EASTERN INVESTMENTS LTD. versus COMMISSIONER OF INCOME-TAX, WEST BENGAL

19SI

Kumar Pa1hupatinath Malia and Another v. Deba ProJanna Mukherjee

Patanfali Sastri J.

594

SUPREME COURT REPORTS

[1951]

of the mortgagee must, in that context, be understood with reference to the sufficiency of the right assigned to enable the sub-mortgagee to sue the original mort· gagor in his own right, so a~ to bring the relevant provisions of the Act into play as between them. The reservation made by their Lordships in the case of a sub-mortgage containing only a charge on the original mortgage is signification and supports this view. I do not consider, inconsistency between Promode Kumar Roy v. Nikhil Bhusan Mukhopadhya(') and the earlier decisions, and even if inconsistency it has no relevance to there be any such the present case.

that there is any

therefore,

In the result I agree that the appeal fails and should

be dismissed with costs.

Appeal dismissed.

Agent for the appellants : R. R. Biswas.

Agent for the respondent : Sukumar Ghose.

'

EASTERN INVESTMENTS LTD. v. COMMISSIONER OF INCOME-TAX,

WEST BENGAL. [SHRI HARILAL KANIA c. J., PATANJALI SASTRI, S. R. DAs and VIVIAN BosE JJ.]

Indian

Income-tax Act (XI ·of 1922),

s. 12(2)-Business expenditure-Interest on debentures-Reducing capital of company hy taking over shares and giving debentures to shareholder-Income of company reJucd-lnterest on Jebentures,.whether allowable.

)acs of

A private limited company formed for dealing in shares and rupees of which securities had a share capital of 250 shares of the face value of 50 lacs were held by A and the remaining shares were held by his nominee's. As the company was in need of money it was resolved, with the consent of A, to reduce the share capital by 50 lacs by the· oompany taking over the 50 lacs shares which were held by A and giving to A instead debentures of the face value of Rs. 50 lacs carrying interest at 5 per. cent. per annum. The Income-tax Appellate Tribunal and

(I) 76 I. A. 74.

S.C.R.

SUPREME COURT REPORTS

595

the High Court held that the interest on the debentures could not be allowed as business expenditure under s. 12(2) of the Income-tax Act, the main grounds on which this conclusion was arrived at. being (i) the pµrpose of the transaction was to effect. income of the company was (ii) the conversion, the it was reduced, (iii) the same person who brought about the transaction, to whom .the share money was paid and who took the debentures, (iv) · the transaction was more in the interest the capital of the company of that person than the company, ( v) could have been reduced in other ways :

taxable

19SI

Eastern lnveJtment Ltd; v. Commissioner of Income-tax, We.rt Bengaf.

to facilitate

Held by the Full Court

(KANIA C, /. PATANJALI SAsTR1, DAs and BosE, JJ.) that the test for deciding whether the expenditure was allowable under s. 12(2) was whether the transaction was properly entered into as part of the company's ordinary under takings :he the carrying on of the High purpose of earning income, and in. the absence of fraud Court was not that the the conclusion to the debentures was not allowable on the considera interest on tions mentioned above. it was clear that the in order to facilitate the carrying transaction was entered on of the business of the company and that it was made on the ground of the debentures was accordingly allowable under s. 12(2). Farmer v. Scottish North American Trust Ltd. [1912) A. C. 118 referred to.

commercial expediency.

its business for

interest on

in . coming

the facts

justified

The

into

On

CIVIL

APPELLATE

JuiusI>IcTION.

Civil Appeal No. 89 of 1950. Appeal against the . Judgment and Order dated 5th . July, 1949, of the High Court of Judicature at Calcutta (G. N. Das and Mukherjee JJ.) in Ip.come-tax Reference No. 11 of 1948.

S. Mitra

(S. N. Mukherjee, with him) for

the

appellant.

M. C. Setalvad, Attorney-General for

India (S. M.

Sikri, with him) for the respondent.

