M/S
Amalgamation Pvt. Ltd. Vs. Commissioner of Income Tax, Madras [1997] INSC 464 (25 April 1997)
S.C.
AGRAWAL, K.S. PARIPOORNAN
ACT:
HEADNOTE:
W I TH
CIVIL APPEALS NOS. 7-11 OF 1980 JU D G ME N T S.C. AGRAWAL, J. :- These
appeals, by certificate of fitness granted by the Madras High Court under
Section 66(A)(2) of the Income Tax Act, 1922(hereinafter referredto as 'the
1922 Act') and Section261 of the Income Tax Act, 1961(hereinafter referred to
as'the 1961 Act') read with Article133 of the Constitution of India,are
directed against the Judgment of the Said High Court dated March 1, 1976 in Tax
Cases Nos. 160 of1969 and 239 of1971 (References Nos. 52 of 1969 and 1 of T.C.
No. 160 of 1969 "(1) Whether, on the facts and in the circumstances of the
case, the Tribunal was right in upholding the basis of valuation adopted by the
Income-tax officer for the shares in Messrs. Sri Rama Vilas Service (Private)
Ltd. as on January 1, 1954? (2) Whether, on the facts and in the circumstances of
the case, the Tribunal was right in holding that the proviso to section 12B(2)
has no application in regard to the sale of shares to M/s Simpson & Company
Ltd ?" T.C.No. 239 of 1971 "(1) Whether, on the facts and in the
circumstances of the case, the Tribunal was right in holding that the proviso
to section 12B(2) has noapplication in regard to the sale various sharesby the
assessee-company to M/s Simpson & General Finance Co. (Private) Ltd.
and
that the assessee wasentitled toa capital loss of Rs. 9,47,541/- inthe
assessment year 1958-59? (2) Whether, on the fact and in the circumstancesof
the case, the Tribunal was right in law in holding that the second proviso to
section 12B(2) had no application and that the full value of the consideration
accounted for by the assessee should not be altered ?" These questions
arise in the following facts and circumstances.
M/s
Amalgamation Private Limited (hereinafter referred to as 'the assessee-Company'
)is a company incorporated on December 22,1938
as a private limited Company. The assessee- companyheld shares in several
companies, such as simpson and Company Ltd., Addison & Company Pvt.
Ltd.,George Oakes (Private) Ltd., Addison Paints & Chemicals private Ltd.,
India pistons Private ltd., etc. Out of the issued capital of Rs. 7,50,000shares
of Rs. 10 in Simpson andCompanyLtd.
the
assessee-company held, atthe material time, 7,06,933 ordinary shares. Simpson
and Company Ltd, hada subsidiary by name simpson and General Finance Company
(private)Ltd, Carrying on the business offinancing by way ofhire purchase
transactions to outsiders and by wayof loans and advance to the companies of
this group. As onJuly 1,1956 a sum of Rs. 1,85,16,000/- was due to Simpson and
General Financecompany (Private) Ltd. from the assessee-company.
Under
Section 295 of the Companies Act,1956 which cameinto force on April1, 1956 no
company could, without obtaining the previous approval of the CentralGovernment
inthat behalf , directly or indirectly, make any loan to a company, which is
its holding company . In sub-section (3) of Section 295 itis provided that
where any loan madeby a lending companyand outstandingat the commencement of
the companies ace, 1956, could not have been made withoutthe previous approval
of the Central Government If that section hadthen been in force,then the
lending company had to, within six months from thecommencement ofthe Actor
suchfurthertime not exceedingsix months asthe Central Government might grant
for thatpurpose, either obtain the approval of the Central Government to the
transaction orenforce the repayment ofthe Loan made. The liability of Rs. 1,85,16,000/-
to Simpson and General Finance company (Private ) Ltd. by theassessee-company
was affected by the aforesaid provision and, therefore, itbecame necessary for
the asessee-company to liquidate this liability. Simpson and GeneralFinance
Company (Private) Ltd. owed a sum of Rs. 1,05,21,750/- to Simpson and
Companyltd. The assessee- companyapproached theGovernment of India for necessary approval to put
through certain transactions sale of shares held by it tosimpsonand General
Finance Company(Private) Ltd. in liquidation of the liability. Simpson and
General FinanceCompany(Private) Ltd.,in its turn, would discharge its liability
to Simpson and CompanyLtd. by selling its holdings to simpson and General
Finance Company (Private) Ltd. The assessee-company as well assimpsonand
General FinanceCompany (private) Ltd. proposed to sell the shares at certain
specified price per share and soughtthe approval of theCentralGovernment for
such sale .The Central Government, inapproving the sale, fixed its own prices
and stated that the said fixationwas without prejudice to any valuation
ofsharesfor purposesof capital gains.
