“Liquated damages” paid in accordance with contractual arrangements are allowable as business expenditure:

AO disallowed claim of an expenditure by treating the same to be penal in nature. The Hon’ble ITAT observed that the assessee was engaged in the business of public work construction on contract basis. As per the contractual arrangements, if it failed to complete the work within the stipulated time, then it was liable to pay certain liquidated damages at certain specified percentage which came to be called “Time limit deduction”. This expenditure was disallowed by AO. The Hon’ble ITAT found that the said amount was not in the nature of penalty on account of disobedience or infraction of any law. Rather, it was in the nature of liquated damages. It was thus held that the said expenditure allowable as business expenditure.

[DCIT Vs. M/S. GAYATRI CONSTRUCTION CO. – ITA NO.736/Ahd/2010]