ITAT: Payment for Goods Shortage in Transit Is Compensatory, Not a Penalty

The Income Tax Appellate Tribunal (ITAT), Chennai, has ruled that the payments made by transport companies for the shortage of goods during transportation are compensatory in nature and not a penalty for violating any law.

During the assessment of the assessee company, Namakkal South India Transports, the AO observed that the company had claimed an expenditure of Rs 20 lakhs under the head ‘penalty/fine’ paid to M/s. Chettinad Cements Ltd, related to the shortage of goods during transportation.

The AO held that this payment was in the nature of a penalty, and the same cannot be allowed as business expenses. Therefore, the AO disallowed the expenditure under section 37 of the Income Tax Act. This decision was upheld by the CIT(A), so the assessee filed an appeal before the ITAT, Chennai.

The firm argued that the payment was made to compensate for the loss of goods and not due to any violation of the law. The firm also showed proof, such as the email, ledger account and bank statements, to substantiate its claim.

The Tribunal examined this documentary evidence and concluded that the payment was related to the contractual obligations for the shortage of goods during transportation.

The ITAT clarified that section 37(1) disallows the expenses that are illegal or in violation of any law. However, in the present case, the payment was made to compensate for the loss of goods assigned to the assessee for transportation. The Tribunal said that such compensation cannot be treated as a penalty for violation of the law.

The Tribunal allowed the business expenses, holding that the compensatory payments made out of contractual obligations are not a penalty, and the same can be allowed as a business expenditure. The Tribunal further held that the payment was incurred only for the purpose of business and does not fall under the Explanation to section 37(1) of the Income Tax Act.