Section 37 and Insurance Act, 1938– Business expenditure – Disallowance – Payments prohibited by law – Effect of Explanation 1 to section 37 – Reinsurance payments to non-residents – Not prohibited by law – Deduction allowable

8. Cholamandalam
MS General Insurance Co. Ltd. vs. Dy. IT; 411 ITR 386 (Mad): Date
of order: 12^th December, 2018 A.Y.:
2009-10

Section
37 and Insurance Act, 1938– Business expenditure – Disallowance – Payments
prohibited by law – Effect of Explanation 1 to section 37 – Reinsurance
payments to non-residents – Not prohibited by law – Deduction allowable

The legal
issue in this appeal before the High Court relates to disallowance of
reinsurance premium ceded to non-resident reinsurers. The assessee has raised
the following substantial questions of law for consideration:

“i)   Whether the ITAT erred in deciding the
validity of reinsurance ceded to the non-resident reinsurers when such issue
was not even raised before it by either the Department or the appellant?

ii)   Whether the ITAT erred in holding that the
IRDA (General Insurance-Reinsurance) Regulation, 2000 is contrary to section
101A of the Insurance Act, 1938 when it does not have the power to decide the
validity of regulations made by the IRDA?

iii)   Whether the ITAT erred in holding that
reinsurance payments to non-residents are prohibited by law and therefore hit
by Explanation 1 to section 37 of the Income-tax Act, 1961?”

The Madras
High Court held in favour of the assessee and held as under:

“i)   The Tribunal has no jurisdiction to declare a
transaction to be either prohibited or illegal occurring under a different
statute over which it has no control.

ii)   The Insurance Act, 1938 stood amended w.e.f.
01.04.1961. It inserted section 101A. Section 2(16B) of the Act defines
‘reinsurance’ to mean the insurance of all or part of one insurer’s risk by
another insurer who accepts the risk for a mutually-acceptable premium. There
is no distinction drawn between an Indian reinsurer and a foreign reinsurer. On
and after the introduction of section 101A to the Insurance Act, 1938 there is
a mandatory requirement for other insurer to reinsure with Indian reinsurers
and such percentage is put to a maximum of 30%. The language of section 101A
nowhere prohibits the reinsurance with foreign reinsurance companies above the
percentage specified by the authority with previous approval by the Central
government.

iii)   A reading of the Insurance Regulatory and
Development Authority (General Insurance-Reinsurance) Regulations, 2000 also
clearly shows that there is absolutely no prohibition for reinsurance with a
foreign reinsurance company.

iv)  A reading of Circular No. 38(XXXIII-7), dated
03.10.1956 would clearly reveal that at no point of time has the Income-tax
Department taken a stand that the reinsurance business with a foreign
reinsurance company was a prohibited business.

v)   A reading of the order passed by the Tribunal
showed that the decision of the Tribunal on the effect of certain provisions of
the Insurance Act, 1938, whether reinsurance was permissible with foreign
entities and whether it was prohibited or valid in law, were all queries which
were raised by the Tribunal suo motu when the appeals were heard.

vi)  The sum and substance of the conclusion of the
Tribunal was that the entire reinsurance arrangement of the assessee company
was in violation and contrary to the provisions of section 2(9) of the
Insurance Act and, therefore, the entire reinsurance premium had to be
disallowed u/s. 37 of the Act. The Tribunal held that there was a clear
prohibition for payment of reinsurance premium to non-resident reinsurance companies.
The Tribunal held that an Indian insurer could not have any reinsurance
arrangement with a reinsurance company other than the insurer, as defined in
section 2(9) of the Insurance Act. The Tribunal was of the view that unless and
until a branch was opened by the foreign reinsurance company, the question of
conducting reinsurance business in India could not be done. This conclusion of
the Tribunal was not sustainable. Such a finding was without noticing the
reinsurance regulations, which had been provided by the Insurance Regulatory
Authority of India.

vii)  The Tribunal erred in drawing a presumption
regarding prohibition of reinsurance with foreign reinsurance companies. This
presumption was erroneous for the simple reason that the statement of objects
of the Insurance Act itself clearly stipulated wherever there was a
prohibition.

viii) The Tribunal had no jurisdiction to declare any
provisions of the regulations to be inconsistent with the provisions of the
Insurance Act. This was wholly outside the purview of the Tribunal.

ix)  The Tribunal did not consider the correctness
of the order passed by the Assessing Officer or that of the Commissioner
(Appeals). Therefore, the Tribunal could not have held that the Assessing
Officer rightly disallowed the insurance premium u/s. 40(a)(i).”