Bombay Steam Navigation Co. (1953)
Private Ltd. Vs. Commissioner of Income-Tax, Bombay  INSC 230 (21 October
21/10/1964 SHAH, J.C.
CITATION: 1965 AIR 1201 1965 SCR (1) 770
R 1966 SC1053 (8) R 1968 SC 745 (5) RF 1970
SC1586 (5) RF 1977 SC2394 (6) RF 1980 SC1946 (11) R 1989 SC1866 (13) R 1991 SC
Income Tax Act, 1922 (11 of 1922), s.
10(2)(iii)-Interest paid on unpaid balance of purchase price of assets acquired
for a business-Whether such unpaid balance amounts to a loan-Therefore whether
interest allowable as a deduction on borrowed capital--Or whether allowable as
a deduction under s. 10 (2) (xv).
The assessee company was incorporated with
the object of taking over certain passenger and ferry services on the Konkan
Coast. The ass company purchased the assets required for its business from the
Scindia Steam Navigation Company and paid part of the consideration by
allotting its own fully paid shares, leaving the -balance unpaid. It was
provided in the contract of purchase that interest at 6 per cent per annum
would be paid to the Scindia Company on any unpaid balance until the whole of
it was fully paid.
The Income Tax authorities disallowed the
claim of the assessee company in the computation of its profits and gains for
deduction of such interest paid to the Scindia Steam Navigation Company, and
the High Court affirmed that -view.
HELD : Interest paid by the assessee company
was a permissible deduction under s. 10(2) (xv). [779 F-G] Per Shah and Sikri
JJ.-BY s. 10(2) (iii) only interest paid in respect of capital actually
borrowed for the purpose of the business, profession or vocation, is a
permissible allowance. An agreement to pay the balance of consideration due by
the purchaser does not give rise to a loan. Although a loan of money
undoubtedly results in a debt, every debt does not involve a loan. In this case
the unpaid balance did not amount to capital borrowed and the interest paid
thereon could not therefore be allowed as a deduction under s. 10(2) (iii).
[774 H; 775 B-C; 776 C-D] Metro Theatre Bombay Ltd. v. C.I.T., (1946) 14 I.T.R.
638 and V. Ramaswami Ayyangar and another v. C.I.T., Madras, (1950) 18 I.T.R.
150, referred to and approved.
C.I.T., Madras v. S. Ramsay Ungar, (1947) 15
I.T.R. 87, distinguished Subba Rao J. reserved his opinion on the application
of cl. (iii) of sub-s. (2) of s. 10 of the Indian Income-tax Act, 1922 to the
claim for deduction of the interest paid.
CIVIL APPELLATE JURISDICTION: Civil Appeals
Nos. 1023-1024 of 1963.
Appeals from the judgment and order dated
August 9, 1962, of the Bombay High Court in Income-tax Reference No. 3 of 1961.
A. V. Viswanatha Sastri, T. A. Ramachandran,
J. B. Dadachanji, O. C. Mathur and Ravinder Narain, for the Appellant (in both
771 C. K. Daphtary, Attorney-General, K. N.
Rajagopala Sastri, R. H. Dehbar and R. N. Sachthey, for the respondent (in both
The Judgment of J. C. Shah and S. M. Sikri
JJ. was delivered by Shah J.
Subba Rao J. I agree with the conclusion, but
I would prefer not to express my view on the construction of cl. (iii) of Subs.
(2) of s. 10 of the Indian Income-tax Act, 1922.
Shah J. The Bombay Steam Navigation Company
Ltd. which plied its passenger and ferry services on the Konkan coast:
and in the Bombay harbour was amalgamated
with effect from June 30, 1952 with -the Scindia Steam Navigation Company
Ltd.-hereinafter called "the Scindias". The scheme of amalgamation
was sanctioned by the High Court of Bombay and the Scindias were authorised by
the scheme to float and establish a joint stock company with the object of
taking over the services on the Konkan coast and in the Bombay harbour which
were originally plied by the Bombay Steam Navigation Co. Ltd. Pursuant to this
authority the Bombay Steam Navigation Co. (1953), Private Ltd.-hereinafter
called "the assessee Company" was incorporated on August 10, 1953.
