THE COMMISSIONER OF INCOME-TAX, BOMBAY CITY, BOMBAY versus BIPINCHANDRA MAGANLAL AND CO. LTD., BOMBAY

2 S.C.R. SUPREME COURT REPORTS

493

the High Court in the first instance, on a statement of the case by the Tribunal.

Civil Appeal No. 143 of 1958, will, therefore, be dis- Suga: ~1~~1;1

Ltd.

missed, but without any order as to costs.

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0. A. No. 144 of 1958 allowed. O. A. No. 143 of 1958 dismissed.

v. The Commissioner of Income-tax, Central, Calrntta.

H idayatullah ].

November r7 •

THE COMMISSIONER OF INCOME-TAX, BOMBAY CITY, BOMBAY . v. BIPINCHANDRA MAGANLAL AND CO. LTD., BOMBAY S. K. DAS, M. HIDAYATULI,AH and J. C. SHAH, JJ. Income-tax-Profit and assessable income-Diff crcnce between -Smallness of profit-How determined-Indian Income-tax Act, z922 (II of I9zz), ss. IO (z) (vii) second proviso, 66(I).

The respondent company purchased certain machinery for Rs. 89,000 and sold it for the same value, but in the books of account the written down value of the machinery was shown in the year of account as Rs. 73,392. The Income Tax Officer in computing the assessable income of the company added the difference, i.e. Rs. i5,608, between the actual value and the written down value to the profit of the company. The Income Tax Officer also passed an order under s. 23A of the Income Tax Act, and directed that the undistributed portion of the assess able income, shall be deemed to have been distributed amongst the shareholders as dividend. Appeals against the order of the Income-tax Officer proved unsuccessful and the Appellate Tribu nal referred the following question to the High Court under s. 66(1):-

"Whether the sum of Rs. I 5,608 should have been includ ed in the assessee company's "profit" for the purpose of deter mining whether the payment of a larger dividend than that declared by it would be unreasonable." The High Court answered the question in the negative. On appeal by special leave,

Held, that the view takrn by the High Court was correct.

494

SUPREME COURT REPORTS

[1961)

r960 -

By the fiction in s. 10{2}(vii) second proviso, read with s. 2{6C), what is really not income is, for the purpose of com- The Commissioner putation of assessable income, made taxable income: but on that of Income~tax, account, it does not become commercial profit, and if it is not commercial profit, it is not liable to be taken into account in Bombay City, assessing whether in view of the smallness of profits a larger Bombay dividend would be unreasonable. v. "Smallness of profit" should not be equated with "small- · Bipinchandra Maganlol & Co .. ness of assessable income" but should be determined in accor

Ltd., Bombay dance with commercial principles.

Sir Kasturchand Ltd. v. Commissioner of Income-tax, Bombay City, (r949) XVII I.T.R. 493, Ezra Proprietary Estates Ltd. v. Commissioner of Income-tax, West Bengal, (r950) XVIII I.T.R. 762 and Commissioner of Income-tax, Bombay City v. F. L. Smith & Co. (Bombay) Ltd., (r959) XXXV I.T.R. r83, referred to.

CIVIL APPELLATE JURISDICTION: Civil Appeal No.

761of1957.

Appeal by special leave from the judgment and order dated February 24, 1955, of the former Bom bay High Court in I.T.R. 48/X of 1954.

Hardayal Hardy and D. Gupta, for the appellant. N. A. Palkhivala and I. N. Shroff, for the respon

dent.

1960. November 17. The Judgment of the Court

was delivered by

SHAH, J.-The Income Tax Appellate Tribunal, Bombay Bench "A", referred under s. 66(1) of the Indian Income Tax Act, 1922-hereinafter referred to as the Act-the following question :

"Whether the sum of Rs. 15,608 should have been included in the assessee Company's "profit" for the purpose of determining whether the payment of a larger dividend than that declared by it would be un reasonable ?"

The High Court answered the question in the nega tive. Against the ,prder of the High ~ou:t, wit!i special leave under Art. 136 of the Constitution, this appeal is preferred.

. M/s. Bipinchandra Maganlal & Co., Ltd.-herem after referred to as the Company-is registered under the Indian Companies Act. The Company is one in

Shah .f.

2 S.C.R. SUPREME COURT REPORTS

495

neF

which the public are not substantially interested with- in the meaning of s. 23A Explanation of the Act. Its Th c - . : Paid-up capital at the material time was Rs. 20,800 omm1Ss • • 11 ncome- ax, 1 0 made up as follows : Bombay City Bombay ' v.

20 shares of Rs. 50 each fully paid up and 1980 shares of Rs. 50 each, Rs. 10 being paid up per share.

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Shah J.

