Chainrup Sampatram Vs. Commissioner of
Income-Tax, West Bengal  INSC 61 (9 October 1953)
SASTRI, M. PATANJALI (CJ) DAS, SUDHI RANJAN
BOSE, VIVIAN HASAN, GHULAM BHAGWATI, NATWARLAL H.
CITATION: 1953 AIR 519 1954 SCR 211
CITATOR INFO :
RF 1991 SC1338 (17)
Indian Income-tax Act (XI of 1922), ss.
4(1)(b) and 14(2)(c)-Ascertainment of profit by valuation of
stock-Stock-in-trade removed to Native State-Place where profit accrues
-Exemption under s. 14 (2) (c)-Principles underlying valuation of stock.
The assesses firm which carried on business
at Calcutta in bullion despatched during the accounting year to Bikaner, where
its partners resided, a certain quantity of silver bars and showed them a,;
having been sold to the partners.
The Income-tax authorities disbelieved the
story of the sale and, treating the bars as stock-in-trade and valuing them at
their market value at the close of the year which was much higher than the
cost, assessed the firm's profits at Rs. 2,20,887. The assessee contended that,
even admitting that the bars were the stock-in-trade of the business, the
increased value at the close of the year accrued at Bikaner and was exempt from
tax in British India under s. 14(2)(c) of the Income-tax Act. The High Court
held that the notional profit representing the appreciation in value of the
stock-in-trade emerged out of the valuation and the profit accordingly arose at
the time when, and at the place where, the valuation was made, and as the
valuation was made at Calcutta s. 14(2)(c) did not apply and the profit was
taxable. On appeal, 212 Held, that the view of the High Court that the profit
&rose out of the valuation of the closing stock and the situs of its
accrual or arising was therefore where the valuation was made, was erroneous.
The conclusion of the High Court that the profit did not accrue in Bikaner but
at Calcutta could, however, be supported on another ground, viz., that the
source of the profit was the business and as the profit could be correctly
ascertained according to the method adopted by the assessee only after bringing
into the trading account his closing stock wherever it may exist, the whole of
the profits must be taken to accrue or arise at the place of carrying on the business,
viz., Calcutta, The principles underlying the method of ascertaining profits by
valuation of stock at the beginning and close of the year and of the rule that
the closing stock is to be valued at cost or market value, whichever is the
Whimstar and Co. v. Commissioners of Inland
Revenue (12 Tax Cas. 813) and Commissioner of Income-tax, Madras v. Chengalvaraya
Chetty (I.L.R. 48 Mad. 836) referred to.
CIVIL APPELLATE JURISDICTION Civil Appeal No.
142 of 1952.
Appeal by special leave granted by the
Supreme Court by its order dated the 14th March, 1952, from the Judgment and
Order dated the 4th day of June, 1951, of the High Court of Judicature at
Calcutta (Chakravartti and Das Gupta JJ.) Special Jurisdiction (Income-tax) in
I.T.R. Nos. 7 and 6 of 1947 arising out of the Order dated the 26th day of
March, 1946, of the Income-tax Appellate Tribunal, Calcutta Bench, in 66 R.A.
No. 3 Bengal 1946-47 and 66 R.A. No. 4 Bengal 1946-47.
N.C. Chatterjee (S. N. Mukherji, with him)
for the appellant.
C.K. Daphtary, Solicitor-General for India
(O. N. Joshi, with him) for the respondent.
1953. October 9. The Judgment of the Court
was delivered by PATANJALI SASTRI C. T.-This is an appeal by special leave from
a judgment of the High Court of Judicature at Calcutta answering a reference by
the Income-tax Appellate Tribunal under section 66 (2) of the Indian Income-tax
Act, 1922, hereinafter referred to as "the Act".
213 The appellant is a registered firm
consisting of two brothers as partners with equal shares. The firm was carrying
on business at Calcutta as bullion merchants dealing mainly in silver and kept
its books of account on the mercantile basis. In the course of the year of
account 1997 (Ramnavami) corresponding to 1941-42, 582 bars of silver (some
from the old stock in hand at Calcutta and some purchased elsewhere during the
year) were sent to Bikaner where the partners resided, and their value at cost
was credited in the books of the firm. In the assessment of the firm for the
year 1942-43, it was alleged that the said silver bars had been sold to the
partners for their domestic use but the Income-tax authorities held that the
alleged sale was not "genuine and that the said silver bars still formed
part of the stock-in-trade of the firm at the close of the previous year 1997,
and they accordingly included in the taxable profits a sum of Rs. 2,20,887 as
the excess arising from the valuation of the said 582 bars at market price on
the closing day. They were valued at market rate at which the rest of the
closing stock at Calcutta was valued in the books of the firm.
