Holding

A transaction where damages are awarded for breach of contract is not a speculative transaction under s.43(5) of the Income‑Tax Act, 1961.

Summary

Shantilal Private Ltd entered into a contract to sell folic acid but could not deliver due to a sharp price rise. The dispute was referred to arbitration, which awarded the buyer Rs 1,50,000 as compensation for breach of contract. The assessee claimed this payment as a business loss, but the Income‑Tax Officer treated it as a speculative transaction under s.43(5) of the Income‑Tax Act, 1961. The Appellate Assistant Commissioner and the Income‑Tax Appellate Tribunal held that the loss was not speculative because it represented damages for breach, not a settlement of the contract. The Commissioner referred the question to the Supreme Court, which held that a transaction involving damages for breach of contract does not fall within the definition of a speculative transaction in s.43(5). Consequently, the loss is treated as a business loss and the revenue’s claim is rejected.

Issues considered

Whether a payment of compensation awarded by arbitration for breach of contract constitutes a speculative transaction within the meaning of s.43(5) of the Income‑Tax Act, 1961.

Legislation cited

Income Tax Act, 1961s. 43(5)
Indian Contract Acts. 63, s. 73

Subjects

speculative transactionSection 43contract breacharbitration awardbusiness lossincome tax deductionsettlement of contract

Judgment

470

COMMISSIONER OF INCOME-TAX
A BOMBAY CITY-III, BOMBAY

v.

SHANTILAL PRIVATE LIMITED BOMBAY
B July 21, 1983

[R. S. PAIBAK, E. S. VENKATARAMJAH AND A. N. SEN JJ.]

Income-tax Act, 1961-Sub-s. (5) of s. 43-Speculative transaction. A
trans~ctian where there is a brtach of contract 14nd damages are awarded as
c comPensation by an arbitration award is not a speculative transaction.

Jf'or& and plrrases-Speculatire transaction-Meaning of.

The respondent assessee claimed that a sun1 of Rs. 1,50,000 paid by them
as compensation for b~ing unable lo fulfil a contract was a business loss. The
D Income tax officer rejected the claim on the ground that the transaction was a
speculative transaction as defined by sub-s. (5) of s. 43 of the Income-tax Act,
1961. The Appellate Assistant Comn1issioner held that the loss was a business
loss and not a speculative loss on the view that the payment made represented
a settlement of damages on breach of the contract, which was distinct from a·
settlen1ent pf the contract. The Income Tax Appellate Tribunal confirmed the
order of the Appellate Assistant Cotnmissioner. On the request of the Con1-
E missioner of Income-tax the Appellate Tribunal has referred the question
whether the loss suffered by the assessee was not a loss in a speculative trans-
action within the meaning of s. 43(5) of the Income-ta« Act, 1961.

Answering the question in ihe affil'Jl!ative,

F HELD : A transaction cannot be described as a "speculative trans-
action" within the meaning of sub-s. (5) of s. 43 where there is a breach of the
contract and on a dispute between the parties damages are awarded as
compensation by an arbitration award. {474 A-BJ •

Sub-s. (5) of s. 43 speaks of the settlement of a contract. A contract
G can be said to be settled if instead of effecting the delivery or transfer of the
commodity envisaged by the contract the promisee, in terms of s. 63 of the
Contract Act, accepts instead of it. any satisfaction which he thinks fit. It is
quite anOther matter where instead of such acceptance the parties raise a
dil)pute and no agreement can blf reached for a discharge of the c3ntract.
There i~ a breach of the contract" and bY virtue of s. 73 of the Contract Act the
.ff party suffering by such breach bec.omes entitled to receive from the party who
broke the contract compensation for any loss or damage caused to him thereby.
There is no reason· why the sense conveyed by the law relating to contracts
~houl~ no~ be im:portecj. in~o the d~finitiop. Qf "speculi;t~ive tran&at;:~iqn" Wh<;\~
C.J.T. v. SHANTILAL (Pathak, J.) 471

is r-Cally settled by the award of such damages and their acceptance ·by the
A
. aggrieved party is the dispute between the parties. [473 A, C-G]
/ .

