Section 40A(3) Applies Only to Revenue Expenditure, Not Capital Investments: Delhi High Court

Case Title: PCIT vs. Sanskar Homes Pvt. Ltd.
Court: Delhi High Court
Appeal No.: ITA 50/2023
Date of Judgment: 17/03/2025

Overview:

In a significant ruling, the Delhi High Court clarified that Section 40A(3) of the Income Tax Act, 1961, which disallows certain cash payments exceeding prescribed limits, applies only to revenue expenditure and not to capital investments. The judgment came in response to a departmental appeal against the Income Tax Appellate Tribunal (ITAT) and CIT(A) decisions favoring M/s Sanskar Homes Pvt. Ltd.

Background of the Case:

The Assessee had entered into a collaboration agreement (18.03.2008) and a subsequent purchase agreement (14.02.2009) for acquiring the first and second floors of a residential property. Payments totaling ₹7.43 crore were made, partly in cash. The Assessing Officer (AO) disallowed these payments under Section 40A(3), treating them as revenue expenditure. However, the Assessee argued that:

• The property was held as an investment, not stock-in-trade.
• The cash payments were not claimed as expenditure in the Profit & Loss Account.

Findings by CIT(A) and ITAT:

• The CIT(A) accepted that the properties were classified as investments, as per balance sheets filed before the date of search.
• The ITAT upheld the CIT(A) ruling and noted:

Revenue’s Argument:

The Revenue contended that the properties were in fact stock-in-trade and that the disallowed amount was wrongly omitted from the profit and loss records. However, no documentary evidence was provided to support this claim.

High Court’s Ruling:

• The Court rejected Revenue’s claim, noting the absence of any proof that the payments were debited to the P&L account or that the properties were classified as stock-in-trade.
• It reaffirmed that Section 40A(3) is meant for revenue expenditure-expenses claimed in the P&L-not for capital investments.
• Since the amount was not claimed as a deduction, no disallowance under Section 40A(3) can be made.
• The appeal was dismissed with the question of law answered in favor of the Assessee.

Legal Principle Established:

Section 40A(3) applies strictly to revenue expenditure. Where payments are made for acquiring capital assets and not claimed as deductible expenses, the provision does not apply.

Significance of the Ruling:

This judgment provides strong clarity on the scope of Section 40A(3), protecting taxpayers from unwarranted disallowances in capital transactions. It emphasizes the need for Revenue authorities to distinguish between capital and revenue transactions before invoking disallowance provisions.

Prepared by: Dr. Muhammed Mustafa C T
BRQ Associates - Tax & Legal Research Team
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