Thereafter
the shares held by theassessee-company in variouscompanies in respect of which approval
hadbeen grantedby theCentral Government were transferred by the
assessee-company to Simpson and General Finance Company (Private ) Ltd. with
effect from June13,1957at the price fixed by the Company Law Administration
andSimpson and GeneralFinance company (Private) Ltd.sold part thereof to
Simpsonand Company Ltd. The Transaction between Simpson and GeneralFinance
Company (Private) Ltd. andSimpson and CompanyLtd. was also at the same prices.
Insubmitting
itsincome tax return for the assessment year 1958-59, the relevantprevious
yearendingJune 30,1957, the assessee-company claimed a capital loss of Rs. 4,37,703/-
in respect of theabove the transaction. In arriving at this lossthe
assessee-company opted for the substitution of the Market Value as on June1,
1954 in respectof shares in (1) S.R.V.S (Private) ltd., (2) Addison &
Company Ltd., (3) George Oakes (private Ltd., and (4) India Pistons (Private)
Ltd. As regards the rest of the shares,the assessee-company adopted the cost
prices. The Income Tax Officer, while making the assessment, proceeded on
thebasis that the pricestructure approved by the department of Company Law
Administration for the transfer of the aforesaid shares was pure and simple on
an add hoc basis and meant to serve the limited purpose of approval to be given
under section 372 of theCompanies Act, 1956 andthat the price at whichthe sales
took place couldnot, therefore, be taken to represent thefair market value of
the Shares. Hetook the break- up value as on January 1, 1954 for the purpose of computation of capital gains and
revisedthe sale pricesand arrived at Rs. 6,95,082/- as the net capital gains.
Even according to his computation there were certain capital determined by him.
In the case of S.R.V.S. (Private) Ltd. the Income Tax Officer took the break-up
valueas on January 1,1954 at Rs. 36,35,350/- and their sale value at
Rs.21,88,395/- resulting in the capital loss ofRs. 14,46,955/-.
The
assessee-company appealed against the assessment of the capital gains to the
Appellate Assistant Commissioner.
While
the saidappealwas pending, the Commissioner, of Income Tax proceeded Under
Section 33B of the 1922 Act as he was of the viewthat the order of the Income
Tax officer was erroneous and prejudicial to the interest of revenue in so far
ashe had wrongly allowed the capital lossamounting to Rs. 14,46,955/- on the
sale of thesharesin S.R.V.S. (Private) Ltd.After considering the submission of
the assessee-company, the Commissioner held that the appreciation in value of
the shares of Simpson and Company Ltd. held by S.R.V.S.(Private) Ltd.should not
havebeen taken into account and if the value of the shares held by
S.R.V.S.(Private) ltd.in Simpson & Company Ltd. , as on January1,1954had
been Rs. 24,38,578/- S.R.V.S. (Private) Ltd. would not have parted withthese
shares atcost onJuly 31,1955. The commissioner revised thecapital loss of Rs. 14,46,955/-
allowed by the Income Tax Officer and considered that there wascapital gain
liable for assessment of Rs. 3,91,579/-. This figure was directed to be substituted
and the assessment of capital gainswas revised accordingly.
The
assessee-company appealed against the said order of he Commissioner to the
Tribunal contending that thesale value fixed bythe Company law Administration
represented the correct value of the shares and the transactionswere withoutany
motive toavoid capital gain and they hadbeen necessitated by the various
provisionsof the Companies Act which prohibited inter-companyloans and that the
method adoptedby theIncomeTax officer, viz., the secondary valuation,
wasproper.The said appeal was allowed by the Tribunal and the order of the
Commissioner of Income Tax was set aside and the method adopted by the Income
Tax Officer of Secondary Valuationwas held to be proper, The Appellant
Assistant Commissionertook upthe appeals of the assessee- companyfor this and
other years subsequent tothe order of the Tribunal and following the Tribunal's
order he worked out the Capital loss in respect of the othershares under
consideration and in effect accepted the assessee-company's claim of capital
loss of Rs. 4,37,703/-. The said order led to appeals both by the
assessee-company and the Revenue to the Tribunal.The assessee-company's appeal
related to computation of the capital loss of Rs. 4,37,703/- as emerging from
the order of theAppellate Assistant Commissioner instead of Rs. 4,90,244/-
whichwould be the correctfigure. The Revenue contested the acceptance of the
Claim of the assessee-company with reference to the capital loss of Rs. 4,37,703/-as
shown in thereturns.
