Provision, if commercially prudent and contractually required, is not merely permissible but necessary and cannot be equated with uncertain or notional liabilities: Delhi HC
Delhi HC recently held on allowability of Asset Reconstruction Cost (ARC) as a business expenditure under Section 37(1) of the Income Tax Act, 1961, rejecting the Assessing Officer’s view that the provision was an unascertained or contingent liability.
Let us have a Short Overview of the case on Asset Reconstruction Cost (ARC) – Vodafone Mobile Services Ltd. v. DCIT [2025]
The Delhi High Court in this case has ruled in favour of Vodafone Mobile Services Ltd. on the allowability of Asset Reconstruction Cost (ARC) as a business expenditure under Section 37(1) of the Income Tax Act, 1961, rejecting the Assessing Officer’s view that the provision was an unascertained or contingent liability.
Provision Held to be an Ascertained Liability:
The Court accepted that the ARC provision represented a present obligation arising from a past event (lease agreement), satisfying the tests prescribed under Accounting Standard (AS) 29. AS-29 allows a provision to be recognized when:
A present obligation exists (contractual/legal),
An outflow of economic resources is probable, and
The liability is measurable through reasonable estimation.
The Court emphasized that absolute certainty is not required-only that the outflow is “more likely than not”. Hence, the provision was not a contingent liability, but a legitimate and ascertainable obligation, aligning with AS-29’s principles.
Interpretation of Lease Agreement – Restoration Obligation is Compulsory:
The ARC provision was based on lease clauses requiring the assessee to restore leased premises to their original condition and remove telecom equipment without causing damage. The Revenue argued that the clause “if any damage is caused” made the obligation contingent.
The Court categorically rejected this view, clarifying that:
The core obligation to restore was embedded in the lease agreement.
The phrase “if any damage is caused” merely pertained to extent of expenditure, not the existence of liability.
Therefore, the ARC provision was a present and enforceable obligation from inception, not dependent on uncertain future events.
Key Findings:
The obligation to restore is contractually mandated, forming a positive obligation flowing from a past event.
The provision is probable and reliably estimable, fulfilling AS-29 and qualifying for deduction under Section 37(1).
The Tribunal’s insistence on a fully incurred or ascertained liability was erroneous in law.
Section 37(1)’s language-“laid out or expended”-includes even future expenses set apart for specific business objectives, as recognized in Vedanta Ltd. judgment and earlier Supreme Court precedents.
Conclusion:
The High Court held that the ARC provision was a business expenditure, duly complying with accounting and tax principles. It clarified that such provisioning, if commercially prudent and contractually required, is not merely permissible but necessary, and cannot be equated with uncertain or notional liabilities.
The Copy Of the order is as under:
