1. The assessee is a private limited company. The calendar year ending 31-12-1972 is the accounting year relevant to the assessment year 1973-74 in respect of this appeal filed before us. In making the assessment of the assessee-company under Section, 143(3), read with Section 144B of the Income-tax Act, 1961 ('the Act'), the ITO added a sum of Rs. 29,865 by observing as under : ADD : Gratuity provision claimed in adjustment is Rs. 29,865. As no approved fund is created the claim is disallowed : Rs. 29,865.
The claim of gratuity for Rs. 29,865 in the adjustment statement, was made on the basis of the mercantile basis of accounting followed by the company. As per the decision of the Supreme Court in Kedarnath Jute Manufacturing Co. Ltd. v. CIT  82 ITR 363 (SC), the above claim has to be taken into account for arriving at the income. In this connection, the appellant begs to rely on the decision of the Income-tax Appellate Tribunal, Calcutta Bench 'C in the case of Doolahat Tea Co. Ltd. v. ITO 'J' Ward, Com. Dist. II, Calcutta [IT Appeal No. 4259 Cal. of 1974-75 dated 10 11-1975] wherein it is held that even for the assessment year 1973-74 it is not necessary that a gratuity fund has to be created for claiming gratuity.
The AAC rejected the assessee's contention by observing as under in paragraph 3 of his order : The next contention is against the disallowance of provision for gratuity amounting to Rs. 29,865. As no fund has been created the provision for gratuity cannot be allowed as a deduction. The contention is rejected.
It is against this order of the AAC that the assessee has filed the present cross objection before us.
3. The learned counsel, Shri V.C. Mahalingam, submitted that the Payment of Gratuity Act came into force from 16-9-1972 and as the assessee's accounting year relevant for the assessment year 1973-74 ended 31-12-1972 the assessee had to take into account the gratuity liability for ascertaining the1 profit for the year ended 31-12-1972, especially when the system of accounting followed by the assessee was on mercantile basis, that before the ITO the assessee claimed that the sum of Rs. 29,865 was the amount determined as payable to the employees by way of gratuity, that even if a provision for such gratuity was not made in the accounts, the sum has to be deducted in ascertaining the assessee's income on mercantile basis and that the said claim is supported by the decision of the Supreme Court in Kedarnath Jute Manufacturing Co. Ltd. v. CIT  82 ITR 363, the decision of the Supreme Court in the case of Metal Box Co. of India Ltd. v. Their Workmen  73 ITR 53 and that of the Kerala High Court in CIT v.High Land Produce Co. Ltd.  102 ITR 803. The learned counsel also referred to the order of the Appellate Tribunal, Cakutta, C-Bench comprising Shri D.H. Datta and Ch. S. Rama Rao in the case of Doolahat Tea Co. Ltd. v. ITO [IT Appeal No. 4259 (Cal.) of 1974-75, decided on 10-11-1975] in which fhe similar contention raised on behalf of the asses-see was accepted by the Appellate Tribunal. The learned counsel strenuously urged that Section 40A(7) of the Act would apply only to cases where a provision is made in the accounts for payment of gratuity and that a claim made by the assessee before the ITO would not amount to a provision. He submitted that in this case the assessee did not make a provision for gratuity in the accounts. But all the same the assessee is bound to discharge the statutory liability in respect of gratuity. He urged that the assessee is entitled to deduct such a liability in computing its income. On behalf of the revenue, reliance was placed on the orders of the authorities below. The learned departmental representative, Shri G.V. Jhabakh, pointed out that though the assessee has maintained accounts on mercantile basis and though the assessee did not make a provision for payment of gratuity in its account, it must be deemed that the assessee has made a provision while making a claim for deduction for such liability before the ITO.Reference was invited to the ruling of the Allahabad High Court in the case of Swadeshi Cotton Mills Co. Ltd. v. ITO  112 ITR 1038.
4. Before setting out our views, it is necessary to reproduce Section 40A(7) which runs as under : (a) Subject to the provisions of Clause (b), no deduction shall be allowed in respect of any provision (whether called as such or by any other name) made by the assessee for the payment of gratuity to his employees on their retirement or on termination of their employment for any reason ; (i) any provision made by the assessee for the purpose of payment of a sum by way of any contribution towards an approved gratuity fund, or for the purpose of payment of any gratuity, that has become payable during the previous year ; (ii) any provision made by the assessee for the previous year relevant to any assessment year commencing on or after the 1st day of April, 1973, but before the 1st day of April, 1976, to the extent the amount of such provision does not exceed the admissible amount, if the following conditions are fulfilled, namely :- (1) the provision is made in accordance with an actuarial valuation of the ascertainable liability of the assessee for payment of gratuity to his employees on their retirement or on termination of their employment for any reason ; (2) the assessee creates an approved gratuity fund for the exclusive benefit of his employees under an irrevocable trust, the application for the approval of the fund having been made before the 1st day of January, 1976 ; and (3) a sum equal to at least fifty per cent of the admissible amount, or where any amount has been utilised out of such provision for the purpose of payment of any gratuity before the creation of the approved gratuity fund, a sum equal to at least fifty per cent of the admissible amount as reduced by the amount so utilised, is paid by the assessee by way of contribution to the approved gratuity fund before the 1st day of April, 1976 and the balance of the admissible amount or, as the case may be, the balance of the admissible amount as reduced by the amount so utilised, is paid by the assessee by way of such contribution before the 1st day of April, 1977.