Onthe
first occasion when the matter come before the Tribunal; it remanded the case
to the Appellate Assistant Commissioner and called for aspecific finding
whether the sales under consideration were effected with the object of
avoidance of tax or reductionof liability totax andalso Wanted the full value
of considerationto be worked out, in case the first proviso to section 12B(2)
of the1922 Act was held to be applicable.The Appellate AssistantCommissioner
observed that there wasample evidence to show that thesale of shares was
aforced one and that theassessee-company had no option but to comply withthe
statutory provisions and that the evidence produced clearly established the
assessee- company's contention that the sale wasnot motivated by any desire to
avoid capital gainsand that the Revenue had not proved by any conclusive
evidence that the motive underlying the transaction was the avoidance or
reduction of the liability to capital gains tax.He worked out the figures in
accordance with the rules framed under the wealth Tax Act and found that
thepricesfixed by theCompany Law Administration were notvery much different
from the figures worked out byhim. After receivingthe report of the Appellate
Assistant Commissioner, theTribunal considered the matter again and held that
the proviso to Section 12B of the 1922 Act could not be invoked in the instant
case as there was no evidenceto support theview that the sales were effected
with a view to avoid the provisions of Section 12B. The Tribunal accepted the contention
of the assessee- companyand held thatthe Revenue was not justified in computing
the capital gains anddisturbing the figures fixed by theGovernment of India.
The two questions referred in T.C. No. 160 of 1969 arise outof proceedings
under Section 33B of the 1922Act, while questions Nos. land 2 referred in T.C.
No. 239 of 1971 arise outof the order ofthe Tribunal in theappeal againstthe
order of the Appellate Assistant Commissioner inrespectof the assessment year
1958-59.
Since
thesecond question in T.C. No. 160 of 1969 and questions Nos.1 and 2 in T.C.
No. 239 of 1971 raisedmore or less the same issue, they were taken up together
by the High Court. After referring to the provisions of Sections 12b (2) and
more particularly the first proviso to thesaid sub-section, the High Court has
observed that the first requisite for the applicationof the said proviso,
namely, that the person to whom the sale is made should be a person with whom
the assesseeis directly or indirectly connected, was satisfied in the present
case because the sale of shares to a subsidiaryof a subsidiaryis one to a
person withwhom the assessee-company isdirectly or indirectly or indirectly
connected. As regards the second requirement ofthe proviso, as to whether the
sale was effected with the object of avoidance or reductionof theliability of
the assessee- companyunder that Section, the High Court has pointed out that
the object with which the transaction was put through was the avoidance or
reduction of the liability to capita gains. According to theHigh Court, such a
finding of taking the result as if it was the object would not satisfy the
requirement ofthe first proviso to Section 12B(20 of the 1922 Act. The High
Court was of the view thatthe tribunal had rightly called fora finding on this
pointspecifically from the appellate Assistant Commissioner. After referring to
the finding recorded by theAppellate Assistant Commissioner, which was accepted
by the Tribunal, that the Object of the transaction wasnot toavoid or
reducesuch liability to capital gains tax, that the saleswas a forced case
since theassessee-company had no optionand that the prices had beenfixed by the
company law Administration, the High Court held that the first proviso to
Section 12B(2) cannot be attracted tothe present case. The High Court did not
accept thecontention urged on behalf of the Revenue that the sale price had
beenfixed by thecompany law Administration on ad hoc basisand, inthis context,
it has observed that the letter dated May 18of 1957(Annexure G.
VII. At
the remand report of theAppellate Assistant Commissioner) clearly shows that
the company Law Administration worked out the figures in consultation.with the
Central Board of Revenue and whenthe assessee-company sold the shares at those
prices, itcould not be validly contended thatthe assessee-company transferred
the shares at certain prices withthe object of avoidanceor reduction of
liability to capital gains. On that view the High Court answered the second
question in T.C. No.160 of1969 and the second question in T.C.No. 239 of 1971
in the affirmative and against theRevenue.
Asregards
the first question inT.C. No. 160 of1969 which raises the question of
valuation, the High Courtfelt that onthe view it hadtaken as regards the second
question it would not survive for considerationbecausethe question of valuation
would be materialonly ifthe proviso applied.
