Facts of the Case

  • The assessee owned an immovable property in Adhchini, New Delhi.
  • Initially entered into an agreement to sell (1989) with one purchaser and received ₹7,50,000 as advance.
  • Due to non-fulfillment of conditions (including failure to deliver vacant possession), the assessee paid ₹25,00,000 as liquidated damages to cancel the agreement.
  • Subsequently, the property was sold in 1993 for ₹55,00,000.
  • The assessee claimed deduction of ₹25,00,000 under Section 48 while computing long-term capital gains.

Issues Involved

  1. Whether payment of ₹25,00,000 as liquidated damages is deductible under Section 48(i) as expenditure incurred wholly and exclusively in connection with transfer.
  2. Whether such payment can alternatively be treated as cost of improvement under Section 48(ii).
  3. Whether the payment represents a personal liability or has a direct nexus with the transfer.

Petitioner’s Arguments (Assessee)

  • The payment was necessary to remove a legal impediment arising from the earlier agreement.
  • Without settling the prior agreement, transfer of property would not have been possible.
  • Therefore, the payment has a direct nexus with transfer and qualifies under Section 48(i).
  • Alternatively, it should be treated as cost of improvement.

Respondent’s Arguments (Revenue)

  • The payment was a personal liability, not linked to transfer of the capital asset.
  • It was neither:
    • Cost of acquisition, nor
    • Cost of improvement.
  • The subsequent sale agreement did not mention such liability, indicating lack of connection with transfer.
  • Hence, deduction under Section 48 is not permissible.

Court’s Findings / Order

  • The Court emphasized that:
    • The expression “in connection with transfer” under Section 48(i) requires a direct and proximate nexus, not a remote connection.
  • The payment of ₹25,00,000:
    • Arose from breach of earlier agreement.
    • Was not an encumbrance attached to the property.
    • Was not necessary for effecting the transfer to the subsequent purchaser.
  • Distinguished cases where payments were allowed (e.g., removal of encumbrances or tenants).
  • Held that:
    • The liability was personal in nature, not connected to transfer.
    • Therefore, not deductible under Section 48(i).
    • Also not allowable as cost of improvement.

 Final Decision:
The appeal of the assessee was dismissed on this issue; deduction of ₹25,00,000 was not allowed.

Important Clarification by Court

  • For deduction under Section 48(i):
    • There must be a real, direct, and necessary connection with transfer.
    • Payments made to resolve personal contractual breaches do not qualify.
  • Expenditure must be:
    • Wholly and exclusively connected with transfer.
    • Not merely incidental or indirectly related.
  • The Court adopted a practical approach to determine real income, but disallowed deductions lacking nexus.

Link to download the order -https://delhihighcourt.nic.in/app/case_number_pdf/2018:DHC:2607-DB/SKN20042018ITA6002004.pdf

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