The Hindu : IT relief under VRS: Bank retirees get a raw deal

Online edition of India's National Newspaper
Monday, Feb 23, 2004

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IT relief under VRS: Bank retirees get a raw deal

WHEN THE public sector banks came out with a scheme to reduce their staff strength, they structured the financial package in such a way that they had the best of the deals. They wanted minimum impact of such payouts on their financials, sought tax deductibility of the expenditure and did not want the payout to strain their liquidity.

The components of the package under the Voluntary Retirement Scheme (VRS) included ex-gratia, gratuity, pension, leave encashment and in some cases travel and transportation reimbursement.

The banks were not worried about the tax deductibility of the expenditure as they had several court decisions to support their claim.

The Madras High Court in the case of CIT v Chandrie & Co. (P) Ltd., (212 ITR 63) had held that "payments made to employees by way of gratuity, bonus, retrenchment compensation or compensation for termination of service, whether under compulsion of statute or voluntarily, cannot be said to be unconnected with business, or as not being commercially expedient, so long as the quantum of the payment is reasonable, having regard to all circumstances relevant to the business enterprise.

Such payments have ordinarily to be regarded as payments made to facilitate the carrying on of the business of the assessee". This decision was passed relying on Supreme Court's decisions in Gordon Woodroffe Leather Manufacturing Co V CIT (44 ITR 551 (SC)) and Sassoon J. David & Co (P) Ltd. V CIT (118 ITR 261 (SC)).

Supportive court verdicts

The Supreme Court had also held in K. Ravindranathan Nair's case (247 ITR 178) that "the Tribunal noted correctly that it was for the assessee to decide how he would conduct his business.

For the purpose of continuing his business, he had to reduce the number of units from 10 to 6. Any incidental expense in reducing those units was an expenditure incurred in the course of conducting the business and allowable u/s 37.''

The Madras High Court on the aspect of VRS in CIT V Simpson & Co. Ltd (230 ITR 794) had held, "When the payment is made for the purpose of retrenchment of workers it was for the purpose of reducing the staff and to bring about a reduction in the wage bill as well.

Therefore these were matters of management pertaining to business considerations and expediency and the expenditure incurred by the assessee in this regard was for the purpose of business and also with a view to maintaining good relationship with the labour and that the expenditure had to be considered as having been laid out wholly and exclusively for business purposes of the assessee. Therefore the sum paid under VRS was deductible." This decision relied on CIT v George Oaks Limited (197 ITR 288 (Mds)) and CIT v Sri Rama Vilas Services Ltd (211 ITR 763 (Mds)).

It has also been held by the Calcutta High Court in CIT v Machinery Manufacturing Co. Ltd., (198 ITR 559) that "the payment of compensation to induce workmen to retire prematurely is an item of expenditure incurred by the assessee company on the ground of commercial expediency in order to facilitate carrying on of business and is revenue expenditure and an allowable deduction.''

The CBDT Circular

But perhaps fearing a substantial drop in tax collection, the Central Board of Direct Taxes (CBDT) came out with a Circular (January 23, 2001) whereby the expenditure on VRS was termed capital in nature on the ground that there was an enduring advantage to the tax payers. All said and done, this circular was on shaky grounds.

There were enough case laws which held that the circulars cannot take away what is legitimately available under the law (Kerala Financial Corporation v CIT 210 ITR 129 (SC)). There were also decisions which stated that the Circulars from CBDT would not bind the courts or the tax payers (CIT v Hero Cycles Pvt Ltd 228 ITR 463 SC). Again various courts including the Supreme Court (Keshavji Ravji v CIT 183 ITR 1) maintained that circulars cannot preempt a judicial interpretation.

Armed with the above, the banks were not too worried about the CBDT's circulars. But when they were planning to write off the VRS expenditure over a few years, an expert opinion provided by the Institute of Chartered Accountants of India (August 2000) proved to be a proverbial spoke in the wheels. The opinion stated that out of the components of the VRS package, the lump sum paid on ex gratia could alone be treated as deferred revenue expenditure and the other components have to be expensed straightway.

For the banks, it was a strict `no no' as it would impact their profits substantially. Hence they wanted their regulator to prescribe an accounting treatment so as to take precedence over the opinion given. The regulator readily obliged and through its circular (BP.BC.73/21.04.018 dated January 30, 2001), allowed the banks to defray the entire component of the VRS package including outflows on account of gratuity and leave encashment to be treated as deferred revenue over a period five year period.

Sensing that the tax deductibility on account of VRS would be acceptable to the bankers if provided over a period (even though the expenditure could be straightway claimed as revenue), the Government for its part brought in Section 35 DDA into the Act which provided tax deductibility over five years.

With the banks and the Government having sewed up all the corners, the question arose as to the plight of the retirees. As a sop to them, Section 10 (10C) was brought into the Income tax Act, wherein any amount received at the time of retirement was exempt to the extent of Rs.5 lakhs. This was apart from the gratuity and leave encashment benefits available.

Also the retirees thought that the lump sum paid, having been based on the years of service served or remaining, as the case may be, or as a payment in the nature of profits in lieu of salary would fall within the ambit of Section 89(1) of the Income Tax Act, which allowed a tax relief to lessen the burden of tax which arises because of income relatable to a few years being received in one stroke.

In this scenario, banks wanted to cover one more angle in the process, which was to ease the strain on their liquidity.

Hence they agreed to meet their commitment to the retirees in annual instalments and in some cases through issue of bonds. It was then that all hell broke loose.

Since the banks paid the compensation in instalments, the exemption under Section 10 (10C) of the Income-tax Act 1961 was restricted to first such annual instalment and the retirees were denied the promised Rs. 5 lakhs exemption. To a great extent, the instalments which followed had to suffer tax with no exemption whatsoever.

Secondly, in some cases the tax department argued that the annual instalments mainly meant the method of payment but the income being accrued in its entirety in the year of retirement, the entire compensation would have to suffer tax in that year. The plight of the retirees was indeed sorrowful.

Strange interpretation

As the proverbial last straw, the department started interpreting Section 10 (10C) in a strange fashion. By a phrase in this section, the law makers wanted to restrict the exemption on the amount received to the extent of Rs.5 lakhs in a person's career and hence introduced certain words to that effect. These have been twisted out of shape and the tax relief under Section 89(1) claimed by the retirees on account of their tax burden going up because of the VRS package was also denied.

It should be noted that while the banks and the Government took enormous care to preserve their self interests, the retiree who was without a job, with returns on his meagre investments dwindling rapidly and with no social security cover, was left to fend for himself.

Neither his former employer nor the union to which he belonged nor the government which supported such grandiose schemes to keep with the times, have come to his rescue till date. All he has witnessed is strict and cynical interpretation of law and no more.

It is really surprising as to why it has not occurred to the powers that be as to how any such VRS package in any of the public sector units or in governments hereafter would ever be successful, given the experience of the retirees in the most organised sector.

But then why would anybody be worried about a commoner in this `Shining India.'

P. S. V. Chari & P. S. Narasimhan

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