The
High Courthas, however, considered the said question and hasindicated the
answer tothat question also. TheHigh Court
has expressed the view that this is a case of substantial holding andthat there
is textual backing to the method adoptedby theIncomeTax officer and that the
Commissioner had foundfault with it without any valid reason. The High Court,
therefore,answered the first question in T.C. No. 160 of 1969 inaffirmative and
in favour of the assessee-company.
Asregards
the first question in T.C. No.239 of 1971, the High Courtfelt that it did not
require any independent treatment in view of the answer given with regard to
second question in T.C. No. 160 of 1969 which would answerthat question also.
Therefore, that questionalso was answered in the affirmativeand in favour of
the assessee-company.
Wehave
heard Shri K.N. Shukla,the learned senior counselappearing for the Revenue in
support of the appeals in respect of the answers given by the High Court to
these questions,. Having considered the submissions of the learned counsel, we
are of the view that the High Court to these questions, Having considered the
submissions of the learned counsel, we are of theview that the High Court has
rightly construed the provisions contained in the proviso to section 12B(2) of
the 1922 Actand, inview ofthe finding recorded by theAppellate Assistant
Commissioner , which finding was accepted by theTribunal, that the object of
the transaction was not to avoid or reduce the liability to capital gains, the
said proviso was not attracted. In our opinion, thesaid findingof theHigh Court
does not suffer from any legal infirmity and there is no ground tointerfere
with the judgment of theHigh Court on this aspect of the case .
Wemay
now take up the appealsof the Revenue in respectof questions Nos. 4, 5 and 6 in
T.C. No. 239 of 1971.
The
said questions were as follows:- "(4) Whether, on the facts and in the
circumstancesof the case, the Appellate Tribunalwas right in law inholding that
the loss sustained by the assessee on account of standing guarantee to sembiam
Saw Mills (Private) Std. (in voluntary liquidation) should be allowed in
1962-63 assessment after taking into account the amountsreceived from
theliquidators during the years 1959-60 to 1962-63 ? (5) Whether, on the facts
and in the circumstances of the case , the Tribunal was right in law in
deleting the receiptsof Rs. 1,41,000/-, Rs.2,29,627/-, Rs. 1,10,500/-and
Rs.4,381/-from the liquidators of Sembiam Saw Mills (Private) Ltd. (in
voluntary liquidation), from the assessments for 1959-60, 1960-61,1961-62 and
1962-63 respectively? (6) Whether, on the facts and in the circumstancesof the
case, the Appellate Tribunalwas right in law inholding that an amount of Rs. 4,23,256/-
representing the real loss sustained bythe assessee on account of standing
guarantee of Sembiam Saw Mills (Private) Ltd. (in voluntary liquidation) should
beallowed in the assessment year 1962-63?" There was a company by name
Sembiam Saw Mills (Private) Ltd. (for short'SSM'),which was originally a
subsidiary of Addison& company (Private) Ltd. On and from February 1, 1954, the assessee-company purchased all
the shares of SSM from M/s Addison & company (Private)Ltd, and SSMthus
became the direct subsidiary of the assessee-company. SSM had borrowed monies
from the National Bank of India Ltd, and the assessee-company had guaranteed
theloan tosaid company by thesaid Bank. SSMwent into liquidationsome time in
1995. For the purpose of overdraft facilities SSM executed a promissory note in
favour of the assessee-company which was endorsed by the assessee-company to
the Bankalong with a separate guarantee letter in favour of the Bank. When SSM
went into liquidation,the assessee-company, as guarantor, was required to
clearthose overdrafts in accordancewith the terms of the guarantee. After
adjusting the amount recovered from the liquidators,the sumdue to the assessee-
companyfrom the liquidated company on account of thesaid overdraft was Rs.
9,08,764/-.The assessee-company claimed this amount asa losswhich arose in the
Course of and incidental to its business inthe assessment for the 1958-
59.