The assessee Company contracted with the
Scindias on August 12, 1953 to purchase certain steamers, launches, boats,
barges, buildings, furniture, fixtures and vehicles for a consideration
provisionally estimated at Rs. 80 lakhs. It was provided by the agreement that
the price of the assets sold will be satisfied by allotment to the Scindias of
29,900 shares credited as fully paid-up of the face value of Rs. 100 each in
the share capital of the assessee Company, and the balance will be treated by
the assessee Company as a loan granted by the Scindias. The agreement by cl.
3(b) provided for payment of interest at 6% on the unpaid balance of the
purchase price. clause stood as follows:
"The balance shall be treated by the
Transferee Company as a loan granted by the Transferor Company secured by a
Promissory Note duly executed by the Transferee Company in favour of the
Transferor Company and until it is repaid in full it shall carry interest of 6%
per annum (simple) and shall be further secured by hypothecation of all movable
properties of the Transferee Company in favour of the Transferor Company.
L2Sup.165-6 772 On final valuation of the
assets transferred it was found that the assessee Company was liable to pay Rs.
81,55,000 to the Scindias. By a supplemental agreement dated September 16,
1953, the agreement was rectified and the original cl. 3(b) was substituted
with retrospective effect from August 12, 1953 by the following clause:
"The balance shall be paid by the
Transferee Company to the Transferor Company on completion of the transfer
referred to in Clause 2 above and until it is repaid in full they said balance
or so much thereof as for the time being remains unpaid shall carry interest of
6% per annum (simple) and shall further be secured by hypothecation of all
movable properties of the Transferee Company in favour of the Transferor
Company.$$ In proceedings for assessment of tax for the assessment years
1955-56 and 1956-57 the Income-tax Officer, Companies Circle II (1), Bombay,
disallowed the claim of the assessee Company in the computation of its profits
and gains, for allowance of Rs. 2,74,610 paid by it to the Scindias in the
account year ending June 30, 1954, as interest on the outstanding balance of
purchase price due by it and for allowance of Rs. 2,86,823 paid as interest in
the year ending June 30, 1955. The order of the Income-tax Officer was
confirmed by the Appellate Assistant Commissioner and by the Appellate
Tribunal. The High Court of Bombay answered the following question submitted by
the Income-tax Appellate Tribunal in the negative:
"Whether on the facts and in the circumstances
of the case the said sum of Rs. 2,74,610 and Rs. 2,96,823 being the interest
paid by the assessee is allowable as a deduction under the Income-tax Act under
any of the sections 10(2)(iii), 10(2)(xv) or 10(1) ?" With certificate of
fitness under S. 66A(2) of the Incometax Act, the assessee Company has appealed
to this Court.
In the computation of profits and gains of
the business carried on by it the assessee Company claimed the two amounts paid
as permissible allowances under S. 10 (2) (iii) or under S. 10 (2) (xv).
Alternatively, the assessee Company claimed that in the computation of the true
profits of 'the business under S. 10 (1 ) the amounts paid as interest are
necessarily allowable. Section 10, by the first clause, provides :
"The tax shall be payable by an assessee
under the head 'Profits 'and gains of business, profession or vocation' 773 in
respect of the profit or gains of any business, profession or vocation carried
on by him." Tax is payable under s. 10(1) by an assessee on its profits or
gains earned in the business, profession or vocation carried on by him in the
year of account. If no business at all is carried on in that year; liability to
tax does not arise under s. 10(1).
Clause (iii) of sub-s. (2) of s. 10 provides
"Such profits or gains shall be computed
after making the following allowances, namely :(iii) in respect of capital
borrowed for the purposes of the business, profession or vocation, the amount
of interest paid." The proviso and the Explanation with which we are not
concerned in these appeals need not be set out.
The expression "such profits or
gains" in sub-s. (2) on the plain language used by the Legislature means
profits or gains of a business carried on in the year of account. In the
computation of profits and gains of a business carried on in the year of
account, allowances set out in cls. (i) to (xv) are permissible : some of these
permissible allowances are of the nature of revenue outgoings, and others are
of the nature of capital outgoings. Gross profits or gains must undoubtedly be
of the nature of revenue receipts. But in the computation of taxable profits
from the receipts of the business, not only revenue deductions but certain
capital deductions are permitted to be made, e.g. depreciation, sums paid to
scientific research associations, expenditure of a capital nature on scientific
research and other expenditure of a capital nature. By cl. (iii) of subs. (2),
interest paid in respect of capital borrowed for the purpose of the business,
profession or vocation is a permissible allowance in the computation of the
profits or gains. The expression "capital" used in cl. (iii) in the
context in which it occurs means money and not any other asset, -for interest
is payable on capital borrowed and interest becomes payable on a loan of money
and not on any other asset acquired under a contract. Interest paid need not
however bear the character of a revenue outgoing. To be admissible as an
allowance under cl. (iii), interest must be paid in respect of capital borrowed
: interest paid, but not in respect of capital borrowed cannot be allowed.
