Mental Box Co. of India Ltd. Vs. Their
Workmen  INSC 197 (20 August 1968)
20/08/1968 SHELAT, J.M.
CITATION: 1969 AIR 612 1969 SCR (1) 750
CITATOR INFO :
R 1974 SC 136 (9) R 1971 SC1821 (8,9) R 1972
SC 299 (12) F 1972 SC 471 (24,27,28,29,30) R 1972 SC2195 (16) E 1975 SC 756
(2,3) E&R 1981 SC2105 (9,20,21,42) RF 1986 SC 484 (17,26) F 1986 SC1746 (6)
RF 1986 SC1938 (11,15,16) RF 1987 SC1143 (4)
Bonus Acr, 1965 ss. 4, 6, 7-Scope
of-Computation of bonus-Principles for deduction from gross profits on account
of depreciation, development rebate, and estimated liability for
gratuity-Treatment of interest on capital reserve attributable to revaluation
of assets-Principles for determining allowance for direct taxes that employer
"is liable to pay".
In a dispute between the appellant and its
workmen relating to the computation of bonus under the Payment of Bonus Act, 1965,
the Company contended that the available surplus came to Rs. 49.96 lakhs sixty
pet cent of which, namely, Rs. 29.98 lakhs was the allocable surplus. The
employees disputed the computation claiming that the Company had wrongly
reduced the gross profits and the available surplus and contended, inter alia,
that certain amounts deducted on account of provisions for gratuity and for
doubtful debts should be added back; they challenged a deduction of interest on
reserves on the ground that the capital reserve was artificially arrived at by
a mere revaluation of the company's fixed assets as on April 1, 1956; and also
disputed the figures of depreciation, development rebate and direct taxes
deducted by the company while working out the available surplus.
The Unions disputed the amount of Rs. 28.82
lakhs worked out by the Company's auditors as depreciation in accordance with
the Income-tax Act, 1961 on the ground (1) that there was no evidence that the
amount of depreciation came to Rs. 28.82 lakhs; and (2) that since the profit
and loss account mentioned Rs. 23.48 lakhs as depreciation, the Company could
only claim that amount.
In its award the Tribunal allowed Rs. 23.48
lakhs instead of Its. 28.82 lakhs claimed by the company as depreciation.
Similarly it allowed only Rs. 7 lakhs instead
of Rs. 8.8 lakhs claimed by the company as development rebate. The Tribunal
held that the amount of Rs. 18.38 lakhs claimed under the head of gratuity was
not a reserve but a provision and therefore, was not liable to be added back,
but it held that the company could deduct only about Rs. 10 lakhs as also Rs.
1.31 lakhs and Rs. 87,000/- actually paid during the year to employees who
retired during that year and added back the balance of Rs. 6 lakhs to the gross
profits. Except for these amounts, the Tribunal accepted the rest of the
company's computation. Both the Unions and the Company obtained special leave
and fled appeals challenging the correctness of the Tribunal's award. In their
appeal it was also contended by the Unions that the Tribunal had wrongly
allowed a deduction of Rs. 145 lakhs as direct taxes under sec. 6(c); all that
the employer could deduct was direct taxes which he "is liable to
pay" for the accounting year in respect of "his income, profits and
gains during that year", i.e., the employer is entitled to deduct only his
actual tax liability. Such liability.
therefore, has to be worked out in accordance
with the provisions of the Income-tax Act and other relevant Acts by first
arriving at the actual taxable income, gains and profits under those Acts and
then compute the taxes at rates provided by them for that particular accounting
HELD:The appellant company contentions on the
questions of development rebate and the provisions for gratuity must be upheld;
the amount of depreciation must be ascertained afresh by the Tribunal after
giving the parties opportunity to lead such evidence as they desired. The'
workmen's appeal must be dismissed.
(1) The depreciation deducted in the
expenditure column in the Profit and Loss Account was the depreciation worked
out under s. 205(2) of the Companies Act, but under section 6 of the Bonus Act,
the Company is entitled to deduct from its gross profits depreciation
admissible under Section 32(1) of the. Income-tax Act, i.e., such percentage on
the' written down value as may, in the case of each of the classes of assets,
be prescribed. It was for this reason that Rs. 23.48 lakhs were shown as
depreciation in the Profit and Loss Account by the Company while in the
computation for bonus the company claimed Rs. 28.82 lakhs as. depreciation.
[755 H--756 B] Since the Company claimed the deduction of depreciation, the
burden of proof that the amount claimed was in accordance with the Income-tax
Act was on the Company and that burden the company must discharge once its
figures were challenged.
It was not sufficient for it to produce its
auditors' certificates. The question as to the correct amount of depreciation
must therefore go back to the Tribunal for a further decision. The Tribunal
must give an opportunity to the Company to prove its claim for depreciation by
reasonable proof and to the Unions to test such, evidence by cross-examination
or otherwise. [757 D] Khandesh Spg. & Wvg. Mills Co. Ltd. v. The Rashtnya
Girni Kamgar Sangh,  2 S.C.R. 841, 847, Petlad Turkey Red Dye Works Ltd.
v. Dyes & Chemical Workers' Union  2 S.C.R. 906, 909, referred to.
(2) Under s. 6(b) of the Bonus Act the
Company is entitled to deduct out of the gross profits arrived at under s. 4
the whole of the development rebate admissible under the Income- tax Act, i.e.,
the amount, 75 per cent of which comes to Rs.
7 lakhs in the present case. The Tribunal was
in error in mixing up the development rebate reserve to which the Company had
to appropriate Rs. 7 lakhs in the Profit and Loss Account and the development
rebate of Rs. 8.87 lakhs allowable to it under s. 6. of the Act. There was
therefore no justification for the Tribunal to allow' Rs. 7 lakhs only instead
of Rs. 8.87 lakhs as development rebate. [759D-F] (3) An estimated liability
under gratuity schemes as in the present case, even if it amounts to a
contingent liability and is not a debt under the Wealth Tax Act, if properly
ascertainable and its present value is fairly discounted, is deductible from
the gross receipts while preparing the Profit and Loss Account. This is in
accordance with accepted principles of commercial practice and is also the
position under the Income-tax Act. There is no rule or direction in the Bonus
Act which prohibits such a practice.
[766 C; 767 D] The Tribunal in allowing Rs.
10 lakhs out of the estimated liability of Rs. 16 lakhs impliedly accepted the
same principle but allowed only Rs. 10 lakhs because it thought the estimate to
be excessive. This was not done on the ground that the estimate of Rs. 16 lakhs
was not warranted on any valuation. In the absence of any challenge as to the
correctness of the valuation and in the absence of any challenge that such
iiability cannot be estimated on any fair standard. the Tribunal ought to have
allowed the whole of Rs. 16 lakhs to be deducted while arriving at the net
profits in the Profit and Loss Account. [767 E] 752 Calcutta Company Ltd.
v.C.I.T.,  1 S.C.R. 185;
Commissioner Wealth Tax v. Standard Vacuum
Oil Co. Ltd.,  2 S.C.R. 327; Kesoram Industries and Cotton Mills Ltd.
v.C.W.T.,  2 S.C.R. 688; Standard Mills Co. Ltd.
v. Commissioner of Income Tax,  1
S.C.R. 768; Southern Railway of Peru Ltd. v. Owen,  A.C. 334 and San
Insurance Office v. Clark,  A.C. 443; referred to.
(4) There was no justification for the
contention that revaluation of company's assets in 1956 was fictitious and that
the difference of Rs. 57 lakhs was a mere hook adjustment and did not add to
the wealth of the company so that no deduction by way of interest was
permissible on such an artificial amount. [767 H] In the present case the
revaluation was made as early as 1956 and did not appear to have been objected
to at any time either by the Company's auditors or by anyone else concerned
with the Company's management. It cannot, therefore, be legitimately said that
it was done for any oblique purpose, much less with a view to defeat the
labour's claim to bonus. It is true that such revaluation does not bring in any
tangible additional amount into the company's coffers which it can use for its
business. But under sec. 211 of the Companies Act, every balance-sheet of a
company must give a true and fair view of the state of affairs of the company
as at the end of the financial year.