Comn1issioner of Income-Tax, West Bengal v. Pioneer Trading Con1pany
Private Ltd., 70 ITR 347; B,handari Rajmal Kush/raj v. Con1missioner of Income-
Tax, Mysore, 96 ITR 4~1 approved.

R. Chinnaswami Chettiar v. Conmiissioner of lnco111e-Tax, Madras, 96 ITR
353 overruled. B
P. L. KN. }.fce11aks)d A(lii v. Co111111issionfr of lnconze-Tax, Madras,
96 ITR 375; A. Muthuku111arti Pillai v. Commissioner of lncon1e-Tax, Madras,
96 ITR 557 and Devenport & Co. P. Ltd. v. Commissioner of lncome-TaX, West
Bengal 11, (1975) JOO !TR 715 not relevant to the point raised.

CIVIL .APPELLATE JURISDICTION : Tax Reference Case No. 4
c
of 1978.
'
Tax Reference Under Section 257 of the Income Tax· Act, 1961
made by the Income Tax Appellate Tribunal, Bombay (Bench 'C').
D
D. V. Patel, T. A. Ramachandrmt & Miss A. Subhashini for the
Appellant.

The Judgment of the Court was delivered by

PATHAK, J. In this tax reference made under S. -257 of the E
income Tax Act, 1961, we are called upon to express our opinion on
the following question of law:

"Whether, on the facts and in the circumstances of
the case, .the Tribunal was right in confirming the order
of the Appellate Assistant Commissioner that the loss F
suffered by the assessee was not a toss incurred in a
speculative transaction within the meaning of Sec. 43
(5) of the Income-tax Act, 1961 ?"

The assessee, M/s Shantilal Pvt. Ltd., Bombay; is a private
G
limited comany. In the assessment proceedings for the assessment
year 1971-72 it claimed a sum of of Rs. 1,50,000 paid by it as dama-
ges to M/s Medical Service Centre as· a business loss. During the
previous year relevant to the said assessment year the assessee had
contracted to sell 200 Kilograms of Folic Acid USP at the rate of H
Rs. 440 per Kilogram to M/s. Medical Service Centre and the deli-
very was to be effected on or before November 1, 1969, within
about three months of the date of entering into the contract, The
472 SUPREME COURT REPORTS [1983) 3 s.c.R.

case of the assessee i~ that as the price of the commodity rose very
A sharply to as high as Rs. 2,000 per Kilogram during the period
when the delivery was to he effected, tlie assessee was unable to
fulfil the contract, giving rise to a dispute in regard to the payment
of compensation between the parties. The dispute was referred to
arbitration and by an award dated August 25,19iJ the arbitrator
directed the assessee to pay Rs. 1,50,000 as compensation to M/s.
B Medical Service Centre. A consent decre<: in terms of the award was
made by the High Court.

In the assessment proceedings, the Income Tax Officer rejected
the claim of the assessee that the payment of compensation was ·
c a business loss. He found that the transaction was a speculative
transactions as defined . by Sub·s. (5) of s. 43. ~ncome Tax
Act, 1961. The Appellate Assistant· Commissioner allowed the
assessee's. appeal on the view thatthe payment made by it represented
a settlement of damages on breach of the contract, which was dis·
tine! from a Settlement .of the contract. Accordingly, he found
D that the · loss must be regarded as a business loss and not as a •
speculation loss. The Income Tax Officer's appeal was dismissed by
the Income Tax Appellate Tribunal by its order dated February 18,
1976. The Commissiner of Income Tax applied in reference for a
decision on the question of. law set oµt earlier, and in view of an
E apparent conflict between different High Courts on the point the
Tribunal has made this reference.