There werereceipts by the assessee-company in the course of the liquidation of
SSM in the later years, The total amount received came toRs. 4,58,508,28
spreadover the relevant accountingyears for the assessment years 1959- 60 to
1962-63.The assessee-company relied on the clause in the memorandumof
associationauthorising it to be the guarantor for the loans and contended that
thetransactions in question sprang out of normal business transactions and
hence the losswas an allowable deduction in the assessment for 1958-59. The
Income Tax Officer held that the loss in question did not arise during the
course of or incidental to the business of the assessee-company and in his view
it was at best a capital loss which did not come within the scope of Section
12Bof the1922 Act. In making the assessments for the years 1959-60to 1962-63
theIncomeTax officer treatedthe receipts from theliquidator as income as a
protective measure. In appeal theAppellate Assistant Commissioner did not
accept the claim of the assessee- companyfor allowance of the loss in1958-59as
he was of the view that it was not a loss which arose during the course of or
was incidental to its business. But the appeals for the years 1959-60to 1962-63
wereallowedin so far as they related to thequestion of the receipts in the
respective years from the liquidator. As the guaranteeloss had not beenallowed
as adeduction in 1958-59, the Appellate Assistant Commissioner heldthat the
subsequent recoveries could not be included in the total income in the later
years. The assessee-company as well asthe Revenue Preferred appeals against
thesaid order of the Appellate Assistant Commissionerbefore the Tribunal. The
Tribunal held that the assessee-company had guaranteed the loan in the course
of carrying on its own business and that theloss was clearly admissible as a
deduction. But since the assessee-company had received the lastof the
paymentsfrom the liquidator in the previous year relevant to the assessment
year 1962-63 it washeld that the balance of Rs. 4,23,256/- remaining
unrecoverable represented thereal business loss allowable for the assessment
year 1962-63. At the instance of the Revenuethe Tribunal referred the
aforementioned questions Nos. 4,5 and6 for the opinion of the High Court.
The
High Court, while dealing with said questions, has observed that the real
pointin issue waswhether the guarantee that was executed in favour of the Bank
in respect of theloan toSSM, the subsidiary of the assessee-company, was done
in the course of itsown business. The High Court has referred to its earlier
judgmentin Amalgamations P.
Ltd.
V. Commissioner of Income Tax, (1969)73 ITR380, whereinthe nature ofthe
business ofthe assessee-company has been considered andit has been held that
the provisions of Section 23Aof the1922 Act were applicable to the
assessee-company since the assessee-company's business includes furnishing
guarantee to debts borrowed by subsidiary companies. The HighCourt has held
that thesaid findinggiven in thatcase is clearly applicable to the questions
under consideration before it and that the assessee-company had incurred the
loss in carrying on its own business which includes furnishing guarantees to
debts borrowed by its subsidiary companies. According to theHigh Court, the
loss was allowable as a deduction in the year in which it came to be
ascertained and inthe instant case the High Court held that the
assessee-company couldhave ascertained whether there wasloss in the transaction
of guarantee only at the stage of final payment by the liquidators which was
received in the relevant previousyear for the assessment year 1962-63 and that theTribunal
was right in allowing it in that year, TheHigh Court, therefore, answered
questionsNos. 4, 5 and 6 in the affirmative andagainstthe Revenue.
After
hearing Shri Shukla on theappealsfiled by the Revenuein respect of these
questions, we are unable tohold that the judgment of the High Court in respect
of these questions suffers fromany legal infirmity. We, therefore, affirm the
answer given by theHigh Court to questionsNos. 4,5 and 6 referred to it . In
the circumstances, it must be held that Civil Appeals Nos. 139-142of 1980filed
by the Revenueare liable to be dismissed.
Wewould
now come to Civil Appeals Nos.7-11 of1980 filed by the assessee-company in
relation to questionNo.3 in T.C.No. 239of 1971, which was as under :- "(3)
Whether, on the facts and in the circumstancesof the case, the Appellate
Tribunalwas right in law inholding that the sums of Rs. 437,066/-, Rs.
90,896/-, Rs. 1,08,978/-, Rs. 1,18,102and Rs. 1,11,740/- are admissible as a
deduction in the assessments of the assessee for the assessment years 1958-59
to1962-63respectively ?" The assessee-company was a bulk shareholder in
several companies and in therelevant yearthere were sixteen companies. The
assessee-companywas rendering certain common services to its subsidiaries by
having (1) a finance committee: (2)a liaison office in Delhi; (3) an export
promotion department; and (4) an internal audit department.
