Report No. 12

Notes to clauses 15 to 17

A. Salaries.-Simplification of the present section 7 has been attempted in the following ways:-

(i) only the substantive provision specifying the charge in respect of "salaries" paid or payable by an employer has been dealt within the main clauses1.

1. Clause 15.

(ii) the extended meaning given to the expression "salaries" is omitted from the substantive clause and separately defined in the interpretation clause;

(iii) similarly, instead of mentioning the different types of employers in the substantive part, the term "Employer" alone has been used, a definition having been given separately to cover the various types;

(iv) the permissible deductions are placed in a separate clause;

(v) the present Explanations about "perquisites" (Expin. 1) and "profits in lieu of salary" (Expin. 2) have been placed in the interpretation clause.

2. Provisions dealing with income classifiable as salary, scattered elsewhere in the Act, have been collected together, e.g., draft clause1-dealing with notional payments from provident funds etc.

1. Vide draft clause 17(2)(vi) and (vii).

3. The existing section makes a distinction between salary which is "due" to an employee and other salary "paid" which is not due to him. The former is taxable on "due" basis whether actual payment has been made or not, while the latter, is taxable on the basis of actual payment. This aspect is more clearly brought out in the present draft. (See the decision of Calcutta High Court in Bhuban Mohan Banerlee v. C.I. T., (1956) 29 IKR 229 (236). though in an earlier decision1 it was held that an amount due in one year could be taxed in a later year in which it was received).

1. Usharani Roy Choudhurani (in re:), (1912) 10 ITR 199.

4. Arrears of salary would, at first sight, appear to be delayed "payments" for amounts which had already accrued "due" in the year or years in which the employee had rendered service. Looked at from this angle, they do not present much difficulty.

But the arrears of salary which call for specific treatment are those where services are rendered in a past year but the quantum of payment to be made is not determined till the year of receipt of the amount by the employee in a subsequent year, or where the emoluments of the post are revised or a promotion is made retrospectively. In these cases it will be difficult to include in the regular original assessment the arrears sanctioned and paid subsequently, since in many cases the determination may take years. It would also not be possible to keep the assessment pending until such determination is made.

The Departmental practice has been to include such arrears in the total income of the year of receipt. Relief is afforded against the hardship involved in the taxation of the lump-sum by means of an order under section 60, sub-section (2), the effect of which is that the arrears are attributed to the periods to which they should reasonably be related. Assessment in the year of receipt is in accordance with the decision of the Calcutta High Court in Llsha Rani Roy Choudhurani's case', (1942) 10 ITR 199.

The recent decision of the Calcutta High Court in Bhuban Mohan Banerjee's case, (1956) 29 ITR 229 (236). however, contains observations which may be taken to mean that a salary payment made in a subsequent year would still be taxable only on due basis in the first year. The decision does not create any difficulty if the word "due" is interpreted as relating to the point of time when the amount is actually quantified by the employer. On this view the claim for relief under section 60(2) may not be admissible. But if it is intended that such amounts should be related to the back years and subjected to tax under section 34, difficulty may arise in the initiation of such proceedings because of limitation.

It can even be argued that these are not cases of escapement of income, there being no omission or commission by the assessee or by the Department. There will be further difficulty for the employer in the matter of making deduction of tax at source, and some confusion is bound to arise as to whether the tax so deducted at the time of payment should be given credit for the year for which the assessment under section 34 is supposed to be made.

On the whole the present Departmental practice seems to be a reasonable compromise and is fair to the assessee and the Department. It is fair to the Department because the complication of section 34 is avoided, and even when an, order under section 60(2) is passed the consequential adjustment of tax is made in that assessment itself and not by reopening past assessments. It is fair to the assessee, because if the amount were to be treated as due only when it is paid, the question of relief under section 60(2) would not arise, while the Departmental practice ensures that the assessee is to be in the same position as if he had been taxed in the respective years after speed-back of the arrears to the relative period.

There may, of course, be cases when the assessee will be worse off by the arrears being related back than when he is taxed on the arrears. This will happen when the arrears of salary are received after retirement or after reversion from a higher post. In those cases the assessee will not apply for relief under section 60(2) and no action is taken by the Department itself under section 34 or otherwise.

In view of the position discussed above draft sub-clause (c) has been added to deal adequately with arrears.

5. Section 60(2) was placed on the statute book at a time (in the year 1930) when the chargeability of salary was not on "due" basis but on "receipt" basis, under section 7 as it stood then. Accordingly it continues to employ language appropriate to a higher tax burden in consequence of the employee "receiving" a payment as salary in arrears or for more than twelve months. This contingency will not arise on the present "due" basis of taxation on salary.

It is, however, proposed not to make any changes in that section, since the section will be useful in so far as it gives relief in respect of lump-sum payments received by the employee and treated as profits in lieu of salary under explanation 2 to section 7(1). It may also be useful in view of the fact that a provision for charging arrears not already taxed has been added in the draft.

6. A few minor points also deserve notice. These are as follows:-

(i) Draft sub-clause 16 (ii):-The provision relating to deduction for entertainment allowance has been made more logical in one respect. Where a person was in receipt of entertainment allowance at a lower rate before 1st April 1955, his claim for deduction will not be totally forfeited, but will be reduced to that previous lower rate. The present section 7(2)(ii) does not make this clear.

The changes made by the Finance Act, 1958, have been given effect to.

(ii) Draft clause 16 (iv):- The allowance for expenses incurred by an employee in the performance of his duties has been made exclusive not only of entertainment advance (as at present), but also of the allowance for expenses for books etc. and conveyance allowance. The existing provision section 7(2) (iii), does not include these latter categories. The change has been made in order to make the provision comprehensive.

The wording has also been changed so as to make it precise. The word "necessarily" has been omitted as it is unduly restrictive. We have followed the language of existing section 10(2) (xv).

It may also be pointed out that the Royal Commission on the Taxation of Profits and Income (United Kingdom) examined the corresponding provision in the U.K. Act (Schedule E or old Rule 9)1 and has recommended that the allowance should be made liberal2. It has proposed the wording "all expenses reasonably incurred for the appropriate performance of the duties of the office or employment". This, the Commission has pointed out, would remove the complaint that the legislature imposes upon those in employment a narrower form of allowance for expenses than it accords to persons deriving a private income from their own efforts. The wording suggested by the Royal Commission is worth consideration as an alternative.

1. Now see the U.K. Income-tax Act, 1952, Ninth Schedule, Rule 7.

2. Royal Commission on the Taxation of Profits and Income, Final Report, June 1955, (Cmd. 9474), p. 47, para 140.

Draft clause 17(1):-The definition of "employer" as now adopted includes a foreign Government, reference to which is not to be found in the present section 7. It is for consideration whether the mention of foreign Government as employer is acceptable. It has been suggested that by such inclusion the assessee will not be subject to any heavier tax burden but on the other hand may qualify for relief under section 60(2) which will be advantageous to him.

The possibility of an employee of a foreign Government being required to make an actual payment of tax (on "due" basis) without actually receiving the salary will not arise, because section 7(1), 2nd proviso, lays down that where tax is deductible at source, the assessee shall not be called upon to pay the tax himself unless he has received salary without deduction. How far the procedure for deduction (section 18) will be enforceable against a foreign Government will also be a matter for consideration.

Draft clause 17(2).-Item (ii) relating to annuities has provoked some discussion. It has been suggested that annuities paid by the Government or local authorities should be taxed as salary irrespective of whether the payee is an employee or not. This cannot be accepted, as it goes against the basic scheme of the section.