There is no doubt that the arbitration award granting compe-
nsation to M/s. Medical Service Centre proceeds on the footing
that there was a breach of contract. The Tribunal took the view
F
that the award of damages for breach of a contract did not bring
the transaction within the definition of ''speculative transaciion"
set forth in sub-s. (5) of s. 43, Income Tax Act, 1961. In this, the
Tribunal found support in the view expressed by the Calcutta High
Court in Commissioner of Income-Tax, West Bengal v. Pioneer '[rad-
G ing Company Private Ltd.,( 1) Daulatram Rawatmu/l v. Commissiqner
of Income-Tax (Central), Calcutta(') and by the Mysore High Court
in Bhandari Rajmal Kushalraj v. Commissioner of Income-tax,
Mysore,(•) which they preferred to the view expressed by the Madras
High Court in R. Chinnaswami Chettiar v. Commissioner of Income
H
(I) 70 l.T.R. 347.
(2) 78 l.T.R. 503.
(~) 96 I.TR. 4()1.
c.1.T.·v. SllANTJLAL (Pathak, i.) 473
Tax, Madras,(1) P.L. K.N. Meenakshi Ach,i v. Commissioner of
Income-Tax, Madras(') and A. Muthukumar.a Piilai v. Commis- A
sioner of Incom~·Tax, Madras.(') On cereful contideration of the
matter we are of opinion that the Tribunal is right. Sub-s. (5) of
s. 43 defines "speculative transaction" to mean :

"a transaction in which a contract for the purchase or B
sale of any commodity, including stocks and shares, is
periodibally or ultimately settled otherwise than by the
actual delivery or transfer of the commodity or scrips .... "

' Is a contract for purchase or sale of any commodity settled when no
actual delivery or transfer of the commodity ·is effected, and .instead c
'r compensation is awarded under and arbitration award as damages
for breach of the contract? A contract can be said to be settled if
instead of effecting the delivery or transfer of the commodity envisa-
ged by the contract the promisee, in terms of s. 63 of the Contract
Act, accepts instead of it any satisfaction whic~ he thinks fit. It is
quite another matter where instead of such acceptance the parties D
raise a dispute and no agreement can be reached for a discharge of
the co':'tract. There is a breach of the contract and by virtue of s. 73
of the Contract Act the party suffering by such breach becomes
entitled to receive from the party who broke the contract compensation
/ for any loss or damage caused to him thereby. There is no reason E
why the sense conveyed by the law relating to contracts should not be
imported into the definition of "speculative transaction".· The award
of damages for breach of a contract is not the same thing as a party
to the contract accepting satisfaction of the contract otherwise than
in accordance with the original terms thereof. It may be that in a
general sense the layman would understand that the contract must be F
regarded as settled when damages are paid by way o.f compensation
for its .breach. What is really settled by the award of such damages
and their acceptance by the aggrieved party is the dispute between
the parties. The law, however, speaks of a settlement of the contract,
and a. contract is settled when it is either performed or the promisee G
dispenses with or remits, wholly or in part, the performance of the
promise made to him or accepts instead of it any satisfaction which
he thinks fit. We are concerned with the sense of the law, and it is
'
H
(I) 96°1.T.R. 353.
(2) 96 I.T.R. 375.
(3) 96 I.S.R. 557.
4?4 SUPREME COURT-REPORTS i1983) 3 s.c.R.
that sense which must prevail in sub-s. (5) of s. 43. Accordingly, we
A hold that a transaction cannot be described as a: "speculative trans-
action" within the. meaning of sub-s. (5) of s. 43, Income Tax Act,
1961 where there is a breach of the contract and on a dispute bet-
ween the parties damages are awarded as compensation by an
arbitration award. We are unable to endorse the view to the con-
trary taken by the Madras High Court in R. Chinnaswami Chettiar
B (supra) and approve of the view taken by the Calcutta High Court in
Pioneer Trading Company Private Ltd. (supra) and by. the Mysore
High Court in Bhandari Rajmal Kusha/raj (supra). The decisions of
the Madras High Court in P. L. K. N. Meenakshi A chi (supra) and
A. Muthukumara Pillai (supra) are not apposite and are not concerned
with the point before us. Our attention was invited by learned
c counsel for the Revenue to the decision of this Court in Devenport
& Co. P. Ltd. v. Commissioner of Income-Tax, West Bengal 11(1) but
this point did not arise there either.

Accordingly, we answer the quection referred in. the affirmative,
.D in favour of the assessee and against the Revenue. There is no order
as to cos~s.

H.S.K. Question answered in affirmative.

.,

,

[I) [1975] 100 I T.R. 715.