Godhra Electric Company v. Commissioner of Income Tax
Only real income can be taxed — not hypothetical or unrealised sums.
Quick Summary
In Godhra Electric Company v. Commissioner of Income Tax, the Supreme Court clarified a simple idea: tax follows real income. If money is only on paper, or tied up in litigation so that it is not realistically recoverable, it is not taxable yet.
- Core rule: no tax on hypothetical or fictional accruals.
- Sections 4 and 145 of the Income Tax Act guide what is “real” accrual.
- Follows earlier approach in Morvi Industries Ltd. v. CIT.
Issues
Whether the tax department can levy income tax on hypothetical income or income that the assessee has not realistically received because recovery was blocked by ongoing litigation.
Rules
Section 4 — Charge of Income Tax
Tax is charged on total income of the taxpayer, according to law. The focus is on what truly accrues or arises, not on theoretical amounts.
Section 145 — Method of Accounting
Income is computed according to the taxpayer’s method of accounting, but even then, only real income can be brought to tax.
Facts — Timeline
Arguments
Appellant (Assessee)
- No real income accrued; recovery was uncertain due to litigation.
- Tax cannot be charged on a mere claim or paper profit.
- Sections 4 and 145 support tax on real, practical accruals only.
Respondent (Revenue)
- Right to charge at enhanced rates existed; hence, income accrued.
- Accounting entries should reflect the enhanced amounts as income.
Judgment
The Supreme Court sided with the assessee. It reaffirmed that taxation is on real income, not on figures that are hypothetical or unrealised. Where recovery is blocked and the likelihood of receipt is uncertain, there is no taxable accrual.
Morvi Industries Ltd. v. CIT was followed to emphasise that fictional accruals cannot be taxed.
Ratio Decidendi
Income is said to accrue only when there is a reasonable and practical chance of receiving it. If the right is under a serious cloud or recovery is not realistic, accrual is merely notional and cannot be taxed.
- Real income doctrine prevails over mere book entries.
- Accrual must be judged in a realistic manner, considering litigation and practical recoverability.
Why It Matters
This case shields taxpayers from being taxed on sums they cannot actually get. It keeps tax law grounded in economic reality and ensures fairness where rights are unsettled or stuck in court.
Key Takeaways
- Only real income is taxable; hypothetical amounts are out.
- Sections 4 and 145 are read with a reality check—practical likelihood of receipt matters.
- Unrecovered, litigation-bound claims are not income until they become real.
Mnemonic + 3-Step Hook
Mnemonic: “Real, Not Reel” — If the income is only on the reel (screen/paper), it is not real for tax.
- Check Accrual: Is there a solid right + realistic receipt?
- Check Litigation: If blocked by court dispute, treat as not yet real.
- Tax Outcome: Tax only when it becomes real and recoverable.
IRAC Outline
| Issue | Can tax be levied on hypothetical income or income not realistically received? |
|---|---|
| Rule | Sections 4 and 145 of the Income Tax Act, read with the Real Income Doctrine. |
| Application | Enhanced charges were disputed in court; recovery was uncertain; hence, the amounts were not real income. |
| Conclusion | No tax until income becomes real and recoverable. |
Glossary
- Real Income
- Income that has truly accrued or arisen with a practical chance of receipt.
- Hypothetical Income
- A notional figure or claim that is not yet actually realisable.
- Accrual
- When a right to receive income becomes real and enforceable in practice.
FAQs
Popular & Recent Post
Comment
Nothing for now