Sch. VI to the Companies Act also provides
that where sums have been written off on a reduction of capital or a re- evaluation
of -assets, the balance sheet, subsequent to such reduction or revaluation must
show the reduced or the increased figures as the case may be. Apart from the
provisions of the Companies Act, it is a recognised principle of accountancy to
transfer the increased value of assets on revaluation to a capital reserve
account. Such an increased figure is an unrealised accretion in the value of a
fixed asset. The fact that such an increased figure does not actually bring in
any additional amount to the company does not make the capital reserve any the
less a reserve.
[768 C-G] The Tribunal was therefore right in
accepting the figure of Rs. 57 lakhs and deducting interest thereon from the
(5) Bonus being payable within eight months
after the close of the accounting year in cases where there is no dispute
pending before an authority under s. 22 of the Act as provided by s. 19, it is
hardly possible, except in rare cases, that assessment under the Income-tax Act
and other such Acts would be completed by the time bonus has to be paid.
Therefore, the Tribunal would not have before it the taxable income assessed by
the Income-tax and other such officers. If the Union's contention were to he
right, there would be two or more parallel authorities working under the Bonus
Act and the Income-tax Act and other such Acts who would have to assess taxable
income and the tax payable them, before all of whom the employer would have to
prove his taxable income. In each bonus dispute, the Tribunal, not equipped
with the detailed knowledge of all such Acts, would have to undertake an
enquiry into various deductions, rebates, reliefs, etc. claimable by the
employer under those Acts. The fact that payment of bonus cannot broke delay
without causing hardship to labour would seem to militate against the
possibility of such prolonged enquiries. [774 E- 775 A] An examination of the
provisions of the Bonus Act shows that the 'Tribunal must estimate the amount
of direct taxes on the balance of gross profits as worked out under ss. 4 and
6, but without deducting the bonus, then work out the quantum of taxes thereon
at rates applicable ,during that year to the income, gains and profits of the
employer and 753 after deducting the amount of taxes so worked out arrive at
the available surplus. Section 6(c) being subject to s. 7 the computation has
to be done without taking into account the items specified in s. 7(a) and in
the manner prescribed by the remaining clauses of that section. This
interpretation is commendable because; (1) it is consistent with the words
"is liable to pay" in s. 6(c), (2) it is in harmony with the
provisions of ss. 4 and 6 and Sch. H, and (3) it is consistent with the
intention of Parliament apparent from the scheme of computation of available
surplus in the Act. Furthermore, if Parliament intended to make a departure
from the rule laid down by courts and tribunals that the bonus amount should be
calculated after provision for tax was made and not before, it would have made
an express provision to that effect either in the Act or in the Schedules. [776
B-D; F-G] Associated Cement Companies Ltd. v. The Workmen,  S.C.R. 925 at
974; Crompton Parkinson (Works) Private Ltd. v. Its Workmen  Supp. 2
S.C.R. 936; and Workmen o! India Explosives Ltd. India Explosives Ltd., 
2 L.L.I. 313, referred to.
CIVIL APPELLATE JURISDICTION: Civil Appeals
Nos. 2138 and 2196 of 1966.
Appeals by special leave from the Award dated
June 27, 1966 of the Sixth Industrial Tribunal, West Bengal in Case No. VIII-251
N. A. Palkhivala, Jatinder Mahajan, O.C.
Mathur and Ravinder Narain, for the appellant (in C.A. No. 2138 of 1966) and
the respondent (in C.A. No. 2196 of 1966).
A. S.R. Chari, R.K. Maheshwari and B.P.
Maheshwari, for the respondents (in C.A. No. 2138 of 1966) and the appellants
(in C.A. No. 2196 of 1966).
H.K. Sowani, K. RaJendra Chaudhuri and K.R.
Chaudhuri, for intervener No. 1.
N. A. Palkhivala and D.N. Mukherjee, for
intervener No. 2.
M.K. Ramamurthi, Shyamala Pappu and Vineet
Kumar, for intervener No. 3.
R. J. Kolah and O.C. Mathur, for intervener No.
N. A. Palkhivala and O.C. Mathur, for
Intervener No. 5.
A. N. Parekh and Subhag Mal Jain, for
intervener No. 6.
The Judgment of the Court was delivered by
Shelat, J. By a reference dated September 17, 1965, the Government of West
Bengal referred to the Sixth Industrial Tribunal the following question for
"Whether computation of bonus in respect
of the accounting year ending 31st March 1965 payable to the employees is in
accordance with the payment of Bonus Ordinance? If not, what should be the
quantum of bonus for the employees?" 754 The dispute between the appellant
company and its employees arose in the following manner. The company's
accounting yearis from 1st April to 31st March of the following year and its
books of account are maintained on the mercantile system of accounting. The
company computed the amount of bonus payable to its employees under the Payment
of Bonus Ordinance which was promulgated on May 29, 1965 and furnished on July
5, 1965 copies of its this computation to the three respondent Unions
representing its employees. The available surplus and allocable surplus,
according to this computation, were Rs. 49.96 lacs and Rs. 29.98 lacs
respectively. On this basis the company declared the bonus at 13.28 per cent of
the total wages paid to the employees.According to this computation, the gross
profits came to Rs. 2,70,61,234/-. Out of this the company deducted the
following amounts allowed under the Ordinance, namely:
Rs. 28,64,000/- as depreciation admissible
under the Income Tax Act, 1961;
Rs. 9,00,000/- as development rebate.
Rs. 1,36,33,000/- as direct taxes.
Rs. 1,50,000/- as dividend on preference
Rs. 23,37,000/- as interest at 8.5 p.c.
on paid up capital;
Rs. 17,80,358/- as interest at 6 p.c. on
Thus the available surplus came to Rs.
49,96,876/-, sixty per cent of which, namely, Rs. 29,98,125/- was the allocable
surplus. The employees disputed the computation contending that the company had
wrongly reduced the gross profits and the available surplus and that the
following amounts should be added back, viz.,provision for gratuity Rs.
18,38,605/- and provision for doubtful debts Rs. 50,000/-. They also challenged
deduction of interest on the reserves on the ground that the capital reserve of
Rs. 57,00,151/- was artificially arrived at by a mere revaluation of the
company's fixed assets as on April 1, 1956. They also disputed the figures of
depreciation, development rebate and direct taxes deducted by the company while
working out the available surplus.
Parliament in the meantime passed the Payment
of Bonus Act, 1965 which by sec. 40 repealed the Ordinance but which saved all
things done and action taken under the 'Ordinance as having been done or taken
under the Act. On September 27, 1965 company paid, subject to the result of the
reference, bonus at the rate of 13.28 percent of the wages including dearness
allowance to its employees.
In its award the Tribunal allowed Rs.
23,48,226/- instead of Rs. 28,82,261/- claimed by the company as depreciation.
Simiearly it allowed only Rs. 7 lacs instead
of Rs. 8,87,371/- claimed 755 by the company as development rebate. As regards
Rs. 18.38 lacs claimed under the head of gratuity, the Tribunal held that
amount was not a reserve but a provision and, therefore, was not liable to be
added 'back. But it held that the company could deduct only Rs. 10 lacs and odd
as also Rs. 1.31 lacs and Rs. 87,000/- and odd actually paid during the year to
employees who retired during that year and added back the balance of Rs. 6 lacs
to the gross profits. Except for these amounts, the TribUnal accepted the rest
of the company's computation. In the result the Tribunal found the available
surplus and the allocable surplus to be 54 lakhs and odd and Rs. 32.42 lacs
respectively and directed payment of bonus at 14.55 per cent of the total
wages. Both the Unions and the company obtained special leave and filed appeals
challenging the correctness of the Award.
In the profit and loss account for the year
1964-65, the Company had shown Rs. 17 chores and odd as gross receipts and out
of that amount had deducted diverse amounts as expenditure including the sum of
Rs. 23,48,226/- by way of depreciation. In its computation filed before the
Tribunal, the Company, however, claimed depreciation at Rs. 28.82 lacs worked
out by its auditors in accordance with the provisions of the Income Tax Act,
1961. The Unions disputed this amount on the ground (1 ) that there was no
evidence that the amount of depreciation came to Rs. 28.82 lacs and (2) that
since the profit and loss account mentioned Rs. 23.48 lacs as depreciation, the
company could claim that amount only. The Tribunal accepted the Unions'
contention stating that there was nothing to show that the company through
mistake had shown Rs. 23.48 lacs as depreciation in the profit and loss account
and that subsequently on finding out the mistake it had revised in its
computation depreciation at Rs. 28.82 lacs. The Tribunal, as we shall presently
show, was in error in confusing depreciation claimed by it as a deduction under
sec. 6 of the Act and in thinking that the company had made or claimed to have
made a mistake and was trying to correct such mistake.
Under sec. 205( 1 ) of the Companies Act,
1956, no dividend can be declared or paid by a company for any financial year
except out of profits arrived at after providing for depreciation in accordance
with sub-sec. (2). Sub-sec. (2) provides different methods of calculating
depreciation, one of which is to calculate it by dividing 95 per cent of the
original cost of each of the depreciable asset by a specified period in respect
of each such asset. The depreciation deducted in the expenditure column in the
P&L account therefore was the depreciation worked out under sec. 205 ( 2 )
of the Companies 'Act. Under sec. 2 ( 18 ) of the Bonus Act, gross profits mean
gross profits calculated under sec. 4. In the case of companies other than a
banking company, gross profits under Sec. 4 are to be computed in the manner
laid 756 down in the 2nd Schedule. That Schedule requires adding back to the
net profit shown in the P & L account of depreciation deducted in that
account while computing gross profits. Obviously, the depreciation so to be
added back is the one worked out by the company under sec. 205 (2 ) of the Companies
Act. Section 6 of the Bonus Act provides that having arrived at the gross
profits under sec. 4 read with the 2nd Schedule, the Company is entitled to
deduct therefrom depreciation admissible under sec. 32( 1 ) of the Income Tax
Act, that is, such percentage on the written down value as may, in the case of
each of the classes of assets, be prescribed.
The fact that the company while preparing its
P & L Account and its computation (Ex. 6) produced before the Tribunal, had
kept the distinction between depreciation worked out under the Companies Act
and the one to be worked out under the Income-tax Act for the purposes of the
Bonus Act is clear from the evidence of its witness, Verma. It was for this
reason that Rs. 23 lacs and odd were shown as depreciation in the P & L
Account while in the computation (Ex. 6) the company claimed Rs. 28.64 lacs as
There was, therefore, no question of the
company having made any mistake in calculating depreciation in the P & L
Account or its trying to amend that mistake as erroneously thought by the
Tribunal. The only mistake, the company claimed it had made, was that the true
figure of depreciation deductible under sec. 6(a) of the Bonus Act was Rs.
28.82 lacs and not Rs. 28.64 lacs. The Company produced a certificate of its
auditors (Ex. U 2) dated December 20, 1965 wherein the auditors certified that
on the records produced before them the true figure of depreciation would be
the revised figure of Rs. 28.82 lacs and not Rs. 28.64 lacs. But the
controversy between the parties was not confined to the difference between
these two figures.
There were three figures for depreciation
before the Tribunal, Rs. 23 lacs and odd shown in the P & L Account, Rs.
28.64 lacs shown in the computation and Rs. 28.82 lacs subsequently claimed by
the company as the revised figure of depreciation. The last two figures were
taken by the company from its auditors' certificate certifying first Rs. 28.64
lacs and, later on, revising that figure to Rs. 28.82 lacs on certain further
records and information produced before them. The evidence of Verma shows
clearly that the Unions disputed the Company's calculations of depreciation.
When questioned by them, Verma could only say
that the calculations were done not by him but by the Secretarial Department
and, therefore, was not in a position to answer questions in that regard. No
witness from the Secretarial Department was produced. As regards their books
and records produced before the auditors, his only answer was:
757 "So far as books and records
mentioned in the first part of Ext. U 2 are concerned, the books and record
relating to the branches were produced before the representatives of the,
auditors' firm there, and the other books and records were produced there
before the auditors' firm. So far as the record mentioned in the second part of
the certificate are concerned, they are different records. The informations and
explanations given to the auditors were given verbally after consulting our
books of accounts".
These books and records not having been
produced or disclosed, there was obviously no opportunity to the Unions to
verify either of the two figures, viz., Rs. 28.64 lacs or Rs. 28.82 lacs. It is
true that Verma said that the calculations shown to the auditors could be
produced but he qualified the offer by saying that would be done if the
Since the company claimed the deduction of
depreciation, it stands to reason that the burden of proof that the
depreciation claimed by it was the correct amount in accordance with the Income
Tax Act was on the Company and that burden the company must discharge once its
figures were challenged. But it was; contended that once the company produced
its auditors' certificate. that should be sufficient and must be accepted and
that the Tribunal should not insist either on the auditors proving their
certificate or on the company proving depreciation on each and every item of
depreciable asset. Such an enquiry before the Tribunal, it was argued, would be
a harassing and prolonged enquiry, not contemplated in industrial adjudication
and, therefore, the Tribunal ought to have accepted as correct Rs. 28.82 lacs
certified by the auditors. Under sec. 23 of the Act the presumption of accuracy
is allowed only to the balance sheet and the P & L Account of companies. No
such presumption is provided for by the Act to auditors' certificates. Speaking
of rehabilitation amount deductible as a prior charge under the Full Bench
formula while working out the available surplus this Court in Khandesh Spg. ana
Wvg. Mills Co. Ltd. v. Rashtriya Girni Kamgar Sangh(1) observed at page 847 as
"The importance of this question (the
procedure to be followed for ascertaining facts) in the context of fixing the
amount required for rehabilitation cannot be over- estimated. The item of
rehabilitation is generally a major item that enters In to the calculations for
the purpose of ascertaining the surplus and, therefore, the amount of bonus.
So, there would be a tendency on the part of the employer to inflate this
figure and the (1)  2 S.C.R. 841,847. ap. C. 1./69-2 758 employees to
deflate it. The accounts of a company are prepared by the management. The
balance-sheet and the profit and loss account are also prepared by the
The labour have no concern in it. When so
much depends on this item, the principles of equity and justice demand that an
Industrial Court should insist upon a clear proof of the same and also give a
real and adequate opportunity to the labour to canvass the correctness of the
particulars furnished by the employer." The necessity of proper proof of
the correctness of statements in the balance-sheet was repeated in Petlad
Turkey Red Dye Works Ltd. v. Dyes & Chemical Workers' Union(1). These
observations made with regard to balance- sheets and P & L accounts would
equally apply to statements made in ,the auditors' certificates 'prepared on
the instructions and information supplied to them by employers.
Mere production of auditors' certificate,
especially when it is not admitted by labour, not by the auditors but by the
employees of the company who admitted not to have been concerned with its
preparation or the calculations on which it was based. would not be conclusive.
We do not say that in such a case the Tribunal should insist upon proof of
depreciation on each and every item of the assets. It should, however, insist
on some reasonable proof of the correctness of the figure of depreciation
claimed by the employer either by examining the auditors who calculated and
certified it or by some other proper proof. Depreciation in some cases would be
of a large amount affecting materially the available surplus. Fairness, therefore,
requires that an opportunity must be given 'to the employees to verify such
figures by cross-examination of the employer or his witnesses who have
calculated depreciation amount.
Notwithstanding the Unions' challenge to the
figure of depreciation claimed by the company, the only thing that the company
did was to examine Verma, who admittedly had nothing to do with its
calculation, and to produce through him the said certificate. In our view, that
was neither proper nor sufficient. The proper course for the Tribunal in such a
case was to insist upon the company adducing legal evidence in support of its
claim instead of taking the figure of depreciation from the P & L account
which was not worked out in accordance with the Income Tax Act but under sec. 205
of the Companies Act, and saying that the Company had failed to prove that it
was a mistaken figure. In our view, the question as to the correct amount of
depreciation must go back to the Tribunal for a fresh decision. The Tribunal
should give opportunity to the Company to prove its claim for depreciation by
reasonable proof and to the Unions to test such evidence by cross-examination
(1)  2 S.C.R. 906, 909.
759 An error of the same type seems to have
been committed by the Tribunal in the matter of development rebate. It allowed
Rs. 7 lacs as development rebate. instead of Rs.
8.87 lacs. claimed by the Company. Under sec.
33 of the Income Tax Act, an assessee is allowed by way of development rebate a
certain percentage of the cost of machinery or plant depending on the date of
its installation. Section 34(3) of that Act provides, however, that the said
allowance shall not be given unless an amount equal to 75 per cent of the
development rebate to be allowed is debited to the P & L account of the
relevant previous year and credited to a reserve account to be utilised by the
assessee in the 8 years next following for the purposes of the undertaking.
Accordingly, the Company appropriated Rs. 7 lacs to the development rebate
reserve as it was bound to do if it wanted to claim development rebate.
The Company took the round figure Rs. 9 lacs
instead of Rs. 8.87 lacs for development rebate and credited Rs. 7 lacs, being
75 per cent thereof to the development rebate reserve.
Under the Second Schedule to the Bonus Act,
read with sec.
4 thereof the Company is required while
computing its gross profit to add the development rebate and as footnote 1 in
that Schedule shows "to the extent charged to profit and loss
account", that is, Rs. 7 lacs. Under sec. 6(b) of the Bonus Act, the
Company is entitled, however, to deduct out of the gross profits arrived at
under sec. 4, the whole of the development rebate admissible under the Income
Tax Act, i.e., the amount, 75 per cent of which comes to Rs. 7 lacs.
The error which the Tribunal fell into was in
mixing up the development rebate reserve to which the Company had to
appropriate Rs. 7 lacs in P & L account and the development rebate of Rs.
8.87 lacs allowable to it under sec. 6 of the Act. Mr. Chari for the Unions
fairly conceded that he could not challenge this position. There was, therefore,
no justification for the Tribunal to allow Rs. 7 lacs only instead of Rs. 8.87
lacs as development rebate.
The next question relates to a sum of Rs.
18.38 lacs, being the estimated liability under two gratuity schemes framed by
the Company, which was deducted from the gross receipts in the P & L
account. In 1960 the Company introduced a gratuity scheme for its employees
other than its officers.
Under that scheme gratuity was payable on the
termination of an employees's service either due to retirement, death or
termination of service, the amount of gratuity payable being dependent on his
wages at that time and the number of years of service put in by him. The
Company had worked out on an actuarial valuation its estimated liability and
made provision for such liability not all at once but spread over a number of
years. Thus in 1959-60, 1960-61 and 1961-62 the Company allocated towards this
liability Rs. 5 lacs. Rs. 10 lacs and Rs. 5 lacs respectively from out of the
profits, 760 debiting these amounts in the profits and loss account. In all Rs.
40 lacs have so far been provided in the aforesaid manner against the said
liability. The practice followed by the Company is that every year the Company
works out the additional liability incurred by it on the employees putting in
every additional year of service. Whenever an employee retires, the amount of
gratuity payable to him is debited against the amount provided for as
aforesaid. The amount so paid is not debited in the P & L account as an
outgoing or expenditure but against the estimated liability provided as
aforesaid. In 1964-65 the Company introduced a similar gratuity scheme for its
officers. According to the Company, the estimated liability under this scheme
was worked out at Rs. 20 lacs. But instead of providing the whole for it
provided only Rs. 11.31 lacs. It also provided Rs. 7 lacs under the scheme for
its non-officers against the liability for service put in by them in that year.
Out of Rs. 18.38 lacs so provided, the Company paid as gratuity Rs. 1,31,585/-
and Rs. 87,295/to officers and other employees who retired during 1964-65,
debiting as aforesaid, these amounts not as an outgoing or expenditure but
against the said amounts of Rs. 11 lacs and Rs. 7 lacs. The Company claimed
that it was entitled to deduct the balance of Rs.
16 lacs from the gross receipts in the P
& L account while working out its net profit. The Unions contended that the
Company could deduct from the gross receipts only Rs. 1.31 lacs and Rs.
87,000/- and odd actually paid during the year.
The Company, on the other hand, maintained
that what it had 'done was legitimate and was warranted by the principles of
accountancy and, therefore, the whole amount of Rs. 18.38 lacs was deductible
in arriving at its net profits. What the Tribunal did, however, was that
instead of squarely facing this controversy, it held that as the Company had in
the former years debited Rs. 5 lacs e.g., in 1959-60 and 1961-62, it would
allow only Rs. 5 lacs for each of the two schemes. Thus it allowed Rs. 10 lacs
as dubitable in the P & L account in addition to the said Rs. 1.31 lacs and
87,000/- and disallowing the balance of Rs. 6
lacs added back that amount in the net profits shown in the P & L account.
The contention of Mr. Chari was two fold: (1
) that the amount which could be debited was that which was actually paid and
the Company was not entitled to debit in the P & L account any amount
worked out by it as estimated liability.
The Tribunal. therefore, was not justified in
allowing the Company to debit any such amount and that the Tribunal arbitrarily
fixed Rs. 10 lacs and allowed wrongly that amount to be deducted; and (2) even
if such estimated liability was debitable, the appropriation amounted to a
reserve and under the Bonus Act such a reserve had to be 761 added back while
working out the gross profits under the 2nd Schedule to the Act.
Two questions, therefore, arise: (1) whether
it is legitimate in such a scheme of gratuity to estimate the liability on an
actuarial valuation and deduct such estimated liability in the P & L
account while working out its net profits; and (2).if it is, whether such
appropriation amounts to a reserve or a provision. If it is a reserve,
obviously the amount has to be added back while computing the gross profits.
But in that event the Company would be entitled to interest thereon at 6 per
cent per annum under Item 1 (iii) of the Third Schedule to the Act.
In the case of an assessee maintaining his
accounts on mercantile system, a liability already accrued, though to 'be
discharged at a future date, would be a proper deduction while working out the
profits and gains of his business, regard being had to the accepted principles
of commercial practice and accountancy. It is not as if such deduction is
permissible only in case of amounts actually expended or paid. Just as
receipts, though not actual receipts but accrued due or brought in for income
tax assessment, so also liabilities accrued due would be taken into account
while working out the profits and gains of the business. A Company carrying on
business of buying land and selling it after development sold certain plots,
received a part of the price but entered the whole of the price receivable as
it maintained its books of accounts on mercantile method. It also debited a
certain sum, being the estimated expenditure for the developments it undertook
to carry out within six months from the execution of the sale deeds although no
part of such expenditure was actually incurred during that year.
It was held that having regard to the
accepted commercial practice and trading principles and there 'being no prohibition
against it in the Income Tax Act, deduction of such estimated liability even
though it did not come under any specific provisions of sec. 10(2) of the
Income Tax Act, 1922 was permissible; (see Calcutta Company Ltd. v. CJ.T.(1)
Such a deduction of an accrued liability though not actually paid is not
confined to the Income Tax Act only but is also perrnissible under the Wealth
Tax Act, 1957. In Commissioner of Wealth Tax v. Standard Vacuum Oil Co.
Ltd.(-2) demands in respect of payment of tax under sec.
18A of the Income Tax Act, 1922 were made
against the 'assessee company for 1956-57. The final installment of Rs.
47 lacs and odd for each of the two years was
outstanding on the respective valuation dates. The question was whether the
demand ,for such tax could be deducted while determining the net wealth of the
Company. This Court held that a debt is "owed' when an order is passed
under sec. 18A and a notice of demand is sent. The amount mentioned in the
notice begins to be 'owed' till a new figure is (1) 1 S.C.R. 185. (2)
 2 S.C.R. 317.
762 substituted by the assessee under sec.
18A(2) of the Income Tax Act. But till that is done, the amount is ascertained
and there is a statutory liability to pay the amounts mentioned in the order
under sec. 18A(1) and were debts on the valuation dates and, therefore,
deductible for the purpose of arriving 'at the Company's net wealth. The Court
also held that a condition subsequent, the fulfillment of which may result in
the reduction or even extinction of the liability, would not have the effect of
converting that liability into a contingent liability. The decision, no doubt,
turned on the meaning of 'debt' as defined by sec. 2(m) of the Wealth Tax Act,
the.Court there holding that the statutory liability to pay the amount
mentioned in the order commenced when the demand notice was served and,
therefore, the liability did exist in present. In Kesoram Industries and Cotton
Mills Ltd. v. C.W.T.(1) also a case under the Wealth Tax Act, the appellant
company showed in its P & L account two amounts: (1 ) the amount of
dividend proposed to be distributed for that year and (2) another sum as a
provision for tax liability under the income Tax Act, 1922. The question was
whether these two sums were debts and could be deducted while computing the
Company's net wealth. It was held that the dividend amount was not a debt as on
the valuation date nothing more than a recommendation by the Directors had
taken place. But as regards the estimated tax liability, it was held that it
was a debt inasmuch as the liability to pay the tax was in present though
payable in future and was in respect of an ascertainable sum of money. In
Standard Mills Co. Ltd. v. Commissioner of Income Tax(2) the decision turned on
the question whether an estimated liability under gratuity schemes framed under
Industrial awards amounted t0 debts and could be deducted while computing the
net wealth. On reliance having been placed on Southern Railway of Peru Ltd. v.