Explanation 1 : For the purpose of Sub-clause (ii) of Clause (b) of this Sub-section 'admissible amount' means the amount of the provision made by the assessee for the payment of gratuity to his employees on their retirement or on termination of their employment for any reason, to the extent such amount does not exceed an amount calculated at the rate of eight and one-third per cent of the salary [as defined in Clause (h) of Rule 2 of Part A of the Fourth Schedule] of each employee entitled to the payment of such gratuity for each year of his service in respect of which such provision is made.
Explanation 2 : For the removal of doubts, it is hereby declared that where any provision made by the assessee for the payment of gratuity to his employees on their retirement or on termination of their employment for any reason has been allowed as a deduction in computing the income of the assessee for any assessment year, any sum paid out of such provision by way of contribution towards an approved gratuity fund or by way of gratuity to any employee shall not be allowed as a deduction in computing the income of the assessee of the previous year in which the sum is so paid.
5. The question for consideration is whether Section 40A(7)(a) would not meet an assessee when he claims a deduction of a sum due for making gratuity payment to its employees. A plain reading of the above section shows that the terms of the section would apply in respect of any provision by whatever name called, made by the assessee for payment of gratuity. The assessee in this case has admittedly not made any provisions in its accounts for payment of gratuity. Even though the assessee has not made any provisions for payment of gratuity, it is well settled that the assessee which is following the mercantile system of accounting is entitled to claim deduction for a liability created by the statute, namely, the Payment of Gratuity Act. The Supreme Court in the case of Kedarnath Jute Mfg. Co. Ltd. (supra) held that even in a case where the assessee did not make any provision for payment of sales tax determined to be payable by the sales tax, authorities and even though the assessee was contesting its liability to pay such sales tax, still, since the assessee followed the mercantile system of accounting, it was entitled to deduct from the profits and gains of its business the liability of sales tax. The Supreme Court pointed out that the question whether an assessee is entitled to a particular deduction or not will depend upon the provision of law relating thereto and not on the view that the assessee might take of its right and that the existence or absence of entries in his books of account would not be decisive or conclusive on the matter. On the basis of the above ruling, it is clear that the assessee is'entitled to claim deduction for payment of gratuity even though no provision was made by the assessee for such payments in its accounts.
6. As it has become necessary for us to make a minimum reference here to set out the fundamental and basic ingredients that go to determine the income from profits and gains of the business, we will confine only to those relating to deductions. Deductions take shape by way of expenditure, losses and statutory allowances. The last category, i.e., statutory allowances, are granted by statutes and stand apart and may be described as flowing extraneous and they do not emerge from out of the assessee's incurring expenditure or losses whereas deduction must be incurred or incurable by the assessee and similarly losses must also spring out of the transaction of the assessee. Both the expenditure and losses, therefore, would necessarily become deductible in determining the income or losses. It is not disputed that these may or may not find place in the books of accounts but certainly will be eligible for deductions, as otherwise the real income cannot be reflected.
Ultimately, the income or loss that emerges for income-tax purpose will be representing not only one finding place in the profit and loss account but also one as finally computed. We would say that a separate computation thus arises to give effect to Sections 30 to 43A. It is obvious that, however, it is the expenditure or loss or allowance that can be deducted against the business income and not the liability. In the normal parlance liability is the result of incurring of an expenditure for which payment is not made. In other words, the liability represents an item due from the assessee. Therefore, to say that liability is deducted does not mean that the liability itself is allowed to be deducted but, in our opinion, the expenditure which results in a liability is the one that comes for deduction. In claiming an expenditure giving rise to a liability for the process of deduction, only reflects a provision made out of the income even though the assessee may not name it as a provision. Therefore, provision is the wider term to meet an expenditure giving birth to a liability. The provision has to ultimately find a place in the computation of the net income if not already forming part of its profit and loss account. When Section 40A(7) was introduced by the Finance Act, 1975, the Finance Minister had referred in this connection that : ...A doubt has been expressed that, under the relevant provisions, as presently worded, provisions made in the books of account by taxpayers would also qualify for deduction. This is clearly not the intention since the employer continues to have control over these funds. I propose to provide specifically that no deduction for tax purposes will be allowed in respect of such provisions made to provide for future gratuities.  98 ITR (St.) 116 Actually, when the expression 'provision' has been introduced, there was no reference to the 'book of account' as the present provision only refers to the 'provision made' in whetever name it is called. Further the main idea is to see that the employer does not have control over the funds. We have already set out earlier as to the scope of the provision made. We have stated therein that a deduction for expenditure where it has resulted in a liability is nothing but a provision made for that liability though actually the word 'provision' may not be used.
7. According to Chamber's dictionary 'provision' means act of providing, that which is provided or prepared, measures taken beforehand. In normal parlance, it denotes itself as something provided for. It is not uncommon that one usually asks another person whether he has made any provision for his daughter's marriage or for the son's education, etc. Therefore, the provision made does not refer to the provision made in the books of accounts. Normally, meaning of 'provision made' would cover for all the liabilities which remain undischarged at the close of the previous year. Even the expression 'accounts' is wider than the expression 'books of accounts'. Even the Directors' Report accompanying the balance sheet of a company incorporated under the Companies Act, 1956, could be considered as part of the accounts though they may not. be forming part of the books of accounts. Likewise, whatever statements that may accompany the return would also form part of accounts and the claim made for statutory liability in the return of income is also a provision. What we desire to stress here is that it is not correct to state that it is the liability that gets a deduction ; in our opinion, it is the expenditure which creates a liability, that gets deducted.
8. From the above discussions, we are of the opinion that there is no lacuna in the provision as appeared to be in the minds of the Members as noticed in the order of the Tribunal in IT Appeal No. 4259 (Cal.) of 1974-75 (supra). Finally, we are of the view that Section 40A(7) would be applicable to this case and since the assessee had not complied with the provision, the deduction claimed cannot be allowed.