The
expenditure on account of maintenance of liaison office in Delhi andthe departments of export
promotion and internal auditwas borne by the assessee-company and was recovered
fromthe subsidiaries. The finance committee was workingin an advisory capacity
to the various subsidiary companies to help them to carry on their businessmore
efficiently. All purchase requisitions for the purchase of capitalequipment
beyond Rs. 500/- of each purchase and Rs. 2,500/-with referenceto purchase of
raw materialswere submitted to the finance committee for their approval. The
purposeof such control was tojudiciously usethe funds of the company tothe best
advantage of each company. Various data were gathered before such sanction
wasaccorded or refused, Technical matters orother matters of management were
also referred tothe members of the finance committee who were experienced
intheir respective fields. The finance committee went through the financial
position ofeach companydaily.The directors of the assessee-companywere also
Directors/managers in thesubsidiary companies. As per the service agreements
between them and the concerned subsidiary company they were entitled to payment
of remuneration and also acertainpercentage of the profits as commission.
Similar service agreements had been entered by other directorsof the subsidiary
companies whowere not the directors of the assessee-company. In view of the
provisions of Section 198of the Companies Act, 1956, fixing a ceiling on
theoverallmanagerial remuneration at 11% of the net profits of the company,
itwas not possible for the subsidiary companies to pay the contracted
remuneration to the persons concerned. On April 4,1959 the Board of Directors ofthe
assessee-company passed a resolution wherebyit wasresolved that the
remuneration payable to nine directorsof the subsidiary companies would be paid
to them in full in accordance with the terms ofthe contract respectively
entered into by them and the amount in excess of themaximumamountpermissible
under the CompaniesAct, 1956 would be met by the assessee-company. Out of
thesenine directors three were directors of theassessee-company and out of
these three directors two were members of the finance committee, Noneof the
other six directors of the subsidiary companies was a member ofthe finance
committee. In accordance with the said resolution the assessee-company paid
diverse amounts to thesaid directors. The total amountsso paid to the several
persons for the different years are mentioned in question No.3.The
assessee-company claimedthe said amounts as deductionunder Section 10 (2) (XV)
of the 1922 Act for theassessment years 1958-59 to 1961-62and under Section 37of
the 1961 Act for the assessment year 1962-63. Before the Income Tax Officer it
was not disputed thatthese paymentswere in respect of services rendered by
respective persons tothe various subsidiary companies of whichthey were
directors/managers and that no part of the payment could be related to any
servicedirectly rendered by them to the assessee-company.
It
wassubmitted thatthough the services were rendered by them to other companies,
theyshouldbe deemed tohave rendered the service to the assessee-company in view
of the nexus between the holding company and its subsidiaries, The Income Tax
officer did not accept this submission andheld that the excess remuneration
over and above what was admissible under Section 198 ofthe Companies Act, which
was not borne by the respective companiescould not be allowed as deduction
under Section 10(2)(XV) of the1922 Act and Section37 ofthe 1961 Actas
expenditure wholly and exclusively incurred for the purpose of the business of
the assessee-company. It was alsostressed that the resolution of the Board
ofDirectors of the assessee-company was passed on April 4, 1959, after the
previous years relevant to the assessment years 1958-59 and 1959-60, On appeal
the Appellate Assistant Commissioner tookthe same view, The matterwas remanded
by theTribunal to the Appellate Assistant Commissionerfor consideration and
submission of report on the points mentioned in theorder of remand. The
Appellate Assistant Commissioner after taking further evidence submitted his
report wherein he reportedthat deduction may be allowed in respect of
remuneration paid to personswho were directors of the assessee-company andwere
membersof thefinance committee, butsuch deduction could not beallowedin respect
of remuneration paid by the assessee-company in respect of the persons who
wereonly directors and employees of the subsidiariesbut neither directors of
the assessee-company nor members of the finance Committee. TheTribunal was
ofthe view that looking to the nature of the business of the assessee-company
of holding shares of a number ofsubsidiary companies and that it was
lookingafter the interest and welfare of those companies with aview toearn
dividends,the whole of the expenditure referable to the remunerationpaid bythe
assessee-company was admissible as a deduction.
Rejecting
the contention urged on behalf of the Revenue that the assessee-company wasnot
carrying onany business becausemerelyholdingof investmentswould not constitute
business, the High Court has held that in view of Section 23A ofthe 1922 Act
holding of investments, in appropriate cases, would equally be a business as
dealing in them and what is required is that there must be a real substantial
and systematicor organised course of activity or conduct with the set purpose
ofearningprofit which isthe test for a business. The High Court has observed
that the assessee- companyis nota mereinvestor in a single company but has
investments in sixteen companies and had taken active Interest in thebusiness
of these companies as is clearfrom the services that hadbeen rendered in the
shape of export promotion, liaison office at Delhi and internalaudit and it
also rendered consultation inrespectof finance by its directors meeting every
day with reference to the needs and requirements ofeach company and that it is
nota case where the assessee-company contenteditself with merely making an
investment and looking for the dividend, The High Courthas, therefore, held
that there was a business activity in the matter of holding of investments.