On appeal the Appellate Tribunal, on a
consideration of all the facts and circumstances of the case, recorded its
finding as follows:
"All these circumstances make it clear
to us that the action of the Income-tax authorities in treating the stock of
silver bars in Bikaner as part of the stock-in-trade of the Calcutta business
was amply justified. The appellant on account of the panic in Calcutta had to
remove the valuable stock-in-trade to a safe place in Bikaner just as many
other Calcutta businessmen did at that time. The partners of the firm then
noticed the upward trend of the silver market, and decided to take advantage of
the camouflage afforded by the entries in the books of account and the story of
sale to partners, so that the profit of the year of account could be
substantially reduced artificially." The appeal was accordingly dismissed.
The application by the firm under section 66(1) of the Act asking 29 214 for a
reference to the High Court of six questions as questions of law arising out of
the order of the Tribunal was also rejected.
Thereupon the firm moved the High Court under
section 66(2), and the court directed the Tribunal to refer the following
question of law for its decision:
Whether in the circumstances of the case and
on a true construction of section 4 (1) (b) and section 14 (2) (c) of the
Indian Income-tax Act, the sum of Rs. 2,20,887 was in law assessable to tax ?
The reference was heard by Chakravartti and Das Gupta JJ., who answered the
question in the affirmative.
The firm being admittedly resident and
ordinarily resident within the meaning of sections 4-A and 4-B in what was then
known as British India, its total income would include also income accruing or
arising to it without British India under section 4 (1) (b) (ii). The firm,
however, claimed exemption in respect of the said sum under section 14(2)(c)
which provided that the tax shall not be payable by an assessee in respect of
any income, profits or gains accruing or arising to him within an Indian State.
It was contended that even on the finding of the Income-tax authorities that
the silver bars in question formed part of the stock-in-trade of the business
at Calcutta and their removal to Bikaner had been effected only for reasons of
security, the said bars having remained there during the rest of the accounting
year, their value at the market rate at the close of the year being an
increment to the goods at Bikaner, the profit accrued at Bikaner (their an
Indian State), with the result that it was exempted under section 14 (2) (c).
The High Court rejected this contention on
the ground that the " notional profit " represented by the
appreciation in value of the stock-in-trade " emerges out of the valuation
and only when it so emerges it arises or accrues.
The source of the profit is thus the
valuation, and its situs is where the valuation is made. What is valued is the
firm's business at the site of the 215 firm and all the stock-in-trade of the firm
is necessarily drawn into the valuation wherever they may be physically
situated. The profit which is the result of the stock valuation of a business
is thus sui generis, a type by itself, to which the ordinary notions of a
physical accrual will not apply. It comes into existence when the valuation is
made and since it arises out of the valuation, it arises, in respect of the
whole stock-in-trade, at the site of the firm whose stock-in-trade is being
valued irrespective of where parts of the stock-in-trade may be." While we
agree with the conclusion that no part of the profits of the firm in the
accounting year can be said to have accrued or arisen at Bikaner, the reasoning
by which the learned Judges arrived at that conclusion seems to us, with all
respect, to proceed on a misconception. It is wrong to assume that the
valuation of the closing stock at market rate has, for its object, the bringing
into charge any appreciation in the value of such stock. The true purpose of
crediting the value of unsold stock is to balance the cost of those goods
entered on the other side of the account at the time of their purchase, so that
the cancelling out of the entries relating to the same stock from both sides of
the account would leave only the transactions on which there have been actual
sales in the course of the year showing the profit or loss actually realised on
the year's trading. As pointed out in paragraph 8 of the Report of the
Committee on Financial Risks attaching to the holding of Trading Stocks, 1919,
" As the entry for stock which appears in a trading account is merely
intended to cancel the charge for the goods purchased which have not been sold,
it should necessarily represent the cost of the goods. If it is more or less
than the cost, then the effect is to state the profit on the goods which
actually have been sold at the incorrect figure...... From this rigid doctrine
one exception is very generally recognised on prudential grounds and is now
fully sanctioned by custom, viz., the adoption of market value at the date of
making -up accounts, if that value is less than cost. It is of 216 course an
anticipation of the loss that may be made on those goods in the following year,
and may even have the effect, if prices rise again, of attributing to the following
year's results a greater amount of profit than the difference between the
actual sale price and the actual cost price of the goods in question"
(extracted in paragraph 281 of the Report of the Committee on the Taxation of
Trading Profits presented to British Parliament in April, 1951). While
anticipated loss is thus taken into account, anticipated profit in the shape of
appreciated value of the closing stock is not brought into the account, as no
prudent trader would care to show increased profit before its actual
realisation. This is the theory underlying the rule that the closing stock is
to be valued at cost or market price whichever is the lower, and it is now
generally accepted as an established rule of commercial practice and
As profits for income-tax purposes are to be
computed in conformity with the ordinary principles of commercial accounting,
unless, of course, such principles have been superseded or modified by
legislative enactments, unrealised profits in the shape of appreciated value of
goods remaining unsold at the end of an accounting year and carried over to the
following year's account in a business that is continuing are not brought into
the charge as a matter of practice, though, as already stated, loss due to a
fall in price below cost is allowed even if such loss has not been actually
realised. As truly observed by one of the learned Judges in Whimstar & Co.
