Case Name – Muthoot Leasing and Finance Company Ltd and Anr. v. Commissioner of Income Tax
Judges/Bench – Sanjiv Khanna, M.M. Sundaresh
Judgement Date – January 03, 2023
INTRODUCTION
Hire purchase agreements are agreements where the owner of goods allows a person (the hirer) to hire goods from him for a specific period of time by paying instalments. The hirer has the option to buy the goods at the end of the contract if all the instalments are paid respectively.
In hire-purchase, the hirer holds possession and the owner may inspect the condition of the matter of hire-purchase for ex, a vehicle at all reasonable times. The hirer can determine the agreement by delivering possession to the owners at his own cost. At the same time, if the hirer fails to pay instalments, becomes insolvent, pledges or sells or in any other way tries to alienate the specified property, the owners can initiate legal process to determine the agreement to take back possession. The owners can sue for damages due to breach of agreement, for outstanding instalment dues and the costs of reclaiming possession.
The hire-purchase finance companies are “financial companies” under sec 2(5-B) of the Interest Tax Act, 1974. This act seeks to tax the interest incomes from deposits received by credit institutions and finance companies. The hire purchase companies contend that interests received in instalments are not taxable under this act due to the nature of these agreements being purchase-oriented after a certain period. However, judicial opinion has evolved and this article seeks to understand this evolution and the current stand of the court.
EVOLUTION OF JUDICIAL OPINION
Income Tax Appellate Tribunal(ITAT)
The Muthoot Leasing and Finance Company Ltd and some other companies were registered as non-banking finance companies and then re-classified as hire-purchase companies. They come under sec 2(5-B) of the Interest Tax Act, 1974. These companies contended that when they hire out vehicles, they don’t receive interest on loans, rather they receive instalments in the form of rent. The ITAT held that hire-purchase agreements are different from interest on loans and they are not subject to interest tax. It relied on circular no.760 of Central Board of Direct Taxes(CBDT).
Kerala High Court
Kerala HC in the appeal, set aside the above decision and ruled that instalments are in the nature of “finance charges” and therefore interest tax can be levied. The court relied on the nature of hire-purchase as a finance agreement for purchase of a vehicle. The hirer registers the vehicle in his name, and each instalment should be considered as part payment of purchase money. The court relied on Circular No. 738 of CBDT, which expressly covered hire-purchase agreements under Sec 2(7) of the act, subjecting it to interest tax.
Supreme Court’s Decision – Muthoot Leasing and Finance Company Ltd and Anr. Vs Commissioner of Income Tax
What is the scope of Sec 2(7) of the act?
This section defines “interest” for the purposes of this act as ‘interest on loans and advances’ including commitment charges and discount on promissory notes and bills excluding discount on treasury bills and interests covered in sec 42 (1-B) of RBI Act,1934. The court referred to two judgments to understand the scope and interpretation of this provision. The act was created as an anti-inflammatory measure and for revenue collection. The definition is narrow and exhaustive as it is a “means and includes definition”. A subject can be taxed only when there is a clear and statutory provision on it. Here, the interest must arise directly from a loan or advance and not otherwise. The court also differentiated between the broad meaning of ‘interest’ in Income Tax Act where interest is payable in any manner and whatsoever.
What is the nature of a hire-purchase agreement?
Hire-purchase agreements have elements of bailment and sale. The hirer becomes bailee and those rules operate on hire-purchase for the time being while sale fructuates when the hirer exercises his option to purchase. Until this option is exercised it is simply a hire, and the amount paid remains a rent even though an element of ‘interest’ is inbuilt per se. Hire-purchases are not simple transactions of giving a loan or advance on which interest is payable, rather they are complex in nature. Therefore, the Kerala HC’s decision is not in conformity with judicial opinion of the apex court.
What is the significance of circulars issued by CBDT?
The CBDT had issued two circulars No.738( in 1996) and No.760 (in 1998). The former placed hire-purchase under finance transactions making it taxable while the latter exempted hire-purchases from the definition of finance transactions with interest tax except those hire transactions whose substance is in the nature of finance transactions. To determine this, the terms of agreement, the nature of arrangement between parties, and the intention of parties revealed through the manner of payments must be considered.
CONCLUSION
Firstly, the court said that finding of facts by ITAT is conclusive and the high court ought not to have interfered with it unless a substantial question of law was formed and the facts did not support the materials on record. In the High court’s order, there was no substantial question of law, therefore the court cannot question the facts founded and reverse it.
Secondly, the assessing officers while determining the nature of a hire-purchase agreements must rule out instances where the real nature is camouflaged to avoid interest tax liability and ascertain the facts properly.
Thirdly, the court allowed the appeals from the high court’s decision, and set aside the same. The additions made by the assessing officer were set aside and the orders of ITAT deleting those additions for the appellants (Muthoot Finance) was upheld.
The court laid down the principle that on matters concerning taxation, the language of charging section and the object and purpose of the enactment must be taken into account and only apparent and directly expressed items should be charged. Any form of indirect application of the charging section must be adopted with caution and care to ensure proper application of the act.
Written By: Sneha Muthukumar
College – Sastra Deemed University, Thanjavur.