Section 37 Of Income Tax Act: Expenses Allowed & Not Allowed As Deduction

Section 37 of Income Tax Act allows deductions for calculating taxable income. It establishes which business expenses can be subtracted from gross revenue, ultimately reducing the tax burden. This section clarifies what qualifies as a deductible expense and highlights categories that are not, ensuring fair and transparent tax practices.

What Is Section 37 Of Income Tax Act?

Section 37 of Income Tax Act, of 1961 is a provision for businesses in India that allow deductions for calculating taxable income. It states that any business expense incurred solely to run the business can be deducted, with some exceptions. 

Three main categories of expenses which are not allowed under Section 37:

• Capital expenditure: Expenses that increase the long-term value of the business, like buying machinery or renovating property, are considered capital expenditures and cannot be deducted under Section 37.

• Personal expenses: Personal expenses of the business owner or operator are not deductible.

• Illegal or prohibited expenses: This includes expenses incurred for bribery, fines, or activities that violate any law.

Section 37(1) Of Income Tax Act

Section 37(1) of Income Tax Act, of 1961 disallows deductions for certain business expenditures. It clarifies that any expense incurred for an illegal or prohibited activity cannot be considered a business expense and therefore cannot be deducted from taxable income. This provision discourages illegal activities and ensures that businesses operate within the law.

Here are some points from Section 37(1):

• Disallowed Expenses: This includes bribes, penalties for violating laws, protection money, and illegal donations. Anything considered an offense or prohibited by law falls under this category.

• Focus on Legal Business Operations: By disallowing deductions for illegal activities, Section 37(1) encourages businesses to focus on legitimate ways to generate income and reduce tax liabilities.

Employer Employee Insurance Under Section 37 (1)

An employer employee insurance policy is a type of policy where an employer buys life insurance or health insurance policies for its employees. The policy is owned by the employer and the premiums are paid by the employer, providing financial protection for employees. This practice is widely adopted by employers as a means to retain current employees, attract new talent, and provide social security to their workforce.

Tax Benefits For Employer Employee Insurance 

As an employer, you will get so much tax benefits, if you buy life or health insurance plan for your employees which are mentioned below.

Tax benefits are available to employees who are covered under an Employer Employee policy:

• Employees can claim multiple benefits depending on the group term life, personal accident, or group insurance plans they are covered under.

• Their families can be financially secured at no cost.

• Income tax benefits can be availed under Section 80C of the Income Tax Act, 1961.

• Family members will receive financial protection in the event of the employee's death.

• The maturity proceeds from a group term life policy are tax-free under Section 10D of the Income Tax Act, 1961.

Tax advantages for employers who offer an Employer Employee scheme:

• Under Section 37(1) of the Income Tax Act, 1961, companies can receive tax exemptions for the premiums paid towards an Employer Employee plan.

• Employers can deduct the premiums as business expenses, leading to financial benefits.

• Corporate-sponsored employee insurance can help reduce attrition rates in the long term.

• Employees will stay for a long term and feel secure in the organization, leading to increased loyalty.

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Conditions For Allowance Under Section 37

There are some conditions for claiming an allowance under Section 37 of Income Tax Act of 1961 such as exclusively for business purposes, not capital expenditure, etc.

• Exclusively for Business: The expenditure must be incurred solely to carry on the business. Expenses with mixed personal and business purposes generally can only be claimed partially. 

• Not Covered by Other Sections (30-36): The expense shouldn't be covered under specific deduction sections (30 to 36) of the Income Tax Act such as depreciation, bad debts, and donations, with their eligibility criteria.

• Not Capital Expenditure: The expense shouldn't be for acquiring assets that increase the long-term value of the business. Examples include buying machinery or renovating property. These are considered capital expenditures and are handled differently for tax purposes.

• Reasonable and Not Excessive: The expense should be reasonable for the nature and scale of the business. Excessive expenses might be disallowed by the tax authorities.

• Incurred in the Previous Year: The expense must be incurred during the financial year for which the income tax return is being filed.

• Not Illegal or Prohibited: As mentioned earlier (Section 37(1)), expenses incurred for illegal activities or activities prohibited by law cannot be deducted.

Expenses Allowed as Deduction Under Section 37(1) From Business Income

Section 37(1) of Income Tax Act disallows deductions for certain expenses office rents, employee salaries, interest on business loans, etc.

• Section 37(1) (Disallows Deductions): This section focuses on expenses that cannot be deducted from business income for tax purposes. These typically include costs associated with illegal activities or those not genuinely incurred for the business. Examples include bribes, penalties, and personal expenses of the business owner.

• Section 37 (General Deductions for Business): This broader section allows deductions for various revenue expenses incurred wholly and exclusively to carry on the business. Some common examples of allowable deductions under Section 37 are rent for business premises, salaries and wages paid to employees, interest on business loans, advertising and marketing costs, legal fees for business purposes, office supplies and utilities, repairs and maintenance of business assets, travel expenses for business trips, and depreciation (as per specific provisions).

Expenses Disallowed As Deduction Under Section 37(1) From Business Income

Section 37(1) of the Income Tax Act, of 1961 disallows deductions for certain business expenses such as bribes, penalties for violating laws, illegal donations, etc.

• Illegal or Prohibited Activities: Expenses incurred for activities that violate any law or are considered offenses cannot be deducted. This includes bribes, penalties for violating laws, protection money, and illegal donations.

• Capital Expenditure: Expenses for acquiring assets that increase the long-term value of the business are not deductible under Section 37(1). These are considered capital expenditures and are handled differently for tax purposes. Examples include buying machinery, building a new office, or major renovations.

• Personal Expenses: Any expenses incurred for personal purposes of the business owner or operator cannot be deducted. This includes personal travel, clothing, entertainment, or utility bills for a home office that is not separated from personal living space.

• Expenses Not Wholly and Exclusively for Business: Expenses with mixed personal and business purposes generally cannot be claimed entirely under Section 37(1). There might be methods for apportioning mixed expenses, but consult a tax advisor for such cases.

• Expenses Incurred in Previous Year: The expense must be incurred during the financial year for which the income tax return is being filed.

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Conclusion

In conclusion, Section 37 of Income Tax Act allows deductions for expenditures that are revenue in nature and incurred wholly and exclusively for the business or profession. Expenses covered include those for preserving assets, legal fees, royalties, and consultancy fees. However, deductions are not allowed for capital expenditures, personal expenses, or expenditures for unlawful purposes or prohibited by law. You can contact “Our Experts” to buy the best group health insurance plans.