There was in the present case, in truth no
capital borrowed by the assessee Company. To recapitulate the facts: the 774
assessee Company purchased the assets required for its business from the
Scindias and paid part of the consideration by allotting shares of the value of
Rs. 29,99,000 leaving the balance of Rs. 51,56,000 unpaid. In cl. 3(b) of the
contract as originally executed it was recited that this amount was to be
treated as a loan by the Scindias to the assessee Company, but with
retrospective operation the covenant was modified, and the amount due was to be
treated as balance of purchase money remaining unpaid.
Mr. Viswanatha Sastri argued that the
assessee Company owed a debt of Rs. 51,56,000 to the Scindias, payment of which
was secured by the execution of a promissory note and a charge on the assets of
the assessee Company. The substance of the transaction, according to Counsel,
was a loan given by the Scindias to its subsidiary-the assessee Company-for
procuring the assets required for carrying on the business, even though the
formal transaction did not record it as a loan, and as a contractual liability
to pay a debt was incurred, the Court would be justified in regarding the
transaction as one involving borrowing of the amount agreed to be paid by the
assessee Company. It was said that if the assessee Company had borrowed the
amount of Rs.
51,56,000 from a stranger and had paid the
entire consideration to the Scindias, interest paid to the stranger would
indisputably be an allowance admissible in the computation of taxable profits
of the assessee Company, and there was no reason why a different principle
should be applied when the Scindias in substance had made the requisite funds
available to enable the assessee Company to purchase the assets. The
transaction with the vendor could be regarded, it was also urged, as a
composite transaction(i) a transaction of borrowing Rs. 51,56,000 from the
Scindias and (ii) a transaction for payment of the entire consideration due for
purchasing the assets from the Scindias.
In our judgment this is not a permissible
approach in ascertaining the true nature of the transaction. The parties had
agreed that assets of the value of Rs. 31,55,000 be taken over by the assessee
Company from the Scindias.
Out of that consideration Rs. 29,99,000 were
paid by the assessee Company and the balance remained unpaid. For agreeing to
deferred payment of a part of the consideration, the Scindias were to be paid
interest. An agreement to pay the balance of consideration due by the purchaser
does not in truth give rise to a loan. A loan of money undoubtedly results in a
debt, but every debt does not involve a loan.
Liability to pay a debt may arise from
diverse sources, 775 and a loan is only one of such sources. Every creditor who
is entitled to receive a debt cannot be regarded as a lender. If the requisite
amount of consideration had been borrowed from a stranger interest paid thereon
for the purpose of carrying on the business would have been regarded as a
permissible allowance; but that is wholly irrelevant in considering the
applicability of cl. (iii) of sub-s. (2) to the problem arising in this case.
The Legislature has under cl. (iii) permitted as an allowance interest paid on
capital borrowed for the purposes of the business; if interest be paid, but not
on capital borrowed, cl. (iii) will have no application.
In Metro Theatre Bombay Ltd. v. Commissioner
of Income tax(1) the Bombay High Court held that a mere purchase of a capital
asset on a long-term credit with a stipulation for payment of interest on the
reduced balance did not amount to borrowing capital within the meaning of s.
Under an arrangement to receive a long-term
lease of property the assessee in that case agreed to pay the consideration
stipulated in half-yearly installments spread over a number of years with
interest at five per cent on the balance outstanding. Interest paid on the
balance was disallowed as a permissible deduction in computing the total
assessable income. In Metro Theatre's case(1) liability to pay interest arose
under an agreement to receive a lease in future, whereas liability in the
present case arises under an agreement to pay under a completed sale
transaction the balance of consideration unpaid. But that is not a real ground
of distinction. The amounts in both the cases were paid as interest, but in
neither case was interest paid in respect of capital borrowed.
In V. Ramaswami Ayyangar and Anr v.
Commissioner of Income-tax, Madras(2) the assessee who was carrying on a
money-lending business claimed that in computing his business income he was
entitled under s. 10(2) (iii) to deduct interest paid on death duty to the
Government of Ceylon on properties left by a deceased person. The Court
negatived the claim for such deduction. The amount which was not paid as death
duty was used for the purposes of the business, but it could in no sense be
regarded as a borrowing from the Government of Ceylon. The Court held that s.
10(2) (iii) contemplates lending of money and borrowing of the lender's money
by the borrower with a contractual stipulation for repayment with interest on
the loan : if a loan so borrowed is employed in or for the purpose of the
business of the assessee interest paid on such loan is a permissible deduction.
(1) (1946) 14 I.T.R. 638.
(2) (1950) 18 I.T.R. 150.
776 But an amount due under a statute cannot
be regarded as borrowed capital, for the expression "capital
borrowed" predicates the relation of a borrower and a lender, which
relationship did no exist in that case.
The principle of Commissioner of Income-tax,
Madras V. S. Ramsay Unger(1) on which strong reliance was placed by Mr. Viswanatha
Sastri does not come to his aid, for in that case the Court held on the facts
and circumstances that in substance the transaction which gave rise to the
liability to pay interest was one of borrowing capital and therefore the whole
of interest debited in the books of the assesses must be allowed as interest
paid on such capital.
We therefore agree with the High Court that
the claim for deduction of the amount of interest under S. 10 (2) (iii) is not
But in our judgment interest paid by the
assessee Company is a permissible deduction under S. 10(2) (xv) which permits
"any expenditure not being an allowance of the nature described in any of
the clauses (i) to (xiv) inclusive and not being in the nature of capital
expenditure or personal expenses of the assessee laid out or expended wholly
and exclusively for the purpose of such business, profession or vocation"
as a permissible allowance in the computation of profits or gains of the
business carried on in the year of account. Payment of interest is expenditure;
but it is not an allowance of the nature described in cl. (iii) and there is no
other clause in cls. (i) to (xiv) to which the payment of interest on unpaid
balance of consideration for sale of assets may be attracted. The expenditure
was incurred after the commencement of the business. Ile expenditure is not for
any private or domestic purposes of the assessee Company. It is in the capacity
of a person carrying on business that this interest is paid.
The question then is whether the expenditure
is of a capital nature. It is not easy ordinarily to evolve a test for
ascertaining whether in a given case expenditure is capital or revenue, for the
determination of the question must depend upon the facts and circumstances of
Ile Court has to consider the nature and ordinary
course of business and the objects for which the expenditure is incurred. The
assessee Company urged that the payment of interest was revenue expenditure for
the purposes of the business of the assessee Company, because in the event of
(1) (1947) 15 I.T.R. 87.
777 failure to pay interest accruing due the
Scindias would enforce the hen, and the business of the assessee Company would
come to an -end and that in any event the expenditure was necessary on grounds
of business expediency and incurred in order directly -or indirectly to
facilitate the carrying on of business. If the principal or the interest
accruing due was not paid the Scindias had undoubtedly a right to enforce their
lien against the assets of the assessee Company's business, but that cannot be
regarded as a -round for holding that the expenditure fell within s. 10 (2)
Even in respect of a liability wholly
unrelated to the business, it would be open to a creditor to sequester the
assets of the assessee's business and such sequestration may result in stoppage
of the operations of the business.
Expenditure for satisfying liability
unrelated to the business even if incurred for avoiding danger apprehended or
real to the conduct of the business cannot be said to be revenue expenditure.
Nor can it be said that because a liability has some relation to the business
which is carried on, expenditure incurred for satisfaction of such liability is
always to be regarded as falling within s. 10(2) (xv).
Whether a particular expenditure is revenue
expenditure incurred for the purpose of business must be determined on a
consideration of all the facts and circumstances, and by the application of
principles of commercial trading. The question must be viewed in the larger
context of business necessity or expediency. If the outgoing or expenditure is
so related to the carrying on or conduct of the business, that it may be
regarded as an integral part of the profitearning process and not for
acquisition of an asset or a Tight of a permanent character, the possession of
which is a condition of the carrying on of the business, the expenditure may be
regarded as revenue expenditure in a recent case State of Madras v. G. J.
Coelho(1) this Court to consider the permissibility of a deduction under s. 5(e)
of the Madras Plantations Agricultural Income-tax Act, 1955.
