Monday, June 6, 2016

Interest on compensation paid to accident victim is tax-free

Facts:
a) The assessee was travelling in a car, which met a serious accident, leaving her permanently disabled. She claimed a compensation for this tragic loss of her physical abilities. She did eventually get it after the long struggle of 21 years.

b) But this long struggle was not enough, the destiny had more in store for her. It is this settlement of the accident compensation claim that has led to a new round of litigation- this time about taxability of a component of compensation, i.e. interest component.

c) During assessment proceedings, the Assessing Officer held that that interest component on compensation was taxable as it is covered under section 145A(b) r.w.s. 56(viii).The CIT(A) had also confirmed this stand. The aggrieved-assessee filed the instant appeal.

The Tribunal held in favour of assessee as under:


1) It is the settled law, that a capital receipt, is outside the scope of 'income' chargeable to tax and a receipt cannot be taxed as income unless it is in the nature of a revenue receipt or is specifically brought within ambit of 'income' by way of specific provisions of the Income Tax Act. The accident compensation is, thus, not taxable as income of the assessee.

2) What is termed as interest also is of the same character and it seeks to compensate the time value of money on account of delay in payment. On the first principles, such an interest cannot have a standalone character of income, unless the interest itself is a kind of statutory interest at the prescribed rate of interest. Revenue, however, does not even challenge these propositions, and it is only on the scope of provisions of Section 145A(b) and section 56(2)(viii) that they rest their case.

3) Section 56(2)(viii) provides that income by way of interest received on compensation or enhanced compensation referred to in clause (b) of Section 145A shall be chargeable to tax.

4) The starting point of this exercise is income, and it is only when the receipt is in the nature of an income, that the classification of income under a particular category arises. In other words, when interest received by the assessee is in the nature of income, such interest can be taxed under section 56 (2)(viii). Unless a receipt is not an income, there is no occasion for the provisions of Section 56(1) or 56(2) coming into play. Section 56 does not decide what an income is. What it holds is that if there is an income, which is not taxable under any of the heads under Section 14, i.e item A to E, it is taxable under the head 'income from other sources'.

5) The receipt being in the nature of income is a condition precedent for Section 56 coming into play, and not vice versa. The authorities below were thus completely in error in bringing the interest awarded by Hon'ble Supreme Court to tax. - Urvi Chirag Sheth v. ITO [2016] 70 taxmann.com 33 (Ahmedabad - Trib.)
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