1951. May 4. The Judgment. of the Court was deli

vered by

BosE J.-This is an assessee's appeal from a judg ment of the High Court at Calcutta . delivered on a reference made to it under section 66( 1) of the Income tax Act.

Bose J.

The question submitted for the High Court's opinion

was as follows :- ,_10 S.C.India/67.

1951

EaJtern lnveJtmenta Ltd. v. CommisJioner of lncome·tax, West Bengal.

Bose J.

596

SUPREME COURT REPORTS

[1951]

"Whether in

the circumstances of

the interest paid by the assessee on debentures was incur red solely for the purpose of making or earning such income, profits or gains which are assessable under sub.section ( 1) of section 12."

this case,

the Eastern

The assessce is a private limited company which was It is an invest incorporated on 3rd January, 1927. ment Investments company known as Limited. The objects set out in the memorandum of association are to buy, sell and otherwise deal with shares, securities, bonds and so forth generally. The company was originally formed for acquiring, holding and otherwise .dealing with shares and Government securities which had previously belonged to one Lord Cable. The share capital of the company at the elate of its incorporation was 250 lacs and consisted partly of preference shares and partly of ordinary shares. Of these Lord Cable held the 50,000 ordinary shares of the face value of Rs. 50,00,000 with which we are here concerned. The rest of the share capital was held by the nominees of the late Lord Cable.

the majority

including

Lord Cable died on the 28th of March, 1937, leaving an estate in Great Britain as well as in India. One Geoffrey Lacy Scott was appointed administrator of these 50,000 shares in his estate question in that capacity.

in India and held

According to the statement of the case drawn up by the Income-tax Appellate Tribunal in its reference to the High Coun, "money was needed by the executors of Lord Cable", and accordingly the administrator of the estate the company on 9th February, 1937, the terms of which were as follows :-

in India reached an agreement with

The company agreed to reduce its share capital by Rs. 50 lacs and to do it by taking over from Scott the 50,000 shares mentioned above which. stood in Lord Cable's name at the rate of Rs. 100 a share. Scott on forego cash payment and agreed his part agreed instead face value of the

receive debentures of

to

to

1951

Eatern Investments Ltd. v. Commissioner of income-ta;)(!, We8t Bengal.

Bose J.

S.C.R.

SUPREME COURT REPORTS

597

Rs. 50 lacs carrying interest at 5 per cent. per annum "redeemable at the option of the registered holder at any time". The sanction of the Calcutta _ High Court . was obtained in due course and earned out by the parties.

the agreement was

The 5 per cent. interest paid to Scott on these deben tures forms the subject-matter of the question before the Court. The company claims to deduct this from its income as part of its working expenses .under section 12(2) of the Income-tax Act, that is to say, to use the words of the section, as

"expenditure (not being in

the nature of capital expenditure) incurred solely for the purpose ·of making or earning such income, profits or gains."

This contention failed before the Income-tax Appel It was the High Court. late Tribunal and also before agreed all through that the expenditure was not in the nature of capital expenditure, but the view of the Income-tax Commissioner is that (a) it is not expendi ture incurred for the purpose of earning the income, profits and gains of the company and (b) that even if it is, it is at any rate not expenditure incurred solely for that purpose. In general, the Income-tax Appellate Tribunal and the High Court both took that view.

The grounds on which these conclusions were based

may be summarised as follows :

( 1) the purpose of the agreement was to effect the conversion without in any way disturbing the holding of the investments of the company or interfering with the earning of its income ;

(2) by

this

transaction

the

taxable of

the

company was diminished ;

(3) There was complete

identity of the person

who-

(a) - brought about

this

transaction without dis

turbing the affairs of the company,

(b) to whom the share money was repaid, and ( c) who took up the debentures ;

1951

Ea!.lern Investment.t Ltd. v. Commi.tsioner of inco1ne-tax, W e!.t Bengal·

Bose J.