Section 5(e), it may be observer, is in terms
similar to s. 10 (2) (xv) of the Income-tax Act. Section 5 Permits deductions
of various items of expenditure in the computation of agricultural income.
Clause (e) provides for the deduction of any expenditure incurred in the
previous year (not being in the nature of capital expenditure or personal
expenses of the assessee) laid out or explended wholly and exclusively for the
purpose of plantation. The assessee in that case had purchased an estate
consisting of tea, coffee and rubber plantations in the Nilgiris mountains for
(1) (1964) 53 I.T.R. 186.
778 He borrowed Rs. 2,90,000 on interest and
claimed to deduct the interest paid out of the income of the plantations in the
assessment year 1955-56. The claim was made under cls.
(e) and (k) ,of s. 5. The claim under cl. (k)
was not admissible because interest was not payable on the amounts borrowed and
actually spent on the plantations in the previous year, and the sole question
which fell to be determined was whether it was a permissible allowance under s.
5 (e). It was held that the payment of interest was not in the nature of
capital expenditure in the year of account.
The Court held that payment of interest even
in respect of capital borrowed for acquiring assets to carry on business must
be regarded as revenue expenditure in commercial practice and should not be
termed as capital expenditure.
Dealing with the application ,of S. 5 (e) it
was observed :
"The assessee had bought the plantation
for working it as a plantation, i.e. for growing tea, coffee and rubber. The
payment of interest on the amount borrowed for the purchase of the plantation
when the whole transaction of purchase and the working of the plantation is
viewed as an integrated whole, is so closely related to the plantation that the
expenditure can be said to be laid out or expended wholly and exclusively for
the purpose of the plantation. In this connection, it is pertinent to note that
what the Act purports to tax is agricultural income and not agricultural
receipts. From the agricultural receipts must be deducted all expenses which in
ordinary commercial accounting must be debited against the receipts must be
deducted all expenses do not see any distinction between interest paid on
capital borrowed for the acquisition of a plantation and interest paid on
capital borrowed for the purpose of existing plantations : both -are for the
purposes of the plantation." The test laid down by this Court therefore
was that expenditure Made under a transaction which is so closely related to
the business that it could be viewed as an integral part of the conduct of the
business, may be regarded as revenue expenditure laid out wholly and
exclusively for the purposes of the business.
The assessee Company had undoubtedly acquired
the assets by pledging its credit. The assessee Company was formed for the
purpose of taking over the business which the Scindias had acquired and for
carrying on that business the assets with which 779 the business was to be
carried on were required. For obtaining those assets the assessee Company
rendered itself liable for a sum of Rs. 51,56,000 and agreed to pay that sum
with interest at the rate stipulated. The transaction of acquisition of the
assets was closely related to the commencement and carrying on of the business.
Interest paid on the amount remaining due must in the normal course be regarded
as expended for the purpose of the business, which was carried on in the year
of account. There is no dispute that if interest was paid for the purpose of
the business, it was laid out or expended wholly and exclusively for that
Mr. Rajagopala Sastri on behalf of the
Revenue contended that as profits which arise after the business is closed are
not taxable under s. 10(1), expenditure the source of which is a liability
incurred before the actual commencement of business cannot also be regarded as
a permissible outgoing under s. 10(2)(xv.). It is unnecessary to examine the
correctness of this argument, for it has no basis in fact.
The assessee Company was formed on August 10,
1953, it had entered into an agreement on August 12, 1953, and interest was
paid in the years of account ending June 30, 1954 and June 30, 1955. The source
of liability cannot be said to have arisen prior to the date on which the
business of the assessee Company was commenced. Section 10(2) requires that in
computing the taxable profits or gains of a business which is carried on in the
year of account allowances of the nature described in cls. (i) to (xv) should
be made. If no business was carried on in that year, the allowances are not
permissible. But interest in respect of which allowance is claimed was paid at
a time when the business was carried on, and the source of liability to pay
interest was also incurred within the period in which the business was carried
We are, therefore, of the view that the
allowance claimed is a permissible deduction under s. 10(2) (xv).
We do not, in the circumstances, feel called
upon to consider whether in computing the income of the assessee under s. 10(1)
interest paid may be regarded as a necessary outgoing for the purpose of the
business of the assessee Company.
The appeals are therefore allowed with costs
in this Court. One hearing fee.