effect from April 1, 1962, the assessee could not claim such payment as expended for commercial exigency and, therefore, the same was not an allowable deduction.
The Allahabad High Court in Pt. Vishwanath Sharma's case (supra) while considering the issue relating to commission paid to Government doctors for prescribing the assessee's medicines to patients held it to be contravening public policy and an inadmissible expenditure. However, no distinction can be made in respect of Government doctors and private doctors as has been canvassed by the learned counsel for the assessee.
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Thus, the commission paid to private doctors for referring patients for diagnosis could not be allowed as a business expenditure. The amount which can be allowed as business expenditure has to be legitimate and not unlawful and against public policy.
Consequently, the order passed by the Commissioner of Income-tax (Appeals) and the Tribunal whereby deduction had been allowed to the assessee cannot be sustained.
In view of the above, the appeals are allowed and the substantial question of law is answered in favour of the Revenue and against the assessee.”
The assesese has contended that the expenses on Doctor overseas tours are incurred for the purposes of keeping the doctors in good humor so that they can prescribe pharmaceutical products of the assessee company to their patients which will promote more and more sales and profitability for the assessee. The assessee company has admittedly claimed that by incurring expenses on overseas tours of the Doctors their sales and profitability has actually increased and hence these expenses as claimed by the assessee have direct nexus with the increased sales and profitability. These expenses are against public policy being unethical as prohibited by law. These expenses are clearly hit by regulation 6.4.1 of the Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 which existed during the previous year 2008-09 which created bar on the physicians on receiving gifts , gratuities , commissions or bonus in consideration of or return for the referring , recommending or procuring of any patients for medical, surgical or other treatment. The expenditure has been admittedly incurred by the assessee with an objective to keep doctors in good humor to seek favours from them by way of recommending the pharmaceutical products dealt within by the assessee to the patients so that sales and profitability of the assessee
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company increases more and more which clearly reflect that these are illegal gratification against public policy being unethical prohibited by law. The said regulation is reproduced below:
“6.4.1 A physician shall not give, solicit, or receive nor shall he offer to give solicit or receive, any gift, gratuity, commission or bonus in consideration of or return for the referring, recommending or procuring of any patient for medical, surgical or other treatment. A physician shall not directly or indirectly, participate in or be a party to act of division, transference, assignment, subordination, rebating, splitting or refunding of any fee for medical, surgical or other treatment.”
The CBDT circular dated 01-08-2012 is merely clarificatory in nature and creates a bar on such illegal payments being against public policy , the said bar always existed in the statute by virtue of the existence of explanation to Section 37 of the Act which was inserted by Finance Act,1998 w.e.f. 01-04- 1962 and in our considered view based on factual matrix of the case as emerging from the records, the expenses of Rs. 76,54,986/- incurred by the assessee company are directly hit by explanation to Section 37 of the Act . There is one more fact which has come to our notice on perusal of the invoices raised by K.V.Travels Private Limited no. I0803192 dated 24-11- 2008 and invoice no. M0802580 dated 24-11-2008 which pertained to air tickets and hotel arrangements of Doctors for Istanbul Trip(pb/page18-25) that spouses of the Doctors also accompanied the Doctors to overseas trip to Istanbul and these expenses claimed by the assessee as revenue/business expenditure included the costs incurred for travel overseas to Istanbul of spouses of Doctors also , and also the arrangements included cruise travels to island, gala dinners, cocktails, gala entertainment etc. which clearly reflect that these overseas trips are ITA 904 and 945/Mum/2013 24
merely to entertain doctors abroad and lure doctors to solicit business for the assessee by unethical , illegal and prohibited means which is an offence under the regulation 6.4.1 as it existed during the relevant previous year under the Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 and hence is clearly hit by explanation to Section 37 of the Act and is not allowable as revenue/business expenditure in the hands of the assessee. If demanding or receiving of gifts, gratuity , commission or bonus by doctors is bad by virtue of regulation 6.4.1 of Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002, paying it was equally bad. Both were privies to a wrong. Therefore, such payments made for overseas trip to keep private doctors and their spouses in good humour to get favours in return from Doctors by way of referral of patient to the pharmaceutical products dealt with by the assessee to generate more and more business and profits for the assessee company is unethical , opposed to public policy being prohibited by law and should be discouraged. The payment for overseas visit of Doctors and their spouses for entertainment by the assessee in lieu of expectation of getting patient referrals from doctors for assessee’s pharmaceutical products to generate more and more business and profits for assessee by any stretch of imagination cannot be accepted to be legal or as per public policy. Undoubtedly, it is not a fair practice and has to be termed as against the public policy.
