Section 40(a)(ia) – Second proviso to section 40(a) (ia), which states that if assessee fails to deduct tax at source while making payments but the recipient has included the income embedded in the said payments in his tax return furnished u/s. 139 and had also paid the tax due thereon on such payments, then disallowance of such payments u/s. 40(a)(ia) cannot be invoked for assessee; has retrospective effect from 01-04-2005.
Facts:
The assessee had made interest payments without discharging his tax withholding obligations u/s. 194A. Therefore, the Assessing Officer disallowed payment u/s. 40(a)(ia).
The assessee contended that, in view of the insertion of second proviso to section 40(a)(ia) by the Finance Act, 2012, and in view of the fact that the recipients of the interest had already included the income embedded in the said interest payments in their tax returns filed u/s. 139, disallowance u/s. 40(a)(ia) could not be invoked in this case.
He also contended that since the said second proviso to section 40(a)(ia) is ‘declaratory and curative in nature’, it should be given retrospective effect from 01-04-2005, being the date from which sub-clause (ia) of section 40(a) was inserted by the Finance (No. 2) Act, 2004.
Held:
The scheme of section 40(a)(ia) is aimed at ensuring that an expenditure should not be allowed as deduction in the hands of an assessee in a situation in which income embedded in such expenditure has remained untaxed due to tax withholding lapses by the assessee.
Section 40(a)(ia) is not a penalty for tax withholding lapse but it is a sort of compensatory deduction restriction to compensate for the loss of revenue for an income going untaxed due to tax withholding lapse. The penalty for tax withholding lapse per se is separately provided for in section 271C, and section 40(a)(ia) does not add to the same Thus, disallowance u/s. 40(a)(ia) cannot be invoked in a case, where assessee fails to deduct tax at source but recipients have taken, in their computation of income, the income embedded in the payments made by the assessee, paid taxes due thereon and filed income tax returns in accordance with the law.
The provisions of section 40(a)(ia), as they existed prior to insertion of second proviso thereto, went much beyond the obvious intentions of the lawmakers and created undue hardships even in cases in which the assessee’s tax withholding lapses did not result in any loss to the exchequer. Now that the legislature has been compassionate enough to cure these shortcomings of provision and, thus, obviate the unintended hardships, such an amendment in law, in view of the well-settled legal position to the effect that a curative amendment to avoid unintended consequences is to be treated as retrospective in nature even though it may not state so specifically, the insertion of second proviso to section 40(a)(ia) must be given retrospective effect from the point of time when the related legal provision was introduced.
Accordingly, the insertion of second proviso to section 40(a)(ia) is declaratory and curative in nature and it has retrospective effect from 01-04-2005, being the date from which sub-clause (ia) of section 40(a) was inserted by the Finance (No. 2) Act, 2004.