While dealing with the question whether the expenditure that has beenincurred
was wholly and exclusivelylaid out for the purpose of the assessee-company's
business, the HighCourt has negatived the contentionthat the said question is
purely factual becausein order to be deductible the expendituremust satisfytwo
tests: (1) the expenditure must be uncurred by the assessee in his capacity as
a trader; and(ii) itmust be incidental to the carryingon of his business.
TheHigh Court was of the view that there must be a nexus between the
expenditure andthe business ofthe assessee. Applying these tests the HighCourt
has held that the purpose of the paymentin thepresent case was only to take out
the subsidiary from an inconvenient situation in which it found itself as a
result of statutory change restricting the remuneration payableto itas director
and that the expenditure had not been incurred wholly and exclusively for
thebusiness of theassessee-company and itcould not be allowedas deduction. The
alternativeclaim put forward on behalfof the assessee-company that at any rate
the expenditure incurred bythe assessee-company inremunerating its own
directors whowere also members forthe finance committee should be allowed as
deduction as there is a nexus betweenthe expenditure and the business of the
assessee- companyin rendering servicesto its subsidiaries, was not accepted by
the High Court for the reason that the resolution passed by the
assessee-company doesnot saythat the expenditurewas incurred for the purpose
ofremunerating its own directors is so far asthey rendered services to it as
members of the finance committee. The High Court has observed that the
resolution treated the directors, whether they be the members of the finance
committee or notas a class and with reference to allof themthe assessee-company
incurred the expenditure onlybecausethey could not be remunerated tothat extent
bythe subsidiary companies and the fact that they weremembersof the finance
committee had not been takeninto account intaking over theremuneration payableto
them, Question No. 3 was, therefore, answered in the negative and against the
assessee-company.
The
amounts paid by the assessee-company to the directors of its subsidiary
companies can be admissibleas a deduction under Section 10(2)(XV)of the 1922
Act exclusively for the purposes of the business" of the assessee-company,
Thisexpression was also used in the IncomeTax Act, 1918 in U.K. In Atherton V.
British Insulated and Helsby Cables Limited, (1925) 10 TC 155(HL), Viscount
Cave, L.C., has thus explained thesaid expression:- "..a sum of
moneyexpended, not of necessity and with a view to a direct andimmediate
benefit to the trade, but voluntarily and on the grounds of commercial
expediency, and in order indirectly to facilitatethe carrying on of the
business,may yet beexpended wholly and exclusivelyfor the purposes of the
trade." [p.191] These observations have been referred to with approval by
thisCourt while construing Section 10(2)(XV) of the1922 Act. [See : Eastern
Investments Ltd.V. Commissioner of Income Tax, V. Chandulal Keshavlal &
Co., (1960) 38 ITR601] InTravancore Titanium Products Ltd. V. Commissioner of
Income Tax, Kerala, (966) 60 ITR 227, thisCourt while construing theexpression
" for the purpose ofbusiness" in Section10(2) (XV) of the 1922 Act,
hassaid :- "The expenditure must be incidental to the business and must be
necessitated or justified by commercialexpediency. Itmust be directly and
intimately connected with the businessand belaid out bythe taxpayer inhis
character as atrader. To be a permissible deduction,there must bea direct and
intimate connection between the expenditure and the business i.e. between the
expenditureand the characterof the assessee as a trader, and not asowner of
assets, even if they are assets of the business." InThe Indian Aluminium
Co. Ltd. V. Commissioner of Income Tax, (1972) 84ITR 735, decided by
aConstitution Bench of this Court, the aforementioned testlaid down in
Travancore Titanium Products ltd. V. Commissioner of Income Tax, Kerala
(supra), was qualified in these terms :- "In our view, the test adopted by
this Court in TravancoreTitanium case that to be a permissible deduction,there
must bea direct and intimate connection between the expenditure and the
business; i.e., between the expenditureand the characterof the assessee as a
trader, and not asowner of assets, even if they are assets of the business'
needs to be qualified by startingthat if the expenditure islaid out by the
assessee as owner-cum-trader, and the expenditure is really incidental to the
carrying on ofhis business, it must be treated to have been laid out by him as
a trader and as incidentalto hes business." [p.747] The High Court, in our
opinion, has rightly proceeded on the basis that theremust bea nexusbetween
expenditure and business ofthe assessee.