It is well accepted and settled proposition that regulations are covered under the definition of ‘law’. The definition in General Clauses Act, 1897 defines "Indian law" under Section 3(29) as :
“3. Definition – In this Act , and in all Central Acts and Regulations made after the commencement of this Act , unless there is anything repugnant in the subject or context, -
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(29) “ Indian law” shall mean any Act, Ordinance, Regulation, rule, (order, bye-law or other instrument which before the commencement of the Constitution had the force of law in any Province of India or part thereof, or thereafter has the force of law in any Part A State or Part C State or Part thereof, but does not include any Act of Parliament of the United Kingdom or any Order in Council, rule or other instrument made under such Act..”
Similarly under Constitution of India the word ‘law’ in context of fundamental rights is defined under Article 13(3)(a) whereby it is defined as under:
“Article 13(3) In this Article, unless the context otherwise requires, - (a) “law” includes any ordinance, order, bye-law, rule, regulation, notification, custom or usage having in the territory of India the force of law.”
Thus, the Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 has force of law as it was promulgated in exercise of the powers conferred under section 20A read with section 33(m) of the Indian Medical Council Act, 1956 (102 of 1956), the Medical Council of India, with the previous approval of the Central Government, made the regulations relating to the Professional Conduct, Etiquette and Ethics for registered medical practitioners, namely the Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 and hence these regulations shall be covered under the definition of ‘law’ and hence is covered under explanation to Section 37 of the Act. The assessee has contended that in the immediately preceding assessment year the Tribunal has decided the issue in favour of the assessee in ITA No. 388/Mum/2012 for assessment
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year 2008-09. In our considered view, principles of Res judicata is not applicable to income tax proceedings although we are fully agreeable that principles of consistency is to be maintained ( Hon’ble Supreme Court decision in Radha Soami Satsang v. CIT (1992) 193 ITR 321 (SC)) but in the instant assessment year , we have observed that these overseas trips for Doctors and their spouses were organized by the assessee whereby no details of the contents of seminar, if any conducted by the assessee overseas has been brought on record and also even the spouses accompanied the Doctors to the overseas trip which included cruise visit to island, gala dinners, cocktail, gala entertainment etc. rather than being directed towards seminar for product information dissemination or directed towards knowledge enhancement or knowledge sharing oriented as no details of seminar and its course content is brought on record rather the trip is directed towards leisure and entertainment of Doctors and their spouses which in our view appears to be clearly a distinguishable feature in this year enabling us to take a divergent view and the expenses incurred by the assessee cannot be allowed as business expenditure u/s 37 of the Act as it is clearly hit by explanation to Section 37 of the Act being against public policy as unethical prohibited by law. Even otherwise, these expenses cannot be considered to be incurred wholly and exclusive for the purpose of the business as the same were incurred to create good relations with the doctors in lieu of expected favours from doctors for recommending to patients the pharmaceutical products dealt within by the company to generate more and more business and profits for the assessee company. For claiming the expenses u/s 37 of the Act which is a residuary section, it is essential that the expenses are not covered under clauses of Section 30 to 36 of the Act of 1961 and are incurred wholly and exclusive for the purposes of business and it is not sufficient that it has some connection with the business of the assessee. No details of the seminars conducted abroad are brought on record as also spouses of the Doctors also travelled overseas along with Doctors and the expenses of the spouse on air
ITA 904 and 945/Mum/2013 27
ticket as well stay abroad are charged as an business expenditure u/s 37 of the Act which cannot be called as being incurred wholly and exclusively for the purposes of business of the assessee.
We keeping in view our foregoing detailed discussions and reasoning as set out above in preceding para’s uphold the order of the learned CIT(A) and dismiss the appeal of the assessee on this ground for the detailed reasons and discussions as indicated above. We order accordingly.
This disposes of the appeal of the assessee in ITA No.945/Mum/2013 for assessment year 2009-10 which is dismissed as indicated above.
In the Revenue Appeal No. ITA No. 904/Mum/2013 for the assessment year 2009-10 filed with the Tribunal , the Revenue has raised following grounds of appeal in the memo of appeal filed with the Tribunal as under:
“1 “On the facts and in the circumstances of the case and in law, the Ld. CIT(A) erred in deleting the ad-hoc disallowance of 25% of Rs.1,26,75,000/- i.e. Rs. 31,68,750/- expenses incurred on physicians sample as claimed”. 2. “On the facts and in the circumstances of the case and in law, the Ld. CIT(A) erred in deleting the disallowance of 25% of expenses incurred on physicians samples ignoring the facts that the assessee had not been able to substantiate its claim for the allowability of the expenses as business expenses in the form of confirmation from the doctors to whom these samples were distributed”. 3. “On the facts and in the circumstances of the case and in law , the Ld. CIT(A) erred in not appreciating that identical issue is also pending for adjudication in other similar pharmaceuticals companies before the ITAT”. 4. “The appellant prays that the order of Ld. CIT(A) on the above ground be set aside and that of the Assessing Officer be restored”.”
The AO observed that the assesseee has claimed expenses of Rs.1,26,75,000/- towards free samples distributed to the physicians. The ITA 904 and 945/Mum/2013 28
samples are distributed free of cost under the pretext that it is necessity of business requirement of the assessee. The assessee submitted before the AO that the samples are given free of cost to doctors in order to obtain information regarding efficacy of the medicine and thereby for the purposes of advertisement, publicity and sales promotion. It was submitted that samples are given free of cost to Doctors so that they can try the same on patients and inform the medical representative of the assessee about their results and their experiences. It was submitted that the nature of the product sought to be sold is such that it could be done through the doctors and so , it is as much sales promotion also. It was submitted that when such samples are given to Doctors, certain amount of good relationship is created with the Doctor who may then buy or prescribe those medicines in preference to other similar products. Thus, in nutshell it was observed that the twin purpose of distributing free samples is to test the efficacy of the products as well advertisement, publicity or sales promotion. It was submitted by the assessee that the assessee has a well established internal control system to monitor distribution of such free samples. The assessee submitted that the assessee has purchased samples worth Rs. 126.75 lacs for its free distribution. The assessee submitted copies of invoices for the physician samples purchased during the relevant previous year. The assessee also submitted the information of date of dispatch , challan no. , name and location of the respective field officers, name of transporter , LR no. and sate, transporter invoice reference and copies of invoice raised by transporter in respect of physician samples and promotional material sent to various field staff for their necessary distribution to doctors . It was submitted that goods purchased for distribution to Doctors as samples are manufactured as “Physician samples not for sale” and the same is also marked in suppliers invoices as “Physician Samples” only. It was submitted by the assessee that the expenditure incurred on distribution of free samples is purely on account of advertisement and business promotion expenses incurred
ITA 904 and 945/Mum/2013 29
during the course of the business only. The assessee relied upon the following decisions :
Smithkline and French (India) Limited v. CIT (1992) 193 ITR 582(Kar.) 2. CIT v. J & J Dechane Laboratories Private Limited (1996) 222 ITR 11(AP) 3. Eskayef Limited v. CIT (2000) 245 ITR 116(SC) 4. CIT v. Wochardt Private Limited (2001) 250 ITR 118(Bom.) 5. Ethnor Limited v. CIT (2003) 260 ITR 401(Bom.)
The AO rejected the contentions of the assessee and the AO relied upon the assessment order of the earlier years wherein the then AO had made detailed enquiry and analysis of the free samples distributed by the assessee to physician. It was observed by the AO that the assessee is unable to provide the complete list of doctors and their confirmation to whom physicians samples were distributed through medical representative of the assessee. The assessee did not furnished the data which could facilitate the co-relation of the date of introduction of products with the quantity of samples provided(emphasis supplied by us), nor the assessee provided the list of recipients of samples and amount and monthly break-up of data , which would facilitate the enquiry to prove that the free samples distributed was wholly and exclusively for the purposes of its business activity . The reasonableness of the expenditure and the benefit accruing to the assessee thereof was not furnished. Thus, as per AO the assessee failed to prove the genuineness of these expenses as well that these expenses are incurred wholly and exclusively for the purposes of its business. The assessee failed to bring on record that these samples were received by the Doctors. The AO disallowed as sum of 25% of the total expenditure of Rs.1,26,75,000/- incurred by the assessee under this head and thence Rs. 31,68,750/- was ITA 904 and 945/Mum/2013 30
disallowed by the AO and added to the income of the assessee vide assessment order dated 29-12-2011 passed by the AO u/s 143(3) of the Act.
12 Aggrieved by the assessment order dated 29-12-2011 passed by the AO u/s 143(3) of the Act, the assessee filed first appeal with the learned CIT(A) which appeal was allowed by the learned CIT(A) following preceding year appellate orders passed by learned CIT(A) in the case of the assessee , vide appellate orders dated 08-11-2012 passed by learned CIT(A).
Aggrieved by the appellate orders dated 08-11-2012 passed by learned CIT(A) , the Revenue is in appeal before the Tribunal.
At the ouset learned counsel for the assessee submitted that the issue in this appeal is covered in favour of the assessee in assessee’s own case in immediately preceding assessment year 2008-09 in ITA No. 847/Mum/2012 whereby the Tribunal decided the issue in favour of the assesee vide orders dated 31-08-2015 and the issues is squarely covered in favour of the assessee. The said order of the Tribunal is placed in the paper book page 1-6 filed with the Tribunal. The ld. DR supported the orders of the AO. We have observed that the Tribunal has decided the issue in assessee’s own case in ITA No. 847/Mum/2012 vide orders dated 31-08-2015 for assessment year 2008-09 in assessee’s favour as under:
“First, we shall take up the Revenue’s appeal in ITA No. 847/Mum/2012 for A.Y. 2008-09. 3. The sole issue taken by the Revenue in its appeal is regarding the deletion of the disallowance of 70% of expenses incurred by the assessee on physician’s samples. The assessee is engaged in the business of manufacturing of drugs and pharmaceuticals. During the course of ITA 904 and 945/Mum/2013 31
assessment proceedings, the A.O. noticed that the assessee had claimed expenses in relation to free samples distributed to physicians. The A.O., however, observed that the assessee could not prove that the amount expensed was exclusively for business purpose of the assessee. He observed that the assessee could not provide the list of Doctors and the confirmations from them regarding the receipt of physician’s sample. He, therefore, disallowed 70% of the total expenditure on this account and added the same to the total income of the assessee. In appeal, the ld. CIT(A), however, observed that the assessee had been engaged in the business of manufacture and marketing of pharmaceutical formulations, mainly skin care products. In the course of its business, it distributed physician’s sample to various doctors all over the country. He further observed that the A.O. while disallowing the expenditure, relied on the orders of the DRP (Dispute Resolution Panel) in the case of two other companies namely, (i) Glaxo Pharma and Merck Pharma. However, it had not been pointed out by the A.O. how the above cases were identical to the case of the assessee. The A.O., had not discussed how the case of the assessee was covered by the findings of the ld. DRP in the above stated two cases. He, therefore, analysed the facts of the case of the assessee independently. He observed that the details of purchase made by the assessee from the manufacturers of the product which constituted free samples, were furnished by the assessee. The entries relating to the name of the product, quality/quantity, rate, date, and amount were entered in its register and along with the invoices. The assessee had co- related the name of the product, the quality/quantity, rate, date and amount entered in the purchase register with that of the purchase bills. In the purchase register, the above stated goods were marked as ‘Physician Sample’. The receipts of the said sample were supported by delivery challans and invoices. Even, the samples were dispatched through courier/transport agency. The sample dispatch register carried
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the details of date, serial number, representative number, name of the medical representative, place, transport, weight of the case, freight LR number and the date of receipt. This register was substantiated by the delivery challans and invoice of the transporter and its bills which clearly mentioned the date of delivery, number of package, weight, freight charged etc. The assessee also demonstrated that the samples received were handled by the medical representative who maintained a daily report sheet recording the code no., name of the doctor, speciality and the medicines given to the doctor as physicians sample. These daily record sheets were used to be submitted by the medical representatives to the assessee company on daily basis, which constitute the record of the free physician sample distribution. Besides that the assessee had also submitted confirmations of doctors from Ahmedabad who had been beneficiaries of the free samples. The ld. CIT(A) observed that the A.O. had not doubted the genuineness of the distribution of samples carried out by the assessee. The A.O. only doubted the business expediency of the distribution of the free samples. The ld. CIT(A) further observed that the distribution of free samples were directly related to the business promotion activity of the assessee. The assessee had duly proved the genuineness of the expenses, proper recording in its books of account and the relationship of the expense with the business of the assessee. He, therefore, deleted the additions so made by the A.O.
We have gone through the well reasoned order passed by the ld. CIT(A). It is a known fact that the free sample of medicines supplied to the doctors is done for the promotion of the product of the company. Even when a new product is launched, the doctors are given necessary inputs regarding the use and effects etc. of the product and which also contributes imparting knowledge to the doctors about the new medicine/product coming into the relevant for practice of their profession.
ITA 904 and 945/Mum/2013 33
The genuineness of the transactions has not been doubted by the A.O. We do not find any infirmity in the well reasoned order passed by the ld. CIT(A) holding that the expenses were incurred for the business promotion activity of the assessee. We therefore do not find any merit in the appeal filed by the Revenue and accordingly dismiss the same.”
We are principally in agreement with the decision of Tribunal in assessee’s own case in ITA No. 847/Mum/2012 for assessment year 2008-09 vide orders dated 31-08-2015 so far as free samples are distributed to test the efficacies of the pharmaceutical products dealt with by the assessee as distinguished by and in accordance with the ratio laid down by the Hon’ble Supreme Court in the case of Eskayef (Now Known as Smithkline Beecham) Pharmaceuticals (India) Limited v. CIT (2000) 111 Taxman 561(SC) which requires verification by the AO that so far as the said samples are distributed by the assessee free of cost to the physicians/doctors to test the efficacy of the pharmaceutical products at the initial stage of introduction of the said products to get feed back about efficacy of the pharmaceutical products , then the expenses could be said to be incurred wholly and exclusively for the purposes of business to satisfy the mandate of Section 37 of the Act. We are of the considered view that Physicians' samples are necessary to ascertain the efficacy of the medicine and to introduce it in the market for circulation and it is only by this method the purpose is achieved. In such cases giving physicians' samples for a reasonable period is essential to the business of manufacture and sales of the medicine. But if a particular medicine has been introduced into the market and its uses are established, giving of free samples could only be as a measure of sales promotion and advertisement. The AO specifically asked the assessee to provide details as to date of introduction of products in order to establish whether the same was provided to test efficacy of the pharmaceutical products but assessee did not furnished the data which could facilitate the co-relation of the date of introduction of products
ITA 904 and 945/Mum/2013 34
with the quantity of samples provided(emphasis supplied by us). The decision of the Hon’ble Supreme Court in the case of Eskayef (Now Known as Smithkline Beecham) Pharmaceuticals (India) Limited v. CIT (2000) 111 Taxman 561(SC) was given in context of Section 37(3A) of the Act which stood omitted by Finance Act, 1985 w.e.f. 01-04-1986. But thereafter The Finance Act, 1998 had introduced an explanation to Section 37 of the Act that if the expenditure is incurred for the purposes which is an offence or prohibited under the law , the same shall not be allowable as deduction under the residuary provision of Section 37 of the Act. The mandate of Section 37(1) of the Act being residuary clause covers expenses which are not covered by clauses of Section 30 to 36 of the Act of 1961 and that the expenses should be incurred wholly and exclusively for the purposes of the business of the assessee , the said expenditure should not be capital expenditure nor the same should be personal in nature. Further explanation has been inserted in Section 37 of the Act by Finance Act,1998 w.e.f. 01-04-1962 whereby if the expenses are incurred for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction on account of business expenditure shall be allowed w.r.t. such expenditure. Section 37 of the Act as applicable for the assessment year 2009-10 is reproduced hereunder:
“General. 37. (1) Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the businessor profession shall be allowed in computing the income chargeable under the head “Profits and gains of business or profession”.
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[Explanation.—For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.] (2) [* * *] [ (2B) Notwithstanding anything contained in sub-section (1), no allowance shall be made in respect of expenditure incurred by an assessee on advertisement in any souvenir, brochure, tract, pamphlet or the like published by a political party.]”
The purpose for incorporation of this Explanation had been explained by the Central Board of Direct Taxes in Circular No. 772, dated December 23, 1998 ([1999] 235 ITR (St.) 35, 53) as under :
"20. Disallowance of illegal expenses.
20.1 Section 37 of the Income-tax Act is amended to provide that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purposes of business or profession and no deduction or allowance shall be made in respect of such expenditure. This amendment will result in disallowance of the claims made by certain assessees in respect of payments on account of protection money, extortion, hafta, bribes, etc., as business expenditure. It is well decided that unlawful expenditure is not an allowable deduction in computation of income.
20.2 This amendment will take effect retrospectively from 1st April, 1962, and will, accordingly, apply in relation to the assessment year 1962-63 and subsequent years."
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The expenditure if it is an offence or prohibited by law shall not be allowed as an expenditure u/s 37(1) of the Act by virtue of insertion of explanation to Section 37 of the Act of 1961 by Finance Act , 1998 w.e.f. 01-04-1962 . The Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 prohibits vide regulation 6.4.1 the physician to receive any gifts, gratuity, commission or bonus in consideration or return for referring the patients for medical, surgical or other treatment. The said regulation 6.4.1. is reproduced hereunder:
“6.4 Rebates and Commission:
6.4.1 A physician shall not give, solicit, or receive nor shall he offer to give solicit or receive, any gift, gratuity, commission or bonus in consideration of or return for the referring, recommending or procuring of any patient for medical, surgical or other treatment. A physician shall not directly or indirectly, participate in or be a party to act of division, transference, assignment, subordination, rebating, splitting or refunding of any fee for medical, surgical or other treatment.”
Thus, in our considered view, if the free samples of pharmaceutical products are distributed to physicians / doctors at the initial stage of introduction to test the efficacy of the products , the same are incurred wholly and exclusively for the purposes of the business of the assessee , while if the free samples of pharmaceutical products are distributed to doctors/physicians after the products are introduced in the market and its uses are established , giving of free samples will be a measure of sales promotion which will be hit by regulation 6.4.1 of The Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 which regulation has force of law and ITA 904 and 945/Mum/2013 37
the said receipt of free samples will tantamount to receiving gifts and being gratuitous in nature in consideration of or return for referring patients and being prohibited under regulation 6.4.1 of The Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 as the stated objective by the assessee of giving free samples to the doctors and physicians is to induce them to write prescriptions of the said pharmaceutical products to the patients in order to generate more and more business and profits for the assessee and hence explanation to Section 37 of the Act will be hit as being in infringement to regulation 6.4.1 of The Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 and the expenses cannot be allowed as deduction while computing income from business or profession to the extent the same are given after introduction of the said pharmaceutical products in market by the assessee when its uses stood established . We have elaborately discussed the regulations as laid down by Indian Medical Council and its inter-play with explanation to Section 37 of the Act while adjudicating the appeal of the assessee in ITA no. 945/Mum/2013 for assessment year 2009-10 in preceding para’s of this order which shall apply to the extent relevant to this appeal with equal force, although we have not repeated the same here in this appeal order.
We are also guided by the decision of Hon’ble Supreme Court in the case of Eskayef (Now Known as Smithkline Beecham) Pharmaceuticals (India) Limited v. CIT (2000) 111 Taxman 561(SC) given in context of Section 37(3A) of the Act which was omitted by Finance Act, 1985 w.e.f. 01-04-1986 , wherein Hon’ble Supreme Court held as under “ In the instant case, the assessee claimed expenditure on distribution of physicians' samples under section 37 general head. In view of the principles settled by this Court in the aforesaid decision, if the expenditure falls within the bare minimum it will not be caught by sub-
ITA 904 and 945/Mum/2013 38
section (3A) of section 37, but if it is of the nature which is not essential to the carrying of the business, it will be within the net of sub-section (3A). Physicians' samples are necessary to ascertain the efficacy of the medicine and to introduce it in the market for circulation and it is only by this method the purpose is achieved. In such cases giving physicians' samples for a reasonable period is essential to the business of manufacture and sales of the medicine. But if a particular medicine has been introduced into the market and its uses are established, giving of free samples could only be as a measure of sales promotion and advertisement and would, thus, be hit by sub-section (3A). As in this case, there is a finding of the Commissioner (Appeals) and confirmed by the Tribunal that the expenditure was incurred to test the efficacy of the drug, the expenditure would be within the ambit of bare minimum to carry on the business. For these reasons, it has to be held that the expenditure on physicians' samples distributed to doctors is outside the scope of sub-section (3A) of section 37 of the Act. Therefore, the appellate authority, as well as the Tribunal are right in directing the exclusion of the expenditure on free samples supplied to the doctors in working out disallowance under section 37(3A) of the Act." (p. 15)”
The above decision was rendered in context of Section 37(3A) of the Act and the assessment year involved therein are prior to insertion of explanation to Section 37 of the Act by Finance Act, 1998 w.e.f. 01-04-1962 but the ratio of law laid down by Hon’ble Supreme Court w.r.t. to the test of free samples being considered as the stage of introduction of the medicine to test its efficacy being incurred wholly and exclusively for the purposes of business and grant of free samples at the stage after introduction of the medicine in the market when its uses are established , to be treated as advertisement and sales promotion expenses remains very much relevant . The said distinction laid down by Hon’ble Supreme Court read in conjunction with explanation to ITA 904 and 945/Mum/2013 39
Section 37 of the Act and regulation 6.4.1. of The Indian Medical Council (Professional conduct, Etiquette and Ethics) Regulations, 2002 makes it clear that such free samples granted post introduction of pharmaceutical products in market when its end use stood established will be hit by explanation to Section 37 of the Act and shall not be allowable as deduction . The other decisions relied upon by the assessee as set out in the assessment order are all related to the assessment years prior to insertion of explanation to Section 37 of the Act of 1961 by Finance Act, 1998 w.e.f. 01-04-1962. Thus, keeping in view our detailed discussions and reasoning as set out above , we set aside and restore the issue to the file of the AO for de-novo determination of the issue on merits in accordance with our detailed reasoning and discussions as set out above. Needless to say proper and adequate opportunity of being heard shall be provided to the assessee in accordance with the principles of natural justice in accordance with law and the assessee will be provided sufficient and proper opportunity of being heard by the AO in accordance with principles of natural justice in accordance with law. The assessee shall be allowed by the AO to submit relevant evidences and explanations in support of its contentions. We order accordingly.
In the result, appeals filed by the assessee in ITA No. 945/Mum/2013 is dismissed and appeal by the Revenue in ITA no 904/Mum/2013 for the assessment year 2009-10 is allowed for statistical purposes as indicated above. Order pronounced in the open court on 12th September, 2016. आदेश क" घोषणा खुले "यायालय म" "दनांकः 12-09-2016 को क" गई । sd/- (MAHAVIR SINGH) (RAMIT KOCHAR) JUDICIAL MEMBER ACCOUNTANT MEMBER मुंबई Mumbai; "दनांक Dated 12-09-2016 [
ITA 904 and 945/Mum/2013 40
व."न.स./ R.K. R.K. R.K., Ex. Sr. PS R.K.
आदेश क" ""त"ल"प अ"े"षत/Copy of the Order forwarded to : 1. अपीलाथ" / The Appellant 2. ""यथ" / The Respondent. 3. आयकर आयु"त(अपील) / The CIT(A)- concerned, Mumbai 4. आयकर आयु"त / CIT- Concerned, Mumbai "वभागीय ""त"न"ध, आयकर अपील"य अ"धकरण, मुंबई / DR, ITAT, Mumbai “A” Bench 5. 6. गाड" फाईल / Guard file. आदेशानुसार/ BY ORDER, स"या"पत ""त //// उप/सहायक पंजीकार (Dy./Asstt.