“Prejudicial to the Interests of the Revenue” – wide enough to include “All erroneous orders”

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Interests of the Revenue

Introduction

1. The article reviews 3 judgments largely in the context of the determination & interpretation of the usage “Prejudicial to the interests of the Revenue”, as enshrined in Section 263. The judgment of the hon’ble Madras High Court in Venkata Krishna Rice Co v. CIT (1987) 30 Taxman 528/163 ITR 129 (Mad.), a master piece and trend setting in the context of magnified and contextual interpretation of the said usage, even if it was reversed.

The said judgment, however, got reviewed by the hon’ble Kerala High Court in the case of Malabar Industrial Co. Ltd. v. CIT [1992] 62 Taxman 25/198 ITR 611 (Ker.), another equally profound judgment, dissecting the Ventaka Krishna Rice Co (supra) judgment into 2 components – admitting the wide import of the language of S 263, specially in the context of the said usage, and at the same time disagreeing respectfully with the myopic interpretation of the said usage by hon’ble Madras HC, by stating that the interpretation of the said usage should not be limited to a case where the order passed by the ITO can be considered to be the one prejudicial to the revenue as such.

In yet another marvel from the hon’ble Supreme Court in the context of the definition of an “erroneous order”, as appearing in Sec 263, in case of Malabar Industrial Co. Ltd. v. CIT [2000] 109 Taxman 66/243 ITR 83 (SC), it reversed the said judgment of the hon’ble Madras HC & affirmed the said judgment of the hon’ble Kerala HC. Interestingly, the hon’ble SC also admitted the wide import and added a dimension to the understanding of the said usage, without circumscribing the magnified meaning of the said usage accorded by the hon’ble Madras HC, though disagreeing, like the hon’ble Kerala HC, with the narrow view of the hon’ble Madras HC in the context of the said usage.

In the conclusion the article argues that the said usage “prejudicial to the interests of the Revenue” is not only comprehensive& far-reaching but includes “any order which is erroneous”.

2. Case of Venkata Krishna Rice Co v. CIT (supra)

Relevant facts of the case

2.1 The assessee-firm was carrying on business of its own. It was also engaged in a joint venture in association with certain other firms. While returning its income for the relevant assessment year the assessee showed therein its share of income from the joint venture. The ITO accepted it and completed the assessment. However, the Commissioner set aside the assessment under section 263 holding that the ITO’s action, insofar as he brought to charge the assessee’s share income from the joint venture, was prejudicial to the interests of the revenue and directed the ITO to first make an assessment on the AOP as such and then follow it up with the assessment of the share income of the assessee as a member of that association. On appeal the Tribunal upheld the order of the Commissioner.

2.2 Judgment of the hon’ble Madras HC (relevant part)

♦ “………… As regards the jurisdiction of the Commissioner to act under section 263, it is quite clear from the phrasing of section 263 that two things must coexist in order to give jurisdiction to the Commissioner to interfere in revision the order of the ITO in question must not only be erroneous, but the error in the ITO’s order must be of such a kind that it can be said of it that it is prejudicial to the interests of the revenue.
♦ Moreover, the expression ‘prejudicial to the interests of the revenue’ is not to be construed in a pettifogging manner, but must be given a dignified construction. It may be noted that the use of the expression ‘revenue’ is significant. It denotes some kind of abstraction or symbol in the same sense in which the expression ‘Crown’ is used to distinguish it from any person enthroned. The interests to the revenue is not to be equalled to rupees and paise, merely; the jurisdiction of the Commissioner under section 263 is undoubtedly a supervisory jurisdiction.
♦ It is intended for interference in special cases to counteract orders which are erroneous as well as prejudicial to the interests of the revenue.
♦ In this context, therefore, the expression ‘prejudicial to the interests of the revenue must be regarded’ as involving a conception of acts or orders which are subversive of the administration of revenue. There must be some grievous error in the order passed by the ITO, which might set a bad trend of pattern for similar assessments, which on broad reckoning, the Commissioner might think to be prejudicial to the interests of revenue administration .
♦ There might be cases where the Commissioner might wish to interfere with an order of the ITO in order to safeguard the fair name and reputation of the Income-tax Department, without any thought of going into the particular aspects of the assessment. Assessments which are mala fide, politically and communally motivated, may be, however, set aside as being prejudicial to the interests of the revenue. The scope of the interference under this section is not to set aside merely unfavourable orders and bring to tax some more money to the treasury. Nor is the section, meant to get at sheer escapement of revenue which, as is well known, is taken care of by provisions elsewhere in the Act such for instance, as section 147 of the Act.
♦ The prejudice must be prejudice to the revenue administration. Accordingly, in the instant case, the Commissioner was not justified in interfering with the ITO’s order.(emphasis supplied)
2.3 Comments

2.3.1 The order is dissected in the aforesaid clauses. The clauses 1.2.2 & 1.2.5 above really magnify the understanding of the said usage.