Owen(a) a decision to which we shall presently come the Court observed' at page
773 that decision had no relevance to the question before it as the House of
Lords in that decision was concerned in determining the deductibility of the
present value of a liability which may arise in future in the computation of
taxable income for the relevant year under the Income Tax laws-The Court held,
in view of the terms of sec. 2(m) of the Wealth Tax Act, that as the liability
to pay gratuity was not in presents but would arise in future on the termination
of service i.e. on retirement, death or termination; the estimated liability
under the schemes would not be a debt and, therefore, could not be deducted
while computing the net wealth. These observations show that the Court was of
the view that though such a liability is a contingent liability and therefore
not a 'debt' under sec. 2(m) of the Wealth Tax Act, it would be deductible
under the Income Tax Act while (1)  2 S.C.R. 688.
(2)  1 S.C.R. 768. (3)  A.C. 334.
763 computing the taxable profits. In the
instant case, the question is not whether such estimated liability arising
under the gratuity schemes amounts to a debt or not. The question that concerns
us is whether while working out the net profits a trader can provide from his gross
receipts his liability to pay a certain sum for every additional year of
service which he receives from his employees. This, in our view, he can do, if
such liability is properly ascertainable and it is possible to arrive at a
proper discounted present value. Even if the liability is a contingent
liability, provided its discounted-present value is ascertainable, it can be
taken into account. Contingent liabilities discounted and valued as necessary
can be taken into account as trading expenses if they are sufficiently certain
to be capable of valuation and if profits cannot be properly estimated without
taking them into account. Contingent rights, if capable of valuation, can
similarly be taken into account as trading receipts where it is necessary to do
so in order to ascertain the true profits: (see C.N. Beatti's Elements the Law
of Income and Capital Gains Taxation 8th ed. 54).
In Southern Railway of Peru Ltd. v. Owen(1),
the House of Lords was concerned with the problem similar to. the one before us
and, therefore, the observations made there would be of assistance. An English
Company operating a railway in Peru was under the laws of that country liable
to pay its. employees compensation on the termination' of their services either
by dismissal or on termination of service by notice or on such termination by
death or affluence of contractual time. The compensation so paid was an amount
equivalent to one month's salary at the rate in force at the date of
determination of every year of service. The Company claimed to be entitled to
charge against each year’s receipts the cost of making provision for the
retirement payments which would ultimately be thrown on it, calculating the sum
required to be paid to each employee if he retired without feature at the close
of the year and setting' aside the aggregate of what was required insofar as
the year had contributed to the aggregate. The House of Lords rejected the
deductions on the ground that in calculating the deduction the company had
ignored the factor of discount.
But their Lordships recognised the principle
that the company was entitled to charge against each year's receipts the cost
of making provision for the retirement payments which would ultimately be
payable as the company had the benefit of the employees' services during the
year provided the present value of the future payments could be fairly
estimated. The contention on behalf of the Crown was very nearly the same as
the one before us. Counsel conceded, that a trader computing his taxable
profits for a particular year may properly deduct not only the payments
actually made to his employees but (1)  A.C. 334.
764 also the present value of any payments in
respect of their services in that year to be made in a subsequent year if it
can be satisfactorily estimated. But it was argued that proposition would not
apply to that case as the company was not in any year under a definite
obligation to pay its employees lump sums on the termination of their
employment as in each case the right to a lump sum was contingent on certain
conditions being fulfilled and' so the prospective liability remained
contingent until the service was actually ended. The lump sum could not be
regarded as earned or payable in respect of a particular year of service and,
therefore, the whole sum should be debited in the account of the last year of
service. This contention was not upheld.
In the course of his opinion, Lord Radcliffe
cited with approval the dictum of Lord Haldane in Sun Insurance Office v.
Clark(1) at p. 455, namely:
"It is plain that the question of what
,is or is not profit or gain must primarily be one of fact, and of fact to be
ascertained by the tests applied in ordinary business. Questions of law can
only arise when (as was not the case here) some express statutory direction
applies and excludes ordinary commercial practice, or where, by reason of its
being impracticable to ascertain the facts sufficiently, some presumption has
to be invoked to fill the gap."- Holding that there was no such statutory rule
prohibiting the commercial practice of providing for such an estimated
liability for each year, he compared the: two systems and observed at pp.
351-352 as follows:
"Now the question is how ought the
effects of this statutory scheme to be reflected in the appellant's accounts of
the annual profits arising from its trade? One way, which is certainly the
simplest one, is to let the payments made fall entirely as expenses of the year
of payment and ignore any question of making provision for the maturing obligation
during the years of service that precede it ............ It has one
considerable advantage; no element of estimate or valuation appears in the
profit assessment and nothing is charged to profits except the actual cash
outgoing. But, when this has been conceded, I think that there is the very
serious disadvantage to be set against the inefficient method of arriving at
the true profits of any one year. The retirement benefit is not obviously paid
to obtain the services given in the year of retirement. The incident of
retirement payments must be variable from year to year, and (1)  A.C.
765 they may inordinately depress the profits
of one year just as they may inordinately inflate the profits of another. It is
true that the company carries on business from one year to another, but it is
not charged on the average of its annual profits. Tax rates and allowances
themselves vary and, apart from that, to charge tax on a profit unduly
accelerated or unduly deferred is, in my opinion, no more respectable an
achievement than to admit that the annual accounts of business do in some cases
require the introduction of estimates or valuations if a true statement of
profit i,s to be secured.
Another method is that which the appellant is
seeking to establish with regard to its assessments for the four years 1947-
1950 ..... What the appellant claims the right to do is to charge against each
year's receipts the cost of making provision for the retirement payments that
will ultimately be thrown upon it by virtue of the fact that it has had the
benefit of its employees' services during that year. As a corollary it will not
make any charge to cover the actual payments made in the year in respect of
retirement benefits. Only by such a method, it is said, can it bring against
the receipts of the year the true cost of the services that it has used to earn
those receipts. Generally speaking, this must, I think, be true. For, whereas
it is possible that any one of its many employees may forfeit his benefits and
so never require a payment, the substantial facts of the situation are that
when the company has paid every salary and wage 'that is due for current
remuneration of the year it has not by any means wholly discharged itself of
the pecuniary burden which fails upon it in respect of the year's
employment." Agreeing with the company's claim he observed that provision
for retirement payments would give an accurate reflection of the true costs of
earning the year's receipts than merely charging against them the year's payment
to employees who retired in the year.
That there is no rule against providing for
any such contingent liability but on the contrary such a provision is
permissible can be seen from the form of balance-sheet in Schedule VI to the Companies
Act, 1956 where provisions for taxation, dividends. Provident fund schemes,
staff benefit schemes and other items for which a company is contingently
liable are to be treated as current liabilities and, therefore, dubitable
against the gross receipts. Schedule VI, Part 2, lays down the requirements of
profit and loss account and el. 3 (ix) of it provides that a profit and loss
account shall set out amongst other things the aggregate of amounts set aside
or provisions made for meeting Specific liabilities, contingencies or
commitments. But the contention was that though Schedule VI to the Companies
Act may permit a provision for contingent liabilities, the Income-tax Act, 1961
does not, for under sec. 36(v) the only deduction from profits and gains
permissible is of a sum paid by an assessee as an employer by way of his
contribution towards an' approved gratuity fund created by him for the
exclusive benefits of his employees under an irrevocable trust This argument is
plainly incorrect because sec. 36 deals with expenditure deductible from out of
the taxable income already assessed and not with deductions which are to be
made while making the P & L account. In our view, an estimated liability
under gratuity schemes such as the ones before us, even if it amounts to a
contingent liability and is not a debt under the Wealth Tax Act if properly
ascertainable and its present value is fairly discounted is deductible from the
gross receipts while preparing the P & L account. It is recognised in
trading circles and we find no rule or direction in the Bonus Act which
prohibits such a practice.
