Liquidated damages qualify as 'interest' under Section 2(28A) of the Income Tax Act, thus entitled to exemption under Section 10(23G).

JUDGMENT :

Anita Sumanth,  J.

This Tax Case (Appeal) relating to assessment year 2005-06 has been filed at the instance of the assessee, assailing order dated 28.09.2012 passed by the Income Tax Appellate Tribunal (in short ‘ITAT”/’Tribunal’).

2. We have heard the detailed submissions of Mr.Niraj Sheth, learned counsel appearing for Mr.O.R.Santhanakrishnan, learned counsel on record for the appellant/assessee and Mr.T.Ravikumar, learned Senior Standing Counsel appearing for the respondent/revenue.

3. The substantial questions of law that had been admitted on 19.06.2013 are taken up for consideration in seriatim. The first and second substantial questions of law read as follows:

1. Whether the Income Tax Appellate Tribunal erred in holding that the appellant was not entitled to the exemption under Section 10 (23G) of the Act in respect of Liquidated Damages?

2. Whether the Income Tax Appellate Tribunal ought to have held that Liquidated Damages were entitled to the exemption under Section 10 (23G) of the Act inter alia as such receipts fell within the definition of "interest" in Section 2 (28A) of the Act?

4. The above questions were raised for consideration in T.C.(A)Nos.1288 and 1290 of 2007 relating to assessment year 2000-01 and 2001-02 and have been answered in favour of the assessee as follows:

4. Questions 1 & 2 in both the appeals relate to the exemption claimed by the assessee under Section 10 (23G) of the Income Tax Act in respect of liquidated damages payable by a borrower to the assessee in the event of a borrower committing default in repayment of the loan advanced by the assessee. Therefore, we will group questions 1 & 2 in T.C.(A) No.1288 of 2007 and questions 1 & 2 in T.C.(A) No.1290 of 2007 together for easy appreciation. These questions read as follows:-

“(1) Whether the Income Tax Appellate Tribunal erred in holding that the appellant was not entitled to the exemption under Section 10 (23G) of the Income Tax Act in respect of liquidated damages?

(2) Whether the Income Tax Appellate Tribunal ought to have held that liquidated damages were entitled to 3 the exemption under Section 10 (23G) of the Act inter alia as such liquidated damages fell within the definition of “interest” in Section 2 (28A) of the Act?” 

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8. ………. The liquidated damages, even as per the orders of the assessing officer and the CIT(Appeals), did not accrue on account of any default in the payment of bills as stipulated in the agreement. Admittedly, the appellant is an infrastructure development finance company, which provides long-term finance for infrastructure development projects. The liquidated damages charged by the assessee upon its borrowers, even as per the understanding of the assessing officer and the CIT(Appeals), was in the event of a default committed by the borrower in repayment of the principal and the interest. Therefore, it is clear that the Tribunal was caught wrong on the facts of the case, even at the outset.

9. Now coming to the question as to whether the liquidated damages would qualify for deduction under Section 10 (23G), it is seen that stipulated that any income falling within any of the clauses contained therein should not be included while computing the total income of a previous year of any person. Under clause (23G), any income by way of dividends (other than 5 dividends referred to in section 115-O), interest or long term capital gains of an infrastructure capital fund or an infrastructure capital company or a co-operative bank from investments made on or after the first day of June, 1998 by way of shares etc., should not be included in the total income. Clause (23G) of as it stood before it was omitted by the Finance