2.3.2 It is the clauses 1.2.4 & 1.2.6 that really limit the interpretation of the said usage, when applied for the adjudication on the invocation of S 263 Revision by the CIT in the given case.

3. Malabar Industrial Co Ltd, Hon’ble Kerala HC order (supra)

3.1 Relevant facts of the Case

3.1.1 The assessee had a rubber estate, which was sold to a firm “S” for a consideration of Rs. 210 Lacs, the payment for which was scattered over a period. The said firm “S’ could not observe the agreed schedule of payment, and agreed to compensate the assessee towards the Salary payment to the Estate department. The compensation was determined at Rs. 3.66 Lacs. The assessee stopped its business activity of rubber tapping. It credited the said sum in the Profit & Loss account under the head ‘Damages and compensation realised for the loss of agricultural income’.

3.1.2 The ITO accepted the return at Nil income without bringing the said sum of Rs. 3.66 Lacs to tax.

3.1.3 According to the CIT, the sum of Rs. 3.66 Lacs credited to the trading account under the head ‘Damages and compensation realised for the loss of agricultural income’ was chargeable to tax under the head ‘Income from other sources’ and the ITO had passed the order of assessment as ‘Nil assessment’ without applying his mind.

3.1.4 The CIT treated the order as a result of the wrong decision of the ITO by negligence or by incorrect application of law, which was prejudicial to the interests of the revenue. Hence, he initiated S 263 Revision.

3.1.5 The hon’ble ITAT affirmed the order of the ITO, rejecting the appeal by the assessee.

3.2 Order of the hon’ble Kerala HC (relevant part)

3.2.1 The language of section 263 is of wide import and it should not be limited to a case where the order passed by the ITO can be considered to be one prejudicial to the revenue as such . In the instant case, the Tribunal was justified in holding that the ITO, ….did not make proper inquiries called for in the circumstances of the case, and the assessment order did not show that the ITO had considered all the aspects of the case including the agreement and the damages and compensation realised for the loss of the agricultural income of Rs. 3,66,649. The ITO had failed to apply his mind to the case in all its perspective and the order passed by him was erroneous insofar as it was prejudicial to the interests of the revenue and, therefore, the assumption of jurisdiction by the Commissioner under section 263 was legal, valid and justified. (emphasis supplied)

3.2.2 It referred to the submission of the assessee at para 4: “The expression ‘prejudicial to the interest of the revenue” occurring in section 263 should be understood as a prejudice to the revenue administration and should involve acts or orders, which were subversive of the administration of the revenue. There must be some grievous error in the order passed by the ITO, which might set a bad trend or pattern for similar assessment order and an order passed by the ITO cannot be said to be prejudicial to the interest of the revenue, merely because it was in his favour and failed to bring to tax some more money.”

3.2.3 At para 5 of its order the hon’ble Kerala HC reproduced the order of the hon’ble Madras HC, appearing at the various clauses of 1.2 above.

3.2.4 It referred to the specific submission of the assessee for invalidating the S 263 Revision by the CIT: “that neither the Commissioner, nor the Tribunal has found that in this case the error committed by the ITO, if any, might set up a bad trend or pattern for the similar assessment and this is not a case where any prejudice could be said to have resulted to the revenue administration.” (emphasis supplied).

3.2.5 It relied on a few judgments of the various other High Courts, to refute the said claim of the assesses. Particular reference ought to be made to the 2 judgments of the hon’ble Supreme Court in the cases of (a) Smt. Tara Devi Aggarwal v. CIT [1973] 88 ITR 323& (b) Rampyari Devi Saraogi v. CIT [1968] 67 ITR 84 (SC).

3.2.6 The judgment of Rampyari Devi Saraogi (supra) was followed in Tara Devi Aggarwal (supra). In Tara Devi Aggarwal (supra) it was held that: “Even where an income has not been earned and is not assessable merely because the assessee wants it to be assessed in his or her hands in order to assist someone else who would have been assessed to a larger amount, an assessment so made can certainly be erroneous and prejudicial to the interests of the revenue.”(emphasis supplied)

3.2.7 At para 6, the hon’ble Kerala HC observed that: “It is to the effect that the words ‘prejudicial to the interest of the revenue’ are of wide import and they should not be limited to a case where the order passed by the ITO can be considered to be one prejudicial to the revenue administration as such.”