The next question is whether the amount so
provided is a provision or a reserve. The distinction between a provision and a
reserve is in commercial accountancy fairly well- known. Provisions made
against anticipated losses and contingencies are charges against profits and,
therefore, to be taken into account against gross receipts in the P & L
account and the balance-sheet. On the other hand, reserves are appropriations
of profits, the assets by which they are represented being retained to form
part of the capital employed in the business. Provisions are usually shown in
the balance-sheet by way of deductions from the assets in respect of which they
are made whereas general reserves and reserve funds are shown as part of the
proprietor's interest: (See Spicer and Peglar's Book-keeping and Accounts, 15th
ed. p. 42). An amount set aside out of profit and other surpluses, not designed
to meet a liability contingency commitment or diminution in value of assets
known to exist at the date of the balance-sheet is a reserve but an amount set
aside out of profits and other surpluses to provide for any known liability of
which the amount cannot be determined with substantial accuracy is a provision,
(see William Pickles Accountancy, Second Edn., 192, Part III, cl. 7, Sch. VI to
the Companies Act, 1956 which defines provision and reserve).
Under sec. 23 of the Bonus Act, there is 'a
presumption of the genuineness of the P & L account produced by the company
unless it is challenged in the manner provided therein. The Company's case was
that the estimated liability under the gratuity schemes in respect of the
accounting year was ascertainable with fair accuracy under the actuarial
valuation and Rs. 16 lacs which it took into account while making it P & L
account was the 767 present discounted liability. This position does not seem
to have been disputed before the Tribunal. The principal contention urged
against that figure was not that the estimated liability was not ascertainable
or as in the case of Southern Railway of Peru(1) that it did not represent the
present discounted value, but that the Bonus Act permits only the deduction of
the amount actually paid during the accounting year. This was also the
principal contention of Mr. Chari before us. Mr. Ramamurthi, appearing for one
of the interveners, argued that though it may be possible to take into account
such a contingent liability in arriving at the true profits and gains under the
Income-tax Act, it would not be so under the Bonus Act as the scheme of the Act
treats the accounting year as a unit and, therefore, reserves or provisions on
the footing of estimated liabilities to be paid in future cannot be taken into
account. But under the Income-tax Act also the previous year is a unit and it
is only the profits and gains during that year which are taxable. If under the
Income-tax Act an estimated liability ascertainable with substantial accuracy
can be taken into account for arriving at the true profits and gains, there is
no reason why the same cannot be done under the Bonus Act unless 'there is any
provision therein forbidding such a practice recognised by commercial
accountancy. No such provision was shown to exist in the Bonus Act.
The Tribunal in allowing Rs. 10 lacs out of
the estimated 'Rs. 16 lacs impliedly accepted the principle canvassed by the
company. It, however, allowed only Rs. 10 lacs because it thought it to be
excessive as in some prior years the Company had deducted Rs. 5 lacs. But this
was not done on the ground that the estimate of Rs. 16 Iacs was not warranted
on any valuation. In our view, in the absence of any challenge as to the
correctness of the valuation and in the absence of any challenge that such
liability cannot be estimated on any fair standard, the Tribunal ought to have
allowed the whole of Rs. 16 lacs to be deducted while arriving at the net
profits in the P & L account.
Turning now to the appeal filed by the
employees two question besides those already disposed of were raised: one
dealing with interest on capital reserve and the other relating to the amount
of direct taxes to be deducted from the gross profits.
As regards the first question, Verma's
evidence was that the Company had revalued its fixed assets in 1956.and
credited the difference of Rs. 57 lacs between its cost and the value fixed on
such revaluation, to the capital reserve. The Tribunal accepted the valuation
as bona fide and allowed interest on the said reserve at 6 per cent in
accordance with sec. 6(d) and el. 1 (iii) of the 3rd Schedule. Mr.
Chari's contention was that the revaluation
(1)  A.C. 334.
768 by the director in 1956 was fictitious;
that the difference of Rs. 57 lacs was a mere book adjustment and did not add
to the wealth of the Company and though that amount was transferred to the
capital reserve it was not as if any additional amount became available for the
Company's business and therefore, no interest was permissible on such an
artificial amount. At first blush it would seem as if there is some force in
this contention, for it would be possible for a company to deflate its gross
profits by fictitiously revaluing its fixed assets at regular intervals red
claiming interest on the excess by carrying such excess to capital reserve and
to reduce thus labor's claim to bonus. In the present case the revaluation was
made as early as in 1956 and it does not appear that it was ever objected to
either by 'the Company's auditors or by any one else concerned with the
It cannot, therefore, be legitimately said
that it was done for any oblique purpose, much less with a view to defeat the
labor's claim to bonus. It is true that such revaluation does not bring in any
tangible additional amount into the company's coffers which it can use for its
business. But under sec. 211 of the Companies Act every balance-sheet of a
company must give a true and fair view of the state of affairs of the company
as at the end of the financial year.
Sch. VI to the Companies Act also provides
that where sums have been written off on a reduction of capital or a
revaluation of assets the balance-sheet subsequent to such reduction or
revaluation must show the reduced or the increased figures as the case may be.
Apart from the provisions of the Companies Act, it is a recognised principle of
accountancy to transfer the increased value of assets on revaluation to a
capital reserve account. Such an increased figure is an unrrealised accretion
in the value of a fixed asset. (see Pickles Accountancy 2nd Edn. pp. 103 and
935). So that the fact such an increased figure does not actually bring in any
additional amount to the Company does not make the capital reserve any the less
Nor is it possible to postulate that if such
a claim is allowed to be deducted, the management would go on artificially
inflating the value of the fixed assets with a view 'to claim interest. In the
first place, if such an inflation is made mala fide, the Tribunal can always
reject it. In the second place, it is hardly profitable for a company to resort
to such a practice for under the Wealth Tax Act the company would be liable to
an increased assessment. Section 7(2) of that Act provides that where an
assessee is carrying on a business for which accounts are maintained regularly,
the Wealth Tax Officer may instead of determining separate the value of each
asset held by the assessee determine the net value of the asset of the business
as a whole having regard to the balance sheet of such business as on the
valuation date. In Kesoram Industries v. Commissioner of Wealth Tax(1) the
assessee sought (1)  2 S.C.R. 688.
769 to argue exactly what Mr. Chari
contended, namely, that the revaluation of the assets made by him did not
represent the true value of the assets. That contention was rejected and this
Court held that the Wealth Tax Officer was entitled to rely on such revaluation
and proceed to assess on the basis of the net wealth shown as a result of such
revaluation. We do not, therefore, see any justification for the apprehension felt
by Mr. Chaff, for, by trying to reduce the gross profits, the Company would
land itself into being assessed on a higher net wealth. The Tribunal was, in
our view, right in accepting the figure of Rs. 57 lacs and deducting interest
thereon from the gross profits.
There remains now the question regarding
computation of direct taxes. Section 6(c) of the Act provides:
"subject to the provisions of section 7,
any direct tax which the employer is liable to pay for the accounting year in
respect of his income, profits and gains during that year;" Section 7
inter alia provides:
"For the purpose of clause (c) of
section 6, any direct tax payable by the employer for any accounting year
shall, subject to the following provisions. be calculated at the rates applicable
to the income of the employer for that year, ..........
The Company claim a deduction from the gross
profits of Rs, 145 lacs as direct taxes. It had made provision, however; for
Rs. 130 lacs for direct taxes in the P & L account. In its computation it
had made a provision for Rs.
136 Iacs. At the stage of the evidence and
arguments it contended however that the proper amount would be Rs. 145 lacs. It
claimed that direct taxes are to be worked out under sec. 6(c) on the gross
profits worked out under sec. 4 less the prior charges allowable under sec, 6,
namely, depreciation and development rebate, but without deducting from such
balance the bonus payable by the Company in the particular accounting year. The
Tribunal accepted the contention and allowed Rs. 145 lacs. as direct taxes to
be deducted under s. 6 (c).
This conclusion has been seriously disputed
by the Unions.
Mr. Chari's argument was that the Act lays
down its own statutory formula for working out available surplus and allocable
surplus, that the deduction from gross profits allowable are those permissible
under the Act, namely, depreciation admissible in accordance with the
provisions' of sec. 32(1) of the Income-tax Act, the development rebate and
subject to the provisions of sec. 7 of the Act, the amount of direct taxes
which the employer "is liable to pay" for the accounting year in
respect of "his income, profits and gains during that year". Mr.
Chari laid stress on the 770 words "is liable to pay"' and "in
respect of his income, gains and profits during that year" and argued that
inasmuch as cl. (c) incorporates 'the language of the Income-tax Act, it
contemplates that the employer is entitled to deduct his actual tax liability.
