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The Delhi High Court in (2023] 451 ITR 389 (Del) in a private company case held that there is no bar on payment of bonus to a director and that the issue whether bonus is to be granted or not is essentially a question of fact and unless the AO hold a view that the grant of bonus to the directors would either endanger the existence of the corporate entity or is prohibited under the Payment of Bonus Act, 1965 or is not proportionate to the services rendered by the director there can be no disallowance possible. 


In this case the AO merely alleged huge payment of bonus to directors during the year and therefore attempted addition u/s 40A(2)/36 (1) ( ii ) drawing reference to addition in earlier year without any much investigation. 


Importantly it is now a settled law that unless the AO carry out any deep drawn investigation on the following four parameters as suggested by Kania J., in his concurring order in Loyal Motor Service Co. Ltd. v. CIT [1946] 14 ITR 647 (Bom) there should be no disallowance possible under either of the two sections : 


A. That the directors are employees, in the first instance. 

B. That the bonus paid is a reasonable amount having regard to the pay of the employee and the conditions of his service. 

C. That the profits of the business for the year in question made it reasonable to pay the amount granted as allowance 

D. That the general practice in similar business or trade justified the payment of the amount as bonus. 


At the same time the Court insisted on consistency over the principles of res judicata and estoppel in this case facts nd history.


AO failure to investigate facts therefore lends a win to the assessee in this case. 


Thus the company must take account the four parameters with answers should a investigation follow. At the same time it is also expected of the tax auditor to follow the settled law and question his client to gain his satisfaction on the given four safeguards for his reporting disclosures. 

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