598

SUPREME COURT REPORTS

[1951]

and (4) that the of the shareholder Scott than that of the company.

transaction was more in the interest

The decision of this appeal rests on the true con law on struction of section 12(2). this point has been correctly summarised in the judg ment of the High Court. The following principles are relevant:

In our opinion, the

(a) though the question must be decided on the facts of each case, the final conclusion is one of law : Indian Radio & Cable Communications Ltd. v. The Commissioner of Income-tar, Bombay(') and Thta Hydro-Electric Agencies Ltd. v. The Commissioner of Income-tar, Bombay(2) ;

(b) it is not necessary to show that the expenditure was a profitable one or that in fact any profit was earned : Moore v. Stewart & Lloyds(') and· Usher's case(')2;

that

( c) it is enough to show

the money was ex pended "not of necessity and with a view to a direct and immediate benefit to the trade, but voluntarily and on the ground of commercial expediency, and in order indirectly to facilitate the carrying on of the busin.ess" : British Insulated & Helsby Cables Ltd. v. Atherton(") ; and

( d) beyond · that no hard and fast

rule

laid down to explain what "solely".

is meant by

can be the word

A case somewhat similar to the present is Parmer v. Scottish North American Trust Ltd. ( 0 ) where it was held that interest paid on an overdraft required for p11rchasing shares (the shares purchased being retained as security for the overdraft) was an outgoing which could be deducted from the receipts the by taxable profits them. the present case falls within these principles.

to ascertain and gains which were earned

In our opinion,

(1) 1937 I.T.R. 270 P.C. (3) 6 Tax caSes SOI (5) 1926 A.C. 205 at 221 and 235

(2) 1937 1.T.R. 202 P.C'. (4) 1915 A.C. 433 (6) 1912 A.C.118

S.C.R.

SUPREME COURT REPORTS

the High Court was

One of the points which weighed with the

Income tax Appellate Tribunal· and that though the conversion did not in any way disturb the holding of the investments of the company or interfere with the earning of its income ; it had the effect of In our judgment, this diminishing its taxable income. transaction is is not a proper consideration when the In the present not challenged on the ground of. fraud. case there is not even an allegation of fraud.

1951

EaJtern Investments Ltd. v. Commi5sioner of income-I°"• West Bengal.

Bose J.

In

The next point on which some stress was placed was that there was complete identity of person between the person whose shares were sold and the person who took the debentures and that the transaction resulted .in considerable benefit to him. the absence of a suggestion fraud this is not relevant at all for giving effect to the provisions of section 12(2) of the Incoriie tax Act. Most commercial entered into for the mutual benefit of both sides, or at any rate each side hopes to gain something for 'itself. The test for present purposes is not whether the other party benefited, nor indeed whether this was a pru dent resulted in ultimate gain to the appellant, but whether it was properly entered into as a part of legitimate commercial undertaking in order indirectly to facilitate the carry ing on of its business.

transaction which

the appellant's

transactions

are

to

the

functions of an

The High Court doubted whether

transaction could be brought within the invest ment company and found it difficult reconcile it with the objects set out in the Memorandum of Asso difficulty. Clause S ciation. But we sec no such empowers a reduction of capital of the company and clause 3(3) empowers the company to borrow or raise is money by the issue of debentures. The matter clearly "writ in the bond". Morever, we do not think that this inquiry is relevant, for we are dealing with a question of income-tax and not judging the legality or propriety of transaction on an appli the cation to reduce the capital of the company. The only question is whether this was done the ordinary course of business for the purposes we have already

in

1951

Ea:1ter:1 Investment8 Ltd. v. CommiJstoner of incom~-tax, West Bengal.

Bose J.

600

SUPREME COURT REPORTS

pointed out, however mistaken the directors and holders of the company may have been.

