The Fine That Refused to Become a Business Expense
An import in 1988. A customs confiscation. A fine paid to rescue the goods. And a 37-year journey to the Supreme Court that ended with one clear lesson for every business in India.
DisallowedWhat actually happened
Assessment Year 1988-89. An importer brings goods into India — but not on his own import licence. He uses the licence of another party (called “RB” in the record), who receives only service charges for lending his name to the paperwork. The real importer, the man financing and driving the transaction, is the assessee.
Customs isn’t amused. The goods are ordered to be confiscated for breach of import conditions. To get them back, the assessee pays a redemption fine — the price of rescuing confiscated goods. He pays it himself, from his own pocket.
Then comes the tax return, and with it the question at the heart of this case: can that redemption fine be claimed as a business expense? After all, without paying it, no goods; without goods, no business. Sounds commercially logical, right?
The Bombay High Court said no. And in July 2026, the Supreme Court chapter closed — with the assessee tapping out.
The High Court found ample evidence that the assessee was directly involved in the imports, that RB was a licence-lender earning service charges, and that the assessee — having paid the fine himself — could not disassociate or divest himself from the irregularities committed in the import. The fine was levied for an infraction of law. And expenditure of that character has a specific address in the Income-tax Act: the exit door.
The law, in plain English
Section 37(1) of the Income-tax Act, 1961 is the “everything else” deduction — expenses laid out wholly and exclusively for business, not covered by other sections, get deducted here. But it comes with a bouncer at the door: Explanation 1.
Explanation 1 to Section 37(1): any expenditure incurred for a purpose which is an offence or which is prohibited by law is deemed to NOT be business expenditure. No deduction. Full stop. (In the new Income-tax Act, 2025, this position lives in Section 34.)
The logic is beautifully simple: the tax system will not subsidise law-breaking. If a deduction were allowed, the exchequer would effectively bear ~25–30% of every fine — meaning honest taxpayers would part-fund the penalties of the non-compliant. Parliament said no to that.
The dividing line the courts use: is the payment compensatory (making good a loss or delay — usually deductible) or penal (punishing an infraction of law — never deductible)? Flip the cards below to lock that in.
“I’m making good a loss or a delay”
Generally deductible. The payment redresses a civil consequence — it isn’t punishment for an offence.
Examples: contractual damages for late delivery; a late fee that merely compensates for delay.
Route: Section 37(1), Income-tax Act, 1961 — outside the sweep of Explanation 1.
“I’m being punished for breaking a law”
Never deductible. A fine or penalty for infraction of law is hit squarely by Explanation 1 to Section 37(1) (Section 34 of the 2025 Act).
Examples: customs redemption fine; penalty for tax evasion; any statutory fine for an offence.
This is exactly where Sushil Gupta landed.
“What if a levy looks like both?”
The character of the levy decides — not its label. Courts look at the statute imposing it: is it redressing a wrong (compensatory) or punishing one (penal)?
Same word, different treatment: “late fee” can be compensatory; “penalty” for evasion is penal.
When in doubt, examine the parent statute — or ask your CA.
37 years, one slider
This dispute is older than most startups’ founders. Drag the slider through the journey — AY 1988-89 to the Supreme Court’s July 2026 order.
Deductible or Not? You be the Assessing Officer
Six real-world payments. Stamp your verdict, then see the law’s answer — with the exact provision cited. (Yes, we cite sections. We’re that kind of firm.)
The real cost of a disallowed fine
“It’s just a fine, we’ll absorb it” — famous last words. Because a disallowed expense is paid out of post-tax money, its true burden is heavier than the sticker price. Try it:
What does that fine actually cost you?
For the curious (and the professionals)
Full citation & what the Supreme Court actually did
Sushil Gupta v. Principal Commissioner of Income Tax-17, [2026] 188 taxmann.com 644 (SC), SLP Appeal (C) Nos. 13587 & 13588 of 2022, order dated 14.07.2026 — Bench of Surya Kant CJ, Joymalya Bagchi and V. Mohana JJ.
Important nuance: the Supreme Court did not decide the merits. The assessee applied to withdraw, and the SLPs were dismissed as withdrawn with liberty as prayed for. The assessee tapped out — which means the Bombay High Court’s ruling in Pr. CIT-17 v. Sushil Gupta [2019] 102 taxmann.com 409 / 262 Taxman 41 / 411 ITR 678 (Bombay) remains the operative word on these facts: redemption fine for irregularities in importing goods is not an allowable deduction.
Explanation 1 to Section 37(1) — the verbatim text
“For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of the business or profession and no deduction or allowance shall be made in respect of such expenditure.”
Inserted by the Finance (No. 2) Act, 1998 with retrospective effect from 1 April 1962 — Parliament’s way of saying “this was always the position.”
1961 Act → 2025 Act: where does this rule live now?
| Topic | Income-tax Act, 1961 | Income-tax Act, 2025 |
|---|---|---|
| General business expenditure deduction | Section 37(1) | Section 34 |
| Bar on expenditure for an offence / prohibited by law | Explanation 1 to Section 37(1) | Corresponding carve-out within Section 34 |
Translation: the new Act changed the address, not the answer. Fines for infraction of law stay non-deductible.
Key takeaways
Fines are not business expenses. Full stop.
- Redemption fine = not deductible. Paying to release confiscated goods is a consequence of breaking import law — Explanation 1 to Section 37(1) (Section 34, IT Act 2025) bars the deduction.
- You can’t hide behind someone else’s licence. If you drove the transaction and paid the fine, the illegality is yours — the courts look at substance, not paperwork.
- Compensatory vs penal is the test. Damages that make good a loss may be deductible; punishment for an offence never is. The character of the levy decides.
- Disallowed fines cost more than their face value. A ₹10 lakh non-deductible fine at a 30% tax rate needs ~₹14.3 lakh of pre-tax profit to pay. Compliance is cheaper.
- Litigation is a marathon. AY 1988-89 to 2026 — 37 years. Structure transactions correctly the first time.
Facing a customs, GST, or income-tax penalty and unsure of its tax treatment? Talk to V Acc-Comply.