Such liability, therefore, is to be worked out in accordance with the
provisions of the Income- tax Act and other relevant Acts by first arriving at
the actual taxable income, gains and profits under those Acts and then
computing the taxes at rates provided by them for that particular accounting
year. He argued that since cl.
(c) is subject to the provisions of s. 7, the
only departure permissible under the Act is that which is provided in s. 7.
His contention thus was that the Tribunal
must start its calculations from the net profit shown in the P & L account
which would have made provision for direct taxes and then deduct from the gross
profits calculated under s. 4 the prior charges permissible under s. 6. The
provision for direct taxes made in the P & L account would be computed
after deducting from the gross receipts such deductions, allowances, reliefs,
rebates, credits etc. as are permissible under the Income-tax Act which would
include the bonus amount payable during the year, for, without such deduction
the P & L account cannot reflect the true net profit of the employer. The
Company's contention, on the other hand, was that the employer is entitled to
compute his tax liability without deducting first the amount of bonus he would
be liable to pay from out of the amount computed under s. 4 and s. 6. Mr. Palkhiwala
submitted from the different provisions of the Act that the concept of actual
tax liability under the Income-tax Act is foreign to the Bonus Act inasmuch as
the Bonus Act is concerned with gross profits calculated in accordance with s.
4 and Sch. II, and that s. 7 to which s. 6(c) is made subject, militates
against the concept of actual tax liability as worked out under the Income-tax
Act. The contention was that prior to the enactment of the Act when available
surplus was worked out under the Full Bench Formula bonus was not deducted
while arriving at. the amount of income-tax deductible from gross profits, that
Parliament could not possibly have contemplated a departure from the course
followed in a number of decisions both of courts and tribunals and suddenly
decided to incorporate into this Act the complicated and elaborate provisions
of the Income-tax Act and throw the burden on Industrial Tribunals to work out
deductions, allowances, reliefs, rebates etc. under the Income-tax Act and then
finally to assess the actual tax liability. It was submitted that what has to
be done by the Tribunal is first to work out gross profits under s. 4 and Sch.
II and then to deduct there from the prior charges under s. 6 (a ) and (b) and
estimate direct taxes on the balance and thus arrive at the available surplus.
The controversy thus is one of principle rather than on the amount deducted by
the Tribunal by way of direct taxes.
771 Before we attempt to resolve this
controversy, it will be worth our while to recount the principle consistently
follow before the passing of this Act, not with a view to interpret s. 6(c),
but to ascertain whether Parliament has made a departure from that principle
and laid down a new procedure on which direct taxes are to be computed. Mr. Chari's
contention was that the Bonus Act is drafted on a clean slate giving a go-bye
to the earlier principle of working out bonus, and, therefore, we must proceed
on the footing of the language used in s. 6(c). At first sight it would appear
that the language of el. (c) lends support to his contention. But acceptance of
that contention would mean incorporating into the Bonus Act the elaborate and
complicated provisions of not only the Income-tax Act but other Acts levying
direct taxes and throwing a considerable burden on Tribunals, least equipped
with working out the provisions of those Acts entailing inevitably prolonged
enquiries. Therefore, we must proceed cautiously in examining the scheme of.
the Act before we conclude on the interpretation to be given to s. 6(c) and s.
Calculating the avail. able surplus under the
Full Bench Formula used to work out nationally the amount of bonus which they
thought would be awarded and deducted that amount from the gross profits, on
the remaining balance of which, income tax payable by the employer would be
determined. The result of this procedure was that the amount of tax so worked
out was proportionately less.
Deprecating this procedure, Gajendragadkar,
J., (as he then was) observed in Associated Cement Companies Ltd. v. The
Workmen(1) as follows:
"Logically it is only after all the
prior charges have been determined and deducted from the gross profits that
available surplus can be ascertained; and it is only after the available
surplus is ascertained that the question of awarding bonus can be considered.
Some tribunals seem 'to work out nationally
the amount of bonus which they think can be awarded and placed that amount
higher up in the process of making, calculations before the income-tax payable
is determined .... We wish the make it clear that this procedure should not be
followed." In Crompton Parkinson (Works) Private Ltd. v. Its Workmen(2)
disapproval of the said procedure was once again voiced, Das, C.J. observing
that such a procedure is certainly not giving effect to the bonus formula
"but amounts to ad hoc determination which may vary according to the
length of the proverbial foot of the Lord Chancellor and is bound to lead to
chaos and industrial unrest." In Workmen of India Explosives Ltd. v. Indian
Explosives (1)  S.C.R 925at974. (2)  Supp. 2S.C.R.
772 Ltd.(1) the labour relied on the report
of the Directors which was to the effect that no income tax was payable on the
year's result and a total of Rs. 62.39 lacs made up of income tax and
development rebate was being carried forward.
On this report it was argued that no.
deduction should be made for income tax. Negativing 'the contention it was held
that in the application of the Full Bench Formula the deduction of income tax is
notional, the gross profits are arrived at by adding back certain items to the
net profits and then the gross profits are reduced by making certain notional
deductions, one such deduction is under the head of income tax. It was held
that this deduction is not made on the actual amount payable, but what would be
nationally payable on the profits determined under the Full Bench Formula and
that if the argument on behalf of the labour were to be accepted the Tribunal
would in effect not be applying the formula. Similar observations are to be
found in several other decisions but we need not add them here.
The question is whether the concept of
notional tax liability which was adopted so long was laid aside by Parliament
when it enacted s. 6(c) and s. 7 and replaced the concept of actual tax
liability. To answer this question we must examine the scheme of the Act and
Sch. II. Broadly speaking, it can be safely said that Parliament has retained
the main outlines of the Full Bench Formula in the Act. It maintained, for
instance, the accounting year as the unit, the principle that the employer, and
where it happens to be a company, the company and its shareholders and labour
as are each entitled as contributories to the profits to a share therein, the
deductions of certain prior charges, the concept of gross profits etc. which
were the features of the Formula. The principal change it introduced was the
statutory formula of minimum and maximum bonus and the corollary flowing there from
of "set on" and "set off" and the doing away of
rehabilitation as a prior charge against which labour had clamored long. But do
these changes envisage the doing away of the concept of notional tax liability
which the Tribunals used to work out and substituting actual tax liability by first
working out the taxable income of, the employer under the Income Tax Act and
other Acts ? The answer of course, must be found from the provisions of the Act
and not from what used to be done before its enactment.
Sections 4, 5, 6 and 7 together with the
Schedules deal with computation of gross profits and available surplus out of
which 67% in cases falling under el. (a) of sec. 2(4) and 60% in cases falling
under cl. (b) of that sub-section would be the allocable surplus. Under Sch.
II, which applies to establishments which are not banking companies, the
starting point is the net profit (1)  2 L.L.J; 313.
773 shown by the employer in his P & L
account. The reason for doing so seems to be that the Tribunal is not expected
ordinarily to reopen the P & L account, verify the accounts from which it
is worked out or find. out for itself 'the true net. profit. Parliament was
award that Tribunals which would adjudicate disputes under the Act would be the
least efficacious for such a purpose, apart from the fact that such enquiries
would be prolonged and bitter enquiries.
That is why s. 23 was enacted to raise a
presumption about the correctness of 'the P & L account and balance-sheets
of companies duly certified by auditors qualified under s. 226 of the Companies
Act, 1956. Since the P & L account would have taken into account, besides
expenditure allowable under the Income Tax Act, bonus payable to labour,
provisions for tax, development rebate or development allowance and reserves,
Item 2 of Sch. II requires these amounts to be added back. Similarly, the
amounts set out in Items 3 & 4 in Sch. II are also to be added back. Item 5
provides for certain deductions' such as capital receipts, capital profits,
profit and receipts relating to business outside India, income of foreign
concerns from investments outside India etc. It is clear from the nature of
these deductible items that they are items in which generally labour would not
have made any contribution. Having thus arrived at the gross profits, s. 6
provides for deduction of prior charges Set out in cls. (a), (b), (c) and (d).
Clause (a) allows the deduction of depreciation admissible under s.
32 ( 1 ) of the Income Tax Act or a similar provision
under other Acts charging direct taxes, but not depreciation unabsorbed in any
earlier previous year by reason of there being no profits or gains chargeable
for that year or of such profits or gains being less than the allowance
allowable under s. 32(2) of the Income Tax Act. The result is that while making
his P & L account the employer would deduct both 'the depreciation
allowable under s. 32(1) as.
also the depreciation unabsorbed during the
The whole of Such depreciation, however, has
to be added back under item 2(b)of Sch. II while computing the gross profits.