3.2.8 At para 6, it also referred to the judgment of the hon’ble Madras HC in the case of Hindu BankKarur Ltd. v. Addl. CIT [1976] 103 ITR 553, which stated that: question as to whether an order of the ITO is prejudicial to the interest of the revenue, would depend upon the facts of each case and there can be no universal formula applicable to finding out any such prejudicial error. It also referred to the following observation in the same case: “It would be seen that the prejudice to the revenue was inferred in that case not from any finding that there was a loss of revenue but from mere fact that the procedure employed was defective [Emphasis supplied] (p. 558)”

3.2.9 The order of the hon’ble Tribunal was, therefore, confirmed by the hon’ble Kerala HC.

3.3 Comments

3.3.1 In fact, the hon’ble Kerala HC extends the interpretation of prejudicial to the interests of the Revenue, to even beyond the prejudice to the revenue administration, by stating that it is of wide import and cannot be limited to only such an order which is prejudicial to the revenue administration as such.

3.3.2 It brought out the fact of no application of mind by the ITO to all perspectives of the facts on hand, and no proper inquiries being made, more particularly when the assessee did not establish by enclosing documents to his return that could have established that the said sum of Rs. 3.66 Lacs constituted the agricultural income of the assessee, which was the basis of claim of exemption in respect of this sum.

3.3.3 How can the assessee state that the act of the ITO, in not applying his mind to the assessing of the said sum of Rs. 3.66 Lacs would not set a bad trend or pattern for similar assessment or even for other assessments?

3.3.4 Attention is invited to the sweeping observation in the case of Hindu Bank Karur (supra) and the need felt by the hon’ble court for its reiteration, that the mere fact that the procedure employed being defective, is sufficient to cause prejudice to the interests of the revenue.

3.3.5 Hence, the hon’ble court rightly validated the order of the hon’ble Tribunal.

4. Malabar Industrial Co Ltd, Hon’ble Supreme Court order (supra)

4.1 Relevant part of the Order

4.1.1 At para 7, the hon’ble SC held that: “There can be no doubt that the provision cannot be invoked to correct each and every type of mistake or error committed by the Assessing Officer; it is only when an order is erroneous that the section will be attracted. An incorrect assumption of facts or an incorrect application of law will satisfy the requirement of the order being erroneous. In the same category fall orders passed without applying the principles of natural justice or without application of mind.

4.1.2 The phrase ‘prejudicial to the interests of the revenue’ is not an expression of art and is not defined in the Act. Understood in its ordinary meaning, it is of wide import and is not confined to loss of tax.

4.1.3 The reliance by the assessee on the judgment of the Division Bench of the High Court of Madras in Venkatakrishna Rice Co (supra) interpreting ‘prejudicial to the interests of the revenue’ is repeated for a clear understanding:”In this context, it must be regarded as involving a conception of acts or orders which are subversive of the administration of revenue. There must be some grievous error in the Order passed by the ITO, which might set a bad trend or pattern for similar assessments, which on abroad reckoning, the Commissioner might think to be prejudicial to the interests of Revenue Administration”.(para 8 of hon’ble SC order)

4.1.4 The hon’ble SC concluded that: “this interpretation is too narrow to merit acceptance”.

4.1.5 “The phrase ‘prejudicial to the interests of the revenue’ has to be read in conjunction with an erroneous order passed by the Assessing Officer.. Every loss of revenue as a consequence of an order of the Assessing Officer cannot be treated as prejudicial to the interests of the revenue. For example, when an ITO adopted one of the courses permissible, in law, and it has resulted in loss of revenue, or where two views are possible and the ITO has taken one view with which the Commissioner does not agree, it cannot be treated as an erroneous order prejudicial to the interests of the revenue, unless the view taken by the ITO is unsustainable in law……..”

4.2 Comments

4.2.1 The hon’ble Supreme Court affirmed the order of the hon’ble Kerala HC, but propounded a very important interpretation of the term “erroneous order”, as appearing in the context of S 263

4.2.2 The order has defined the “erroneous order” by establishing four parameters, which definition and understanding was not furnished hitherto by any other order. A new, enlarged & wiser meaning has been added to the “erroneous order”.

4.2.3 As regards the usage “prejudicial to the interests of the Revenue” interpretation, there is no new definition given. The hon’ble SC has only reiterated that Understood in its ordinary meaning, it is of wide import and is not confined to loss of tax. It has to an extent reversed the narrow understanding arrived at by the hon’ble Madras HC, as is stated in clause 3.1.3 above & also appearing at para 8 of the hon’ble SC order. Other than this reversal of the meaning of the said usage, there is no abridgment or curtailment of the hon’ble Madras HC’s order.