v. Commissioners of Inland Revenue(1), " Under this law (Revenue law) the
profits are the profits realised in the course of the year. What seems an
exception is recognised where a trader purchased and still holds goods or
stocks which have fallen in value. No loss has been realised. Loss may not
occur. Nevertheless, at the close of the year he is permitted to treat these
goods or stocks as of their market value." An illustration of the rule in
its practical working is to be found in the case of the Commissioner of
Income-tax, Madras v. Chengalvaraya Chetti(2). In 1921 the (1) 12 Tax Cas. 813,
827. (2) (1925) I.L.R. 48 Mad. 836.
217 assessee purchased a large stock of
piece-goods at Rs. 13-8 a piece. At the end of the year the market value fell
to Rs. 6 a piece, and he made out a loss by valuing the whole stock at the
market rate, including the unsold pieces in hand at the end of the year. The
loss was allowed in his assessment to income-tax. In the following year (1922),
however, he entered the same unsold goods as opening stock at the cost price of
Rs. 13-8. Some of those pieces remained unsold at the end of 1922 also and he
credited their value at Rs. 8-8 a piece, the market rate then prevailing, and
showed a loss on the year's trading. The Income-tax authorities refused to
allow the loss thus calculated, and assessed him as having made a profit on the
footing that the opening stock of 1922 should have been valued at Rs. 6 a piece
and the unsold pieces at Rs. 8-8 a piece. The assessment was upheld as properly
made, though, it will be seen, the transactions of 1922, or even of the two
years taken together, ended actually in a loss. Thus, while the valuation of
the unsold stock at the end of each year at market rate which was less than
cost was accepted, the valuation of the unsold goods carried over as opening
stock of 1922 at Rs. 6 a piece consistently with their valuation as the closing
stock of 1921 was insisted upon in order to rectify the distorted picture of
the trading results of 1921 which were not correctly reflected in the accounts
by reason of the assessee having adopted the lower market rate instead of cost
as the value of the closing stock in 1921. If the market had risen to, say, Rs.
15 instead of to Rs. 8-8 a piece at the end of 1922, then' on the principles
indicated above, it would have been open to the assessee to value the closing
stock at cost (Rs. 13-8), and the Income-tax authorities could not have claimed
to bring into the assessment the appreciated value of the unsold goods. It will
thus be seen that no question of charging the-appreciated value of closing
stock as " notional profits " can really arise. In the present case,
although it would appear that the cost price of part of the silver despatched
to Bikaner was less than the market price at the end of the year, the reference
did not raise any question regarding the 218 basis on which the amount in dispute,
viz., Rs. 2,20,887, was arrived at. On the other hand, the question referred
assumed that the said sum was correctly computed and put in issue only its
assessability in law on a true construction of section 4(1) (b) and section
14(2) (c) of the Act.
Again, it is a misconception to think that
any -profit " arises out of the valuation of the closing stock and the
situs of its arising or accrual is where the valuation is made. As already
stated, valuation of unsold stock at the close of an accounting period is a
necessary part of the process of determining the trading results of that
period, and can in no sense be regarded as the " source " of such
profits. Nor can the place where such valuation is made be regarded as the
" situs of their accrual ". The source of the profits and gains of a
business is indubitably the business, and the place of their accrual is where
the business is carried on. As such profits can be correctly ascertained
according to the method adopted by an assessee only after bringing into the
trading account his closing stock wherever it may exist, the whole of the
profits must be taken to accrue or arise at the place of carrying on the
business. On the finding of the Income-tax authorities that the 582 bars of
silver lying at Bikaner had not been really sold but remained part of the
unsold stock of the firm's business at the end of the accounting year, the
whole of the profits of that year must be taken to have accrued or arisen at
Calcutta where the business was carried on, no part of that business having
admittedly been transacted at Bikaner.
We agree with the High Court that the
question referred should be answered in the affirmative though on different
grounds. The appeal is accordingly dismissed with costs.
Agent for the appellant: P. K. Mukherji.
Agent for the respondent: G. H. Rajadhyaksha.