In December 1945, the Company purchased' certain BipinchandFa machinery for Rs. 89,000 and sold it sometime in Maganlal & Co., March, 1947, for the price for which it was originally Ud., Bombay purchased. In the books of account of the Company, the written down value of the machinery in the year of account 1946-47 (April 1, 1946 to March 31, 1947) was Rs. 73,392. The trading profits of the Company as disclosed by its books of account for the year 1946- 47 were Rs. 33,245. At the General Meeting held on October 21, 1947, the Company declared a dividend of In assessing tax Rs. 12,000 for the year of account. for the year of assessment 1947-48, the Income Tax Officer computed the assessable income of the Com- pany fo~ the year of ,account 1946-47 at Rs. 48,761 after addmg back to the profit of Rs. 33,245 returned by the Company, Rs. 15,608 realised in excess of the written down value of the machinery sold in March, 1947. The Income Tax Officer passed an order under s. 23A of the Act that Rs. 15,429 (being the undistri- buted portion of the assessable income of the Com- pany as reduced by taxes payable) shall be deemed to have been distributed as dividend amongst the shareholders as at the date of the General Meeting, and the proportionate share of each shareholder shall be included in his total income. Appeals preferred against his order to the Appellate Assistant Commis- sioner and the Income Tax Appellate Tribunal prov- ed unsuccessful, but the Appellate Tribunal at the instance of the Company referred the question set out hereinbefore to the High Court at Bombay under s. 66(1) of the Act.

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Section 23A(l) of the Act as it stood at the relevant

time (in so far as it is material) was as follows :

"Where the Income Tax Officer is satisfied that in respect of any previous year the profits and gains dis tributed as dividends by any company upto the end

496

SUPREME COURT REPORTS

(1961]

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Ltd., Bombay

Bombay v. Bipinchandra

bl . e assessa e mcome o

of the sixth month after its accounts for that previous 1960 • c-· . year are laid before the company in general meeting f th ' e , 0 o of Income-tax are ess Bombay City.' company of that previous year, as reduced by the amount of income-tax and super-tax payable by the company in respect thereof, he shall, unless he is satis- fied that having regard to losses incurred by the Maganlal & Co., company in earlier years or to the smallness of the t ie paymen o a 1v1 en or a arger pro ma e, dividend than that declared would be unreasonable, make with the previous approval of the Inspecting Assistant Commissioner an order in writing that the undistributed portion of the assessable income of the company of that previous year as computed for in come-tax purposes and reduced by the amount of in come-t::ix and super-tax payable by the company in respect thereof shall be deemed to have been distri buted as dividends amongst the share-holders as at the date of the general meeting aforesaid, ........... .

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Clearly, by s. 23A, the Income Tax Officer is requir ed to pass an order directing that the undistributed portion of the assessable income of any company (in which the public are not substantially interested) shall be deemed to have been distributed as dividends amongst the shareholders if he is satisfied that (i) the company has not distributed 60% of its assessable income of the previous year reduced by the income tax and super-tax payable, (ii) unless payment of a dividend, or a larger dividend than that declared, having regard to (a) losses incurred by the company in the earlier years or (b) the smallness of the profits made in the previous year, be unreasonable. The total assessable income of the Company for the year of account was Rs. 48,761 and the tax payable there on was Rs. 21,332: ti0% of Rs. 27 ,249 (assessable in come reduced by the income tax and super-tax due) exceeded the dividend declared by Rs. 4,458. The first condition to the exercise of jurisdiction by the Income Tax Officer under s. 23A was therefore indis putably fulfilled. But the Income Tax Officer had

2 S.C.R. SUPREME COURT REPORTS

497

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still to be satisfied whether having regard to the small- 1960 ness of the profit (there is no evidence in this case that - 't The Commissioner ' e ompany m ear ier years , 1 oss was mcurre l would be unreasonable to distribute· dividend larger ~om~:~me~i~;· than the dividend actually declared. The Income Tax ' Officer did not expressly consider this question : he rested his decision on the rejection of the contention Bipinchandra raised by the Company that the difference between M~;;nla~ &b Co., the price of the machinery realised by sale and the written down value in the year of account could not be taken into account in passing an order under s. 23A. He, it seems, assumed·that if that difference be taken into account, distribution of larger dividend was not unreasonable, and the Tribunal proceeded up- on the footing that the assumption was correctly made.

.. Shah J.

Bombay v.

om ay

Counsel for the Revenue submits in support of the appeal that the expression "smallness of profit" means no more than smallness of the assessable in come, and that in any event, in the computation of profits, the amount realised by sale of the machinery in the year of account in excess of its written down value was liable to be included_ in considering whe ther the condition relating to "smallness of profit" was fulfilled.

At the material time, s. 2(6C) of the Act defined "income" as inclusive amongst others of any sum deemed to be profits under the second proviso to cl. (vii) of sub-s. (2) of s. 10. By s. 10, in thf:l computation of profits or gains of an assessee under the head "Profits and gains of business, profession or vocation" carried on by him, the amount by which the written down value of any building, machinery or plant which has been sold, discarded or demolished or destroyed ex ceeds the amount for which the building, machinery or plant is actually sold or its scrap value is to be allowed as a deduction. This allowance is however subject to an exception prescribed by the second pro viso to cl. (vii) sub-s. (2) of s. 10 that where the a.m ount for which any building, machinery or plant is sold exceeds the written down value, so much of the

63

498

SUPREME COURT REPORTS

[1961]