Notwithstanding such adding back of depreciation allowable under both sub-secs.
1 & 2 of s. 32 of the Income Tax Act, the depreciation deductible under
s.6(a) of the Act is the one allowed under s. 32(1), that is, the depreciation
relating to the accounting year only and not the depreciation unabsorbed in any
earlier accounting year.
Similar is the position regarding bonus paid
during the accounting year but which relates to the earlier accounting years.
Even in the case of an employer keeping his accounts on mercantile basis, he
would not get a deduction of bonus though payable but not actually paid during
the accounting year. He would, however, be entitled to deduct such bonus from
his taxable profits and gains as expenditure incurred wholly for the business.
Under Sch. II Item 3(a) bonus, even though paid during the accounting year, has
to be 774 added back if it is deducted in-the P & L account. The net profit
in the P & L account: would thus not be the same as the available surplus
worked out under 'the Act, The same is the position of losses and expenditure
relating to a foreign business which though allowable under' the Income Tax Act
have to be added back to the net profit shown in the P & L account. As
already stated deductions permissible under Sch. 11 are those items in which it
can be said that labour -could have made no contribution in earning them So far
as development rebate is concerned, s. 6(b) allows the whole of such rebate
allowable under the Income 'Fax Act and, therefore, there would be no
difficulty in working out the development rebate under this head and the Income
Coming now to cl. (c) of s. 6, is it the
actual taxable income, the direct tax on which is a prior charge, which is to
be worked out, or the tax' on the estimated balance of gross profits after
deducting depreciation and development charges but without deducting the bonus
payable during the year ? In other words, when the Tribunal. reaches the stage'
of cl. (c), does it have to assess the taxable income in accordance with the
various provisions of the Income Tax Act just as an Income Tax Officer would do
and assess the liability of income tax on such taxable income according to the rates
applicable during the particular accounting year, or should it compute the
balance of gross profits and as stated above and apply the said rates and
estimate the amount of direct tax and deduct them from the remain gross
profits? Bonus being payable within eight months after the close of the
accounting year in cases where there is no dispute pending before an authority
under s. ,22 of the Act as provided by s. 19, it is hardly possible, except in
rare cases, that assessment under the Income Tax Act and other such Acts would
be completed by the time bonus has to be paid; Therefore, the Tribunal would
not have before it the taxable income assessed by the Income Tax and other such
officers. If the Unions' contention were to be right, there would be two or
more parallel authorities working under this Act and the Income Tax Act and
other such Acts who would have to assess taxable income and the tax payable
thereon, before all of whom the employer would have to prove his taxable
income. Prima facie, it would seem that the Bonus Act could not intend an
enquiry into the actual taxable income worked out under all the elaborate
provisions relating to deductions, allowances, reliefs, rebates etc.
provided by the Income Tax Act and other such
Acts. This is particularly so as in each bonus dispute the Tribunal not
equipped with the detailed knowledge of all such Acts would have to undertake
an. enquiry into the various deductions, rebates. reliefs etc. claimable by the
employer under those Acts. The fact that payment of bonus cannot broke delay
without causing 775 hardship to labour would seem to militate against the
possibility of such prolonged enquiries.
The key to the words in s. 6(c), namely,
"is liable to pay" emphasised on behalf of the unions and some of the
interveners lies in the opening words "subject to the provisions of
section 7" in cl. (c). These words are used, whether the tax liability is
to be calculated on actual taxable income or on the notional amount worked out
under ss. 4 and 6 and Sch. II, because the direct taxes payable by the employer
are to be calculated at the rates applicable during that year as provided by s.
7. That both such amounts cannot be the same is clear because s. 7 in express
terms prohibits taking into account unabsorbed losses and arrears of
depreciation allowable under s. 32(2), the exemption allowed under s. 84 and
the deduction allowed under s. 101(1) of the Income Tax Act. Similarly, where
an assessee is a religious or charitable institution and its income either
wholly or partially, as the case may be, is exempt under the Income Tax Act,
such an employer to whom s.
32 of the Act does not apply is treated as a
company in which the public are substantially interested and its income is to
be assessed accordingly by the Tribunal and compute its liability for direct
taxes. Clause (c) of s. 7 does away for the purposes of ss. 6 and 7, the
distinction between the liability of an individual and a Hindu Undivided Family
under the Income Tax Act and provides that the income derived by such a Hindu
Undivided Family is to be treated as the income of that employer as an
individual. Likewise, where profits and gains of an employer include profits
from export, a rebate allowed under the Income Tax Act on such profits is not
to be taken into account while working out the tax. liability under s. 6(c).
Also, the rebate allowed under any of the Acts levying direct taxes on sums
spent on development of an industry is also not to be taken into account while
computing the tax liability. It was, however, argued that the provisions of s.
7 lay down the only departure from the Income Tax Act and that except for that
departure the Tribunal must assess the actual taxable income and arrive at the
tax liability thereon at rates prevailing during the accounting year in
question. In our view this submission is not correct. What s. 7 really means is
that the Tribunal has to compute the direct taxes at the rates at which the
income, gains and profits of the employer are taxed under the Income Tax Act
and other such Acts during the accounting year in question. That is the reason
why s. 6(c) has the words "is liable for" and the words "income,
gains and profits". These words do. not, however, mean that the Tribunal
while computing direct taxes as a prior charge has to assess the actual taxable
income and the taxes thereon. How can the Tribunal arrive at the amount of
bonus to be paid to labour without first estimating the amount of taxes and
deducting it from the gross profits and thus ascertaining the 776 available
surplus ? If it were to reverse the process and first deduct bonus and
ascertain the tax amount, it would have to do so on a somewhat ad hoc figure
thus bringing about the same result deprecated by this Court in decisions
referred to above. This and the other difficulties already pointed out must
deal to the result that the Tribunal must estimate the amount of direct taxes
on the balance of gross profits as worked out under ss. 4 & 6, but without
deducting the bonus, then work out the quantum of taxes thereon at rates
applicable during that year to the income, gains and profits of the employer
and after deducting the amount of taxes so worked out arrive at the available
surplus. Section 6(c) being subject to s. 7 the computation has to be done
without taking into account the items specified in s. 7(a) and in the manner
prescribed by the remaining clauses of that section. This interpretation is
commendable because: (1 ) it is consistent with the words "is liable to
pay" in s. 6(c), (2) it is in harmony with the provisions of ss. 4 and 6
and Sch. 11, and (3) it is consistent with the intention of Parliament apparent
from the scheme of computation of available surplus in the Act. The Act
recognises the principle laid down in the Full Bench Formula that both labour
and capital are entitled to a share in the profits.
That is why 40 p.o. of the available surplus
is left to the capital and interest is allowed to the employer on paid up and
working capitals while working out the gross profits.
Parliament besides was or at any rate is
presumed to have been aware that depreciation allowed under the Income Tax Act
would not be sufficient for rehabilitation purposes. It did away with
rehabilitation as a prior charge partly became there were complaints that it
was being ill-used, but partly also because it knew that the rebate in Income
Tax Act on bonus paid would go to the employer with which he could recoup the
depreciation which would be larger than the one allowed under s. 32 of the
Income Tax Act. In our view it was for that reason that it did not lay down
that bonus is to be deducted before computing the amount on which direct taxes
are to be calculated under s. 6(c). If Parliament intended to make a departure
from the rule laid down by courts and tribunals that the bonus amount should be
calculated after provision for tax was made and not before, we would have.
expected an express provision to that effect either in the Act or in the
Schedules. 'In our view the contention urged by the Company that the tax liability
is to be worked out by first working out the gross profits and deducting there from
the prior charges under s. 6 but not the bonus payable to the employees is
In the result, the appellant Company succeeds
on the questions of development rebate and the provision for gratuity amount.
Its appeal on those questions is therefore allowed and to that extent the award
is set aside. As regards the question of depreciation 777 amount the Tribunal
will ascertain the amount afresh after giving the parties opportunity to lead
such evidence as they desire and taking that amount and the amounts of
development rebate and' of the provision for gratuity in the light of this
judgment, the Tribunal will adjust it award and arrive at the quantum of bonus
payable to the workmen.
Appeal by workmen is dismissed. There will be
no order as to costs.
R.K.P.S. Appeal by Company allowed in part.
Appeal by Workmen dismissed.