Shri
T. A. Ramachandran,the learned senior counsel appearing for the
assessee-company, has submitted that the said test is satisfied in the present
case since the purpose of thepaymentof remuneration to the directors of the
subsidiary companies was to enable these companies toearn higher profitswhich
would bepassedon to the assessee- companyas and by way of dividends. The
learned counsel has placed strong relianceon the decisionof Bombay High Court
in J. R. Patel and Sons (P) Ltd. V. Commissioner of Income Tax, Gujarat, 69 ITR
782, and has urged that the High Court has committed an error in distinguishing
these cases on ground that they related to managingagentswhereas the present
caserelates to holding company and its subsidiaries, Shri Ramachandran
hascontended that the principle laid down in thesaid decisions is equally
applicable to acase ofholdingcompany.
Weare
unable toacceptthis contention. TheHigh Court, in our opinion, has rightly
pointedout that the business of the assessee-company is the holding of
investments any expenditure had been incurred that could have been allowed as
deduction. The expenditure incurred in paymentof managerial remuneration tothe
directors of the subsidiary companies cannot be said to be expenditure incurred
in carrying onthe business ofthe assessee-company of holding itsinvestments.
The assessee-company couldhold its investments and earn its dividends the
entire profits earned on account of their managerialremuneration paid by the
assessee-company and the assessee-company wasonly entitled to dividend from the
subsidiary company as andwhen declared, it cannot be said that there was a
direct and immediate connection between the expenditure incurred and the
business of the assessee-company. The decisions inTata Sons Ltd. V.
Commissioner of Income Tax, BombayCity (supra) and J.R. Pateland Sons (P) Ltd.
V. Commissioner of Income Tax, Gujarat (supra) ar not applicablein the facts
ofthis case.
InTata
sons Ltd. V. Commissioner of Income Tax, Bombay City (supra) the assessee was the
managing agent of another companyand under the managingagency agreement the
asessee was tobe paid a commission at a certain ratewhich was to be computed
upon the net profits of the managed company.
During
the relevant years the assessee paid voluntarily certainsums as half share of
the bonus which the managed company paid to some of its officers and it claimed
deduction of the said amounts underSection10(2)(XV) of the 1922 Act. The Bombay
High Court upheld theclaim of the assessee for such a deductionon theview that
from the point of view of commercial principles what theassessee had done was
something which had as its object increasing the profitsof themanaged company
and thereby increasing its own shares oncommission and, therefore, the
deduction claimedby theassessee was wholly and exclusively for the purposes of
its business and was anallowable deduction under section 10(2)(XV) of the1922
Act. Whiledealingwith the contentionurged on behalf of the Revenue that the
paymenthad been madenot to the employees ofthe assessee but tothe employees of
a managed company -a different entity altogether - theHigh Court has observed:-
"Here again if it can be shown that there wasa veryimportant nexus between
the assessee company and the managedcompany which necessitated the assessee
company making thepaymentto the employees ofthe managed company, taken again it
would be possiblefor the assessee company to satisfy us that the expenditure
was one which fell within the ambit of Section 10(2)(XV). Nowit cannot be
seriously disputed that the bonus was paid by the managed company to their
employees in order to increase the efficiency of the order to increase the
efficiency of the working of the company. An increased efficiency of that
company would incidentally result inhigherand better profits, and the assessee
company would be as much interested in the working of the managed company being
more efficient as themanaged company itself. Whatever tended toincrease the
profits of the managed company would also tend to increase the income and
profits of theassessee company, Therefore, it cannot be suggested that theassessee
company had an indirect or ulterior motive inmakingthis payment. The only
motive by which itwas actuated was a purely commercial and pecuniary one and
that wasto see that more profits were madeby the managed company so that its
own commission should thereby be increased." [p.468] Inthat case there was
a direct nexusbetween the increased profits of the managed company and the
managerial commission payable to the assessee since the managing agency
commission was a prescribed percentage of the net profits of themanagedcompany.
As indicated earlier,there was no such nexus between the increased profit of
the subsidiary companyand theprofit earned by the assessee-company by way of
dividend onthe shares held by it in the subsidiary company.
InJ.R.
Patel and Sons (P) Ltd,V. Commissioner of Income Tax, Gujarat (supra) the assessee wasthe
managing agent and its managing directorwas also the director of the managed
company. Prior tocominginto force of the Companies Act