Income Tax Act, 1961 – Sections 10(37), 45(5), 56(2)(viii), 2(28A) – Land Acquisition Act, 1894 – Sections 28, 34 – Interest on Delayed Compensation for Compulsory Acquisition of Agricultural Land – Classification and Exemption.
Held: Interest received under Sections 28 or 34 of the Land Acquisition Act, 1894, for delayed payment of compensation or enhanced compensation on compulsory acquisition of agricultural land constitutes an accretion to the principal compensation and is classifiable as “Capital Gains” under the Income Tax Act, 1961. Such interest is exempt from tax under Section 10(37) if the land meets the criteria for agricultural land, as it does not fall within the definition of “interest” under Section 2(28A). Section 56(2)(viii), taxing interest on compensation as “Income from Other Sources,” is inapplicable, as the interest is integral to the compensation, fulfilling the constitutional mandate under Article 300A for fair and timely compensation. Appeals allowed, reversing the Income Tax Appellate Tribunal’s orders.
Key Words: Capital Gains, Section 10(37) Exemption, Interest on Compensation, Compulsory Acquisition, Agricultural Land, Article 300A.
Court: High Court of Kerala at Ernakulam
Judges: Dr. Justice A.K. Jayasankaran Nambiar & Justice Easwaran S.
Case Numbers: I.T.A. No. 32 of 2023 & I.T.A. No. 60 of 2024
Date of Judgment: April 11, 2025
Citations: 2025 KER 31055
- Appellants/Assessees: Shri. Anvar Ali Poolakkodan (I.T.A. No. 32/2023) & Abdul Azeez Poolakkodan (I.T.A. No. 60/2024)
- Respondent/Revenue: The Income Tax Officer, Ward-1, Tirur
Counsel: - For Appellants: Sri. Anil D. Nair (Senior Advocate), Sri. Aaditya Nair, Smt. Telma Raju, Sri. Aditya Unnikrishnan, Smt. Binisha Baby, Smt. Saritha K.S.
- For Respondent: Sri. P.G. Jayashankar (Standing Counsel), Sri. Keerthivas Giri
Facts
The appellants, Anvar Ali Poolakkodan and Abdul Azeez Poolakkodan, owned agricultural land that was compulsorily acquired by the State under the Land Acquisition Act, 1894 (LAA). They received compensation from the Land Acquisition Officer (LAO) and sought enhanced compensation through the Reference Court, which awarded additional compensation along with interest under Section 28 of the LAA for delayed payment. The assessees classified the enhanced compensation and interest as “Capital Gains” under the Income Tax Act, 1961 (I.T. Act), claiming exemption under Section 10(37) for agricultural land.
The Income Tax Appellate Tribunal (ITAT) took differing approaches:
- In I.T.A. No. 32/2023, the ITAT remanded the issue, ruling that interest at 9% p.a. qualified for exemption under Section 10(37) as “Capital Gains,” but interest at 15% p.a. was taxable as “Income from Other Sources” under Section 56(2)(viii).
- In I.T.A. No. 60/2024, the ITAT dismissed the assessee’s appeal, holding that all interest on enhanced compensation post the 2010 amendment to Section 56(2) was taxable as “Income from Other Sources,” denying the Section 10(37) exemption.
The assessees appealed to the High Court, raising questions about the classification of interest and eligibility for exemption under Section 10(37).
Issues
- Should the entire enhanced compensation, including interest at 9% and 15% under Section 28 of the LAA, be exempt under Section 10(37) as “Capital Gains”?
- Was the ITAT correct in classifying interest on delayed compensation as “Income from Other Sources” under Section 56(2)(viii)?
- Should the rectification application under Section 154 in I.T.A. No. 60/2024 have been allowed, given judicial precedents supporting the assessees’ claim?
Holding
The High Court allowed both appeals, ruling in favor of the assessees:
- Interest received under Sections 28 or 34 of the LAA on delayed payment of compensation for compulsory acquisition of agricultural land is an accretion to the principal compensation and must be classified as “Capital Gains” under the I.T. Act.
- Such interest is eligible for exemption under Section 10(37) if the acquired land is agricultural.
- The interest does not fall under the definition of “interest” in Section 2(28A) of the I.T. Act, rendering Section 56(2)(viii) inapplicable in this context.
Reasoning
- Nature of Interest under LAA:
- The Court held that interest under Sections 28 and 34 of the LAA compensates the assessee for the loss of use of the principal compensation amount from the date of dispossession. It is not akin to interest on a debt or borrowed money as defined under Section 2(28A) but is an integral part of the compensation itself.
- This view aligns with the constitutional obligation under Article 300A to provide fair compensation for property acquired by the State, reinforced by recent judicial pronouncements recognizing property rights as human rights (e.g., Dharnidhar Mishra v. State of Bihar, 2024; Kolkata Municipal Corporation v. Bimal Kumar Shah, 2024).
- Classification as Capital Gains:
- Sections 45(5) and 10(37) of the I.T. Act treat compensation and enhanced compensation for compulsory acquisition as “Capital Gains.” The Court extended this classification to interest, noting its role as an accretion to the compensation.
- The exemption under Section 10(37) applies to income from the transfer of agricultural land via compulsory acquisition, provided conditions like prior agricultural use are met. Since the interest is part of the compensation, it qualifies for this exemption.
- Inapplicability of Section 56(2)(viii):
- Section 56(2)(viii) taxes interest on compensation or enhanced compensation as “Income from Other Sources.” However, the Court clarified that this provision applies only when the interest is distinct from the principal compensation, which is not the case for interest under the LAA.
- The Court distinguished conflicting precedents (e.g., Ghanshyam (HUF), 2009) and relied on decisions like Sundar v. Union of India (2001), which treat such interest as compensatory in nature.
- Constitutional Context:
- The Court emphasized that Article 300A imposes a duty on the State to compensate citizens fully and promptly for acquired property. Interest for delayed payment ensures this obligation is met, aligning with procedural and substantive due process principles.
Disposition
- The appeals were allowed, and the ITAT’s orders were set aside.
- The questions of law were answered in favor of the assessees:
- The entire enhanced compensation, including interest at 9% and 15%, is exempt under Section 10(37).
- The ITAT erred in classifying interest as “Income from Other Sources.”
- The rectification application in I.T.A. No. 60/2024 should have been considered in light of precedents supporting the assessees’ position.
Key Precedents Cited
- Sundar v. Union of India, (2001) 7 SCC 211
- Dharnidhar Mishra v. State of Bihar, (2024) 10 SCC 605
- Kolkata Municipal Corporation v. Bimal Kumar Shah, (2024) 10 SCC 533
- Dr. Sham Lal Narula v. CIT, (1964) 53 ITR 151
- Ghanshyam (HUF), (2009) 8 SCC 412
Significance
This judgment clarifies the tax treatment of interest on delayed compensation for compulsory land acquisition, reinforcing that such interest is part of the compensation and exempt under Section 10(37) for agricultural land. It aligns tax law with constitutional protections under Article 300A, ensuring fair treatment of property owners. The ruling may influence future assessments involving similar interest payments.