4.2.4 The order of the hon’ble Madras HC stands, barring its reversal as discussed above, more particularly as the hon’ble Madras HC had itself enlarged the meaning of the said usage, which meaning of the usage was further enlarged by the hon’ble Kerala HC, which magnified understanding also has the hon’ble SC’s assent. It is also submitted that the department did not further contest the hon’ble Madras HC order in further appeal before the hon’ble SC, hence, by this understanding also, it cannot be treated as absolutely set aside or reversed in full.

4.2.5 It cannot be the argument or understanding, that only when there is a loss of tax suffered by the Revenue, as a result of an order of AO, that the order is “prejudicial to the Interests of the Revenue”. The usage “prejudicial to the Interests of the Revenue” is of wide import. It “includes” a loss of tax and does not “mean” a loss of tax only. It is equally true that all losses of Tax, as a result of the order of an AO, cannot amount to the order being “prejudicial to the Interests of the Revenue”, provided that if the order is erroneous due to the view of the AO not being sustainable, in law, the order would amount to being “prejudicial to the Interests of the Revenue”; see para 9 of the hon’ble SC order.

4.2.6 There is an occurrence of the term “must” in the first sentence of the order of the hon’ble Madras HC, highlighted in 4.1.3 above, which refers to the indispensable imperative of an order to be subversive of the administration of revenue. The term “must” appearing in the second sentence, mandates the occurrence of a grievous error, which might set a bad trend or pattern of assessment.

4.2.7 It is very respectfully submitted that the term “must” signifying the necessity of “subversive of the administration of revenue” and also “bad trend or pattern setter”, if were to be replaced by the term “can”, there would not remain, any reason for the order of the hon’ble Madras HC to be reversed by the hon’ble SC.

5. “Prejudicial to the Interests of the Revenue” – wide enough to include “All erroneous orders”

5.1 The attention is invited specifically to the clauses 1.2.2 &1.2.5 above, embedding the hon’ble Madras HC order, more particularly to the observations: “It may be noted that the use of the expression ‘revenue’ is significant. It denotes some kind of abstraction or symbol in the same sense in which the expression ‘Crown’ is used to distinguish it from any person enthroned. The interests to the revenue is not to be equalled to rupees and paise”, ……..”There might be cases where the Commissioner might wish to interfere with an order of the ITO in order to safeguard the fair name and reputation of the Income-tax Department, without any thought of going into the particular aspects of the assessment. Assessments which are mala fide, politically and communally motivated, may be, however, set aside as being prejudicial to the interests of the revenue.”

5.2 These observations magnify the interpretation of the usage “prejudicial to the interests of the Revenue”. It is submitted that, as there is nothing in the Act to interpret the said usage, the recourse to the courts cannot be avoided. In fact, it is the primary source of interpretations, in the context in which the usage appears. It is important to note that the department has not contested the order of the hon’ble Madras HC in the Supreme Court.

5.3 It would be extremely naïve and repressive to reckon the said usage only in terms of rupees and paisa, as has been rightly pointed out by the hon’ble Madras HC, more particularly when the high and the mighty powers that be, seated in the higher echelons, are otherwise also obliged to engage the department in a manner which would rather retrieve the already tarnished image of the department, largely in the context of frivolous and compulsive litigation, and salvage the lost image resulting from inefficient and irresponsible litigation.

5.4 Orders favourable to the Revenue – though erroneous

5.4.1 An Assessing Officer (AO), in several cases it is noticed, (though it may also be equally true of the CIT (Appeals)) passes orders ignoring the submissions of the assessees already put on record. Such an order, inter alia, fails to apply the assessee-favourable judgments, let alone distinguishing them on merits, brought to the notice of the AO at the assessment stage. Such an order it is submitted is clearly erroneous in law.

5.4.2 Even if for the sake of arguments it is assumed that the AO has relied on judgments favourable to the Revenue in arriving at his order, such an order so passed, would again be bad, in law, as it violates the rule of Law (in Article 14 of the Constitution) enshrined in the basic structure doctrine of the Constitution, and also the judgment of the hon’ble SC in case of CIT v. Vegetable Products Ltd. [1973] 88 ITR 192(SC), which clearly states that if two reasonable constructions of a taxing provision are possible, that construction which favours the assessee must be adopted. Such an order passed by the AO relying on the judgments favourable to the department, without excepting the judgments favourable to the assessee, clearly is an erroneous order.