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Th C e of Income-tax, Bombay City, sale took place.

excess as docs not exceed the difference between the original cost and the written down value shall be . to e profit o t e pre!10us year m whwh the In computmg the profits and gains of the Company under s. 10 of the Act, for the pur- Bo.,bay pose of assessing the taxable income, the difference . . v. 8 •Pinchandra between the written down value of the machinery in M£;~= 1~0!.~ 0 • the yea.r of acco1;1nt '.l'nd the price at w!1i?h it was sold (the pnce not bemg m excess of the ongmal cost) was to be deemed to be profit in the year of account, and being such profit, it was liable to be included in the assessable income in the year of assessment. But this is the result of a fiction introduced by the Act. What in truth is a capital return is by a fiction regarded for the purposes of the Act as income. Because this diffe rence between the price.realized and the written down value is made chargeable to income tax, its character is not altered, and it is not converted into the asses see's business profits. It does not reach the assessee as his profits: it reaches him as part of the capital in vested by him, );he fiction created by s. 10(2)(vii) sec ond proviso notwithstanding. The reason for introduc ing this fiction appears to be this. Where in the pre vious years, by the depreciation allowance, the taxable income is reduced for those years and ultimately the asset fetches on sale an amount exceeding the writ ten down value, i.e., the original cost less deprecia tion allowance, the Revenue is justified in taking back what it had allowed in recoupment against wear and tear, because in fact the depreciation did not result. But the reason of the rule does not alter the real character of the receipt. Again, it is the accu mulated depreciation over a number of years which is regarded as income of the year in which the asset is sold. The difference between the written down value of an asset and the price realized by sale thereof though not profit earned in the conduct of the business of the assessee is notionally regarded as profit in the year in which the asset is sold, for the purpose of tak ing back what had been allowed in the earlier years. A company normally distributes dividends out of its business profits and not out of its assessable income.

2 S.C.R. SUPREME COURT REPORTS

499

I9 60

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Bombay .. v.

' Shah J.

e unreasona e,

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h . h l d' 'd ·dMaganla/ &- Co.,

There is no definable relation between the assessable income and the profits of a business concern in a com- Fh c . . ommisssontr . merc1al sense. C?mputat10n. of mcome for purposes of 1"come-ta.e, of assessment of mcome tax is based on a variety of Bombay City, artificial rules and takes into account several fiptional receipts, deductions and allowances. In considering whether a larger distribution of dividend would Bspinchandra b iv1 en Ltd. Bombay is to be distributed and not the assessable income has to be taken into account. The Legislature has not provided in s. 23A that in considering whether an order directing that the undistributed profits shall be deemed to be distributed, the smallness of the assessable income shall be taken into account. The test whether it would be unreasonable to distribute a larger dividend has to be adjudged in the light of the profit of the year in question. Even though the assessable income of a company may be large,. the commercial profits may be so small that com- pelling distribution of the difference between the balance of the assessable income reduced by the taxes payable and the amount distributed as dividend would require the company to fall back either upon its reser- ves or upon its capital which in law it cannot do. For instance, in the case of companies receiving income from property, even though tax is levied under s. 9 of the Act on the bona fide annual vall,le of the property, the actual receipts may be considerably less than the annual value and if the test of reasonableness is the extent of the assessable income and not the commer- cial profit, there may frequently arise cases in which companies may have to sell off their income producing assets. The Legislature has deliberately used the ex- pression "smallness of profit" and not "smallness of assessable income" and there is nothing in the context in which the expression "smallness of profit" occurs which justifies equation of the expression "profit" with "assessable income". Smallness of the profit ins. 23A has to be adjudged in the light of commercial princi- ples and not in the light of total receipts, actual or fictional. This view appears to have been taken by the High Courts in India without any dissentient

T!

Maganlal £. Co.,

SUPREME COURT REPORTS 500 opm10n, see Sir Kasturchand Ltd. v. Commissioner of ), Ezra Proprietary EstatP,s Income Tax, Bombay City (1 " Comnussion" L d l (') W · of Income-tax Bombav Citv.' and Commissioner of Income Tax, Bombay City Iv.

· ommissioner OJ

ncome ax,

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[1961)

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Shah J.

Bo.;bay · F. L. Smidth & Co., (Bombay) Ltd.('). .. v.

By the fiction in s. 10(2)(vii) second proviso, read Bopinchand.a with s. 2(6C), what is really not income is, for the pur- Ltd., Bombay pose o cornpuba ion o assessa. e ~codme, ma. e ax- able income : ut on that account, it oes not become commercial profit, and if it is not commercial profit, it is not liable to be taken into account in assessing whether in view of the smallness of profits a larger dividend would be unreasonable. In our judgment, the High Court was right in holding that the amount of Rs. 15,608 was not liable to be taken into account in considering whether having regard to the smallness of the profit made by the Company, it would be un reasonable to declare a larger dividend.

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The appeal therefore fails and is dismissed with

costs.

Appeal dismissed .

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(1) (1949) XVII l.T.R. 493.

(2) (1950) XVIII l.T.R. 762.

(3) (1959) XXXV l.T.R. 183.