[1951]

share

about

therefore

It seems evident

that he entered

Instead of doing

Therefore, as stated by the

Income-tax Appellate Tribunal in its statement of the case, the executors of In the next place, Lord Cable's estate needed money. . the transaction was brought "at instance of the holder of the majority of ordinary shares", and also that the shares were originally held by Lord Cable and his nominees. that Scott could have compelled the company to pay him . cash for the shares. He seems to have had the whip into an hand. arrangement which, while giving him the necessary facilities, appears the company by to have satisfied allowing it to retain its investments without a preci It docs pitate liquidation of a large portion thereof. not matter whether the company was right this in view or wrong, and in any event we arc in no position to judge of the soundness of its decision because we to be have not all the materials before us. remembered that considerations of this kind go deeper than the apparent profit or loss on an isolated trans It is not enough to say that action standing by itself. the 50,000 shares which were cancelled earned the following year only 3! per cent. 'interest as against 5 per cent. on the debentures because we do not kno'l!I" the company would to what extent the holdings of have been disturbed if this had not been done. What we do know is what the Income-tax Appellate Tribunal has stated, namely, that-

It has

in

"the change brought about had been

that the investments of the company were not disturbed and as a consequence was in no way to be affected."

the

so designed to be income accrued

This has only to be stated to show the commercial nature of the transaction from the company's point of view.

The High Court considered that the capital of the company could have been reduced in other ways. But is not point. There arc usually many that again

1951

Ea$tern lnvestm~nts Ltd1 v. CommiS$ioner of income-tax, W eJt Bengal.

BO$C J,

S.C.R.

SUPREME COURT REPORTS

601

ways in which a given thing can be brought about in business circles but it is not for the Court to decide which of them should have been employed when the Court is deciding a question under section 12(2) of the Income-tax Act.

the point The company chose

It was argued on behalf of the respondent (basing the same on paragraph 7 of the appellant's application to the High Court dated 5th April, 1947) that the company had at the time sufficient liquid resources to effect the reduction of capital desired and so it was not · necessary to resort to this process. But that again is not it this way, and as there was not even a suggestion of fraud, the only question is whether it was gone through as an ordinary commercial proposition. But we doubt if that is what paragraph 7 meant because in paragraph to the High Court dated 11th 4 of the application February, 1944, that the money the petitioner stated on hand and at short notice was only Rs. 8,94,379. That is a good deal short of 50 lacs. However, we need not enter into this in detail.

to do

On a full review of the facts it is clear

that this transaction was voluntarily entered in order indirectly to facilitate the carrying on of the business of the company and was made on the ground of com mercial the purview of section 12(2) of the Income-tax Act, 1922 before its amendment in 1939.

falls within

expediency.

therefore

into

It

This being an investment company, if it borrowed money and utilised the same for its investments on. which it earned income, the interest paid by it on the loans will clearly be a permissible deduction under section 12(2) of the Income-tax Act. Whether the loan is taken on an overdraft, or is a fixed deposit or on a debenture makes no difference in law. The only argu ment urged against allowing this deduction to be made is that the person who took the debentures was the the ordinary party who It cannot be if the debentures were held by a thinl disputed that the same would be an party, the interest payable on L/N2S.C.L.

shares.

sold

1951

Eal tern /nreltment!Ltd. v. Commissioner of income-ta;;, We.1t Bengal.

Bose J.

602

SUPREME COURT REPORTS

[1951]

allowable deduction in calculating the total income of the assessee company. What difference does it make if the holder of the debentures is a shareholder ? There appears to be none in principle in view of the fact that no suggestion of fraud is made in respect of the trans action which is carried out between the company and sanctioned bv the Administrator and which has been If the debentures had been paid for in casi1 the Court. by the same party, no objection could have been taken In to allowing principle, there appears to us no difference, if instead in the of paying in cash shape of giving over shares of the company, when the transaction is not challenged on the ground of fraud and is approved by the Court in the re-organisation of In our opinion, therefore, the capital of the company. the ground on which the Income-tax Appellate Tribunal and the High Court disallowed the assessee is not sound.

the interest amount to be deducted.

the payment of the price is

the claim of

In our opinion, the High Court has failed to appre ciate the true position and the question submitted for its opinion should be answered in the· affirmative. The therefore allowed. The respondent will pay appeal is this Court and of the the costs . of the appeal in reference in the High Court.

Agent for the appellant : P. K. Chatterjee.

Agent for respondent : P. A. Mehta.

Appeal allorued