5.4.3 No further instances of erroneous orders are cited. Needless, to mention that such erroneous orders may certainly be litigated by the assessee, which would compellingly strain the scare — human& financial resource, besides the imminent certainty of such orders being reversed by the appellate forum. Besides, the human-resource starved department, also looses opportunities in the bargain, entailing opportunity costs.

5.4.4 Sufficient data is available on record, which establishes the fact that the department is not only a very weak, inefficient and irresponsible but also a compulsive litigant.

5.4.5 The National Litigation Policy 2010, highlights the necessity of the government to be an efficient and responsible litigant. Besides this, the Office Memorandum F No 279/Misc/52/2014(ITJ), dt 7th Nov 2014, in the context of non-adversarial tax regime is illustrative.

5.4.6 Such of these orders enlisted above, being not only erroneous, are also prejudicial to the interests of the Revenue, as it engages its senior cadre at huge costs, incurring opportunity costs, in avoidable litigation. The CBDT’s clear policy that: “The easy approach, “Let the court decide”, must be eschewed and condemned”, bears a recall.

5.4.7 It is however emphatically mentioned that the department is primarily rather innately, solely and singularly guided by the premise of loss of tax to deem the order to be erroneous, though it otherwise, very nonchalantly, is indifferent to its splurge of the taxpayers money, as was rightly observed by the hon’ble SC in UOI v. Prithwi Singh (Arising out of Diary No 8754 of 2018, dated 24-4-2018)

5.4.8 The attention of the hon’ble SC’s observation in Prithwi Singh (supra), at para 15, bears a mention: “To make matters worse in this appeal, the Union of India has engaged 10 lawyers, including an Additional Solicitor General and a Senior Advocate! This is as per the appearance slip submitted to the Registry of this Court. In other words, the Union of India has created a huge financial liability by engaging so many lawyers, for an appeal whose fate can be easily imagined on the basis of existing orders of dismissal in similar cases. Yet the Union of India is increasing its liability and asking the taxpayers to bear an avoidable financial burden for the misadventure.”

The phrase “taxpayers” needs emphasis. In a lighter vein, does the department believe that such financial burden for their misadventure in litigation, is causing prejudice to the taxpayers, and not the department (Revenue); prejudice to the Revenue can only be caused when the taxes that the Revenue thinks should have been collected (willy nilly),do not get collected.

5.4.9 The department has also accepted the order of the Hindu Bank Karur (supra), which enlarged the interpretation of the said usage to include in its meaning no loss of Revenue, when the procedure followed was defective.

5.4.10 In the light of the above it is submitted that an erroneous order as explained above, which causes prejudice to the Revenue in terms of loss of tax, certainly needs a Revision by the CIT. An erroneous order as explained above, which views the taxpayers as adversaries and engages it in avoidable litigation, constrains its own scare resources (both human and financial), and also brings a bad reputation to the department, besides being at loggerheads with the National Litigation Policy, certainly also causes prejudice to the interests of the Revenue. Would the CsIT, in the interest of justice, be bold enough to exercise the power of Revision enshrined u/s. 263 (and not u/s. 264) in respect of such orders “erroneous” and also “prejudicial to the interests of the Revenue”? Or is it really too much to expect this from them, as of course, the Courts are always there!!

5.4.11 It bears relevance to recite the caution reiterated in his article by the legendary Soli Dastur, entitled”Nani Palkhivala Did Not Accept Me As A Junior: Eminent Jurist Soli Dastur Reminisces His Life & Career”,

“There is no reason why we should complain about the present rates of income-tax, even though one may not be able to muster the enthusiasm of Justice Holmes of the U.S. Supreme Court who observed “Taxes are what we pay for civilized society. I like to pay taxes, with them I buy civilization.” Mr. C.. K. Daphtary, the first Solicitor-General of India, who was known for his ready wit and felicity of language, in a speech when he was felicitated by the Bombay Bar, referred to the observation of Justice Holmes and wryly commented “If by payment of taxes one buys present-day civilization then I do not want any part of it!” The key issue was rightly summarized by Justice Sabyasachi Mukharji in CWT v. Arvind Narottam [1988] 39 Taxman 368/173 ITR 479 (SC): “Does he with taxes buy civilization or does he facilitate the waste and ostentation of the few. Unless waste and ostentation in Government spending are avoided or eschewed no amount of moral sermons would change people’s attitude to tax avoidance.” Mr. N. A. Palkivala has pithily observed “a widespread taste for tax promises to be a thing of slow growth.”” (emphasis supplied)

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