1. This departmental appeal relates to the assessment year 1975-76. The accounting year is the year ended 30-6-1974. The assessee-company follows mercantile system of accounting. The Payment of Gratuity Act, 1972 came into force on 16-9-1972. The law provided that industrial undertakings, like the assessee-company, should pay gratuity calculated at a certain rate to its employees on their retirement or termination of their employment. The first accounting year after that law came into force was the year ended 30-6-1973, relevant to the assessment year 1974-75. However, no provision was made in the accounts of the assessee for gratuity payable to its employees on such retirement or termination. Then the assessee, in its accounting year ended 30-6-1974 (which is the second year of liability), made a provision in its accounts for Rs. 1,06,889 for payment of such gratuity. This figure of Rs. 1,06,889 was arrived at by the Actuarial valuation of the liability as on 30-6-1974 by taking into account the number of employees as on 30-6-1974, their salaries and the number of years of service of such employees.
2. After the expiry of the accounting year on 30-6-1974 and before the assessment was completed, Section 40A(7) was inserted in the Income-tax Act, 1961 ('the Act') by the Finance Act, 1975, with retrospective effect from 1-4-1973. The law [Section 40A(7)(a)] provided that no deduction shall be allowed in respect of any provision, whether called as such or by any other name, made by the assessee for the payment of gratuity to its employees on their retirement or termination of their services for any reason. But two categories of provisions made by the assessee in his accounts were saved by that law. We need to concentrate only on the second category because the first category has no application to the facts of this case. However, we will reproduce below both categories : (i) any provision made by the assessee for the purpose of payment of a sum by way of any contribution towards an approved gratuity fund, or for the purpose of payment of any gratuity, that has become payable during the previous year ; (ii) any provision made by the assessee for the previous year relevant to any assessment year commencing on or after the 1st day of April, 1973,. but before the 1st day of April, 1976, to the extent the amount of such provision does not exceed the admissible amount, if the following conditions are fulfilled namely :- (1) the provision is made in accordance with an actuarial valuation of the ascertainable liability of the asssesee for payment of gratuity to his employees on their retirement or on termination of their employment for any reason ; (2) the assessee creates an approved gratuity fund for the exclusive benefit of his employees under an irrevocable trust, the application for the approval of the fund having been made before the 1st day of January, 1976 ; and (3) a sum equal to at least fifty per cent of the admissible amount, or where any amount has been utilised out of such provision for the purpose of payment of any gratuity before the creation of the approved gratuity fund, a sum equal to at least fifty per cent of the admissible amount as reduced by the amount so utilised, is paid by the assessee by way of contribution to the approved gratuity fund before the 1st day of April, 1976 and the balance of the admissible amount or, as the case may be, the balance of the admissible amount as reduced by the amount so utilised, is paid by the assessee by way of such contribution before the 1st day of April, 1977.
Explanation 1 : For the purpose of Subclause (ii) of Clause (b) of this sub-section, 'admissible amount' means the amount of the provision made by the assessee for the payment of gratuity to his employees on their retirement or on termination of their employment for any reason, to the extent such amount does not exceed an amount calculated at the rate of eight and one-third per cent of the salary [as defined in Clause (h) of Rule 2 of Part A of the Fourth Schedule] of each employee entitled to the payment of such gratuity for each year of his service in respect of which such provision is made.
Explanation 2 : For the removal of doubts, it is hereby declared that where any provision made by the assessee for the payment of gratuity to his employees on their retirement or on termination of their employment for any reason has been allowed as a deduction in computing the income of the assessee for any assessment year, any sum paid out of such provision by way of contribution towards an approved gratuity fund or by way of gratuity to any employee shall not be allowed as a deduction in computing the income of the assessee of the previous year in which the sum is so paid.
3. Though the last day of application for approval of the fund was 1-1-1976, the assessee had constituted the fund on 24-7-1975 and had applied on that day itself for approval. The approval was given by the Commissioner with effect from 28-7-1975 by his order dated 26-10-1976.
Though the assessee need pay only half of the admissible amount by 1-4-1976 it has paid to the fund the full admissible amount of Rs. 1,06,889 on 9-9-1975 itself. Reckoning by the date of payment it falls within the next assessment year 976-77. But the assessee claimed the provision of Rs. 1,06,889 as a deduction in the assessment for the assessment year 1975-76 itself. The ITO refused the deduction. He was prepared to allow only the incremental liability as a deduction, an expression not found in the Act or the Rules, but by which he meant only the current year's liability worked out by finding out the increase, if any, in the gratuity liability during the current year.
That increase is to be found out by taking an actuarial valuation of the liability as at the beginning of the accounting year and as at the end of the accounting year as on 30-6-1974. The increase may be due to one year of service added, or increase in their pay during the year, or increase in the number of employees eligible for gratuity. As against this incremental liability the provision made in the accounts was found to be not only for this year, but also for all the previous years commencing from the inception of the company. He held the view that, since according to the provisions of Section 40A(7), for the assessement year 1975-76, a provision limited to the incremental liability alone could be allowed as a deduction, the incremental liability would be allowed when the assessee produced the necessary certificate and also transfers money to the gratuity fund by revising the assessment under Section 155(13) of the Act.
4. The assessee was not satisfied about this incremental liability. In appeal, the Commissioner (Appeals) allowed the full provision as claimed by the assessee as a deduction. What he observed was that Section 40A(7) disallows any provision made for gratuity unless fund is created and that 50 per cent of the admissible amount is funded. But when these conditions are satisfied a provision made in accordance with an actuarial valuation of the ascertainable liability has to be allowed as a deduction and that no distinction whatsoever is made between initial and incremental liability; He also said that he is of the opinion that the entire liability which has been certified and funded in a recognised gratuity fund approved by the Commissioner during the relevant assessment year (sic). Hence, the departmental appeal.
5. The Madras Bench 'C' of the Tribunal in its order in the case of ITO v. IAEC (Madras) (P.) Ltd. [IT Appeal No. 2881 (Mad.) of 1977-78], which was a case for the assessment year 1974-75 decided on 23-12-1978, with the accounting year 31-5-1973 (first year of liability), has held the view that even after the enactment of Section 40A(7) only the incremental liability could be allowed as a deduction. But some other Benches of the Tribunal were of the view that the decision may require reconsideration. So the President was pleased to constitute a Special Bench for disposal of this department appeal. An intervener from Calcutta has also appeared before us.
6. The departmental representative argued that the accounting year ended 30-6-1974 (second year of liability) ; that on that day there was not even an idea or intention to constitute any gratuity fund ; that, therefore, Rs. 1,06,889 is only a mere provision in the accounts ; and that this being the second year of statutory liability only an incremental liability could be allowed as a deduction and that the full liability by taking into account the full service of the employees can, if at all, be allowed only in the first year of liability, which is the assessment year 1974-75. The argument of the departmental representative was that the judge-made law before enactment of Section 40A(7) is that in mercantile system of accounting, a provision for payment of gratuity at a future date could be allowed under Section 37(1) as a deduction in the second year of liability only to the extent of incremental liability in the current year ; that the enactment of Section 40A(7) has not made any change in that judge-made law ; that Section 40A(7) was only enacted to ensure that even that provision can be allowed as a deduction only if an approved gratuity fund is created and money paid into it. The assessee argues that it may be that before enactment of Section 40A(7) only incremental liability could be allowed in the second year, but that after the enactment of Section 40A(7), provisions made by the assessee and which are saved by Subclauses (i) and (ii) of Clause (b) of Section 40A(7), are deductible items in the computation of business income and that provision of Rs. 1,06,889 is a provision so saved by Section 40A(7). The assessee has also relied on Rule 103 (ordinary annual contribution to approved gratuity fund) of the Income-tax Rules and Section 155(13) to support this argument.
7. We are not in agreement with the departmental representative about the incremental liability only being allowed for the assessment year 1975-76 which is the second year of statutory liability. The law before enactment of Section 40A(7) was that a provision made on actuarial or any other scientific basis for payment of gratuity under any scheme in operation even where there is no payment into an approved gratuity fund is an allowable deduction. So all the assessees obtained the benefit of deduction in the computation of their total income as well as the user of money which was allowed as an expenditure because, there is no necessity to pay those to any approved gratuity fund. The object of Section 40A(7) was to do away with the double advantages of both deduction and user of money for which a deduction has been claimed and allowed under the law. So the scheme was to prohibit the deduction of these provisions unless certain conditions were fulfilled.
8. Though Section 40A(7) was enacted apparently to prohibit deductions, two categories of provisions were saved by Section 40A(7) from being disallowed. Those provisions so saved are deductible items is also clear from Explanation 2 to Section 40A(7)(b), where such deductions are contemplated. It cannot also be said that those provisions were so saved without any purpose. It has also to be noted that in order to save some of those provisions, the assessees have to contribute to an approved gratuity fund for which contribution they would have got deduction under Section 36 itself in the year of payment even without the help of these provisions made and sought to be saved. It cannot be imagined that the assessees were put under such obligation to create a fund and hand over moneys to such fund for no benefit. However, we need not identify the particular section of the Act under which these two provisions are deductible. Such identification is not necessary for the purpose of disposal of this appeal. It may be that it is deductible under Section 28(i) or Section 36(1)(v) or Section 40A(7) itself. All that we need hold in this case is that those provisions so saved are certainly deductible items in the computation of business income.
9. Therefore, on the main question or aspect whether the provision of Rs. 1,06,889 sought to be deducted is a provision so saved, we hold that it is a provision so saved by Section 40A(7)(b)(ii). The amount of Rs. 1,06,889 does not admittedly exceed the admissible amount. The provision is made in accordance with actuarial valuation. All other conditions are also satisfied.
10. The further question or aspect is whether such provision is deductible in the year in which the provision is made. There can be no dispute about it that it is deductible in the very same year itself.
Otherwise, there was no necessity to save such provision. Further, Explanation 2 clearly shows that it is so deductible in the year of provision itself without waiting for payment. So we hold that this provision of Rs. 1,06,889 for payment of gratuity is a deductible item.
The ommissioner (Appeals) was right in the view he held. We support his reasonings and conclusions.
11. No other question or any other aspect is relevant or arises for consideration. All other arguments like allowance of full liability in the first year of statutory liability and only the incremental liability in the second year of liability, etc., are all after the enactment of Section 40A(7) absolutely irrelevant. A provision made for payment of gratuity to its employees relevant to the assessment year 1975-76 (or in other words, any provision made by the assessee for the previous year relevant to any assessment year commencing on or after 1-4-1973, before 1-4-1976 to the extent the amount of such provision does not exceed the admissible amount) is an admissible item of deduction in the computation of business income.
12. In fact, what is admissible as a deduction in respect of contributions to gratuity fund is found both in the Fourth Schedule and Rule 104, which embodies one of the requirements for approval of a gratuity fund specifically envisages initial contribution to such a fund and all that the rule requires is that such initial contribution should not exceed 8 1/3 per cent of the employee's salary for each year of his past service with the employer. Only any excess over this limit is not admissible. It is nobody's case that the initial contribution in this case exceeded this limit. The scheme of the Act is clear. While law allows payment to an approved gratuity fund under Section 36(1)(v), it allows even a provision if it is a provision "for the purpose of payment of a sum by way of any contribution towards an approved gratuity fund or for the purpose of payment of any gratuity, that has become payable during the previous year" as stipulated in Section 40A(7)(b)(i), while Section 40A(7)(b)(ii) as pointed out by the Madras High Court in CIT v. Andhra Prabha (P.) Ltd. [1980] 123 ITR 760, at page 766 is a 'transitory provision' to soften the hardship that would arise by the retrospective operation given to Section 40A(7) from 1-4-1973 by the law which was enacted in 1975. Law requires fulfilment of two conditions : (i) creation of an approved gratuity fund and (ii) provision for payment to any approved fund. As further pointed out by the High Court, the Supreme Court in Metal Box Co. of India Ltd. v.Their Workmen [1969] 73 ITR 53 and the House of Lords in Southern Railway of Peru Ltd. v. Owen (Inspector of Taxes) [1957] 32 ITR 737 have held that the liabilities for gratuity though payable in future is 'properly ascertainable' and that though each separate liability for each employee is uncertain, 'the aggregate can be fixed with some precision'. It is this provision towards such liability which is now allowed under the law. Rule 2 of Part C of the Fourth Schedule enables the Commissioner to withdraw approval already granted to a fund when such withdrawal is warranted by circumstances and it stands to reason that the non-payment of amount, already provided within reasonable time, would amount to such a circumstance. It is for this reason that the provision for payment of any approved gratuity itself is allowed, while as pointed out by the Madras High Court, actual payment is allowed under Section 36(1)(v). It must be pointed out that if the revenue's contention is accepted, revenue itself will find a lot of difficulties as to the extent of the amount that will have to be allowed as deduction in the year in which any payment is made to a retiring employee out of the provisions. Such payment will naturally be out of both the initial payment, now sought to be disallowed and the incremental liabilities, about which there is no dispute. If revenue's contention is correct, revenue will have to find out the extent of payment out of such initial contribution and allow it in the year of payment in respect of each employee. It is obviously not the intention that such complicated exercise should be undertaken every time a payment is made to an individual employee. This also shows that the intention could not be to make a distinction between initial and incremental liabilities. Hence, the dispute raised by the revenue is not justified either under the letter of the law or the scheme underlying the Act for deduction of provision towards gratuity. So the departmental appeal has only to be dismissed.
13. The case of the intervener is slightly different. This intervener has not made any provision in the accounts for the assessment year 1973-74, which is the first year of statutory liability. Even though no such provision was made for the assessment year 1973-74, the intervener claimed in the course of assessment proceedings, a deduction of certain amount arrived at by multiplying the number of employees by their monthly salary and by the actual number of years of service, which is almost equal to initial contribution as statutory liability. The case of the intervener is that Section 40A(7), which prohibits the deduction of provision, is not a bar because the intervener has not made any provision in the accounts, but claims deduction only as a statutory liability. Two Benches of the Tribunal had held such a view as indicated by the intervener. But the Madras Special Bench of the Tribunal in the case of Soft Beverages (P.) Ltd. v. Second ITO [1982] 1 SOT 311 held that Section 40A(7) prohibits even statutory liability from being claimed as a deduction even if no provision is made in the accounts. The intervener is aggrieved by the Special Bench decision and requests us to take a view different from the said Special Bench decision. The argument of the intervener is that the statutory liability should be allowed as a deduction under Section 28 of the Act.
The intervener also argued that in the case of this assessee in this departmental appeal, the question of provision in accounts can be ignored and deduction can be allowed as a statutory liability under Section 28. As the point raised by the intervener is different from the facts and circumstances and the issues involved in this Special Bench case, we are not going into the case of the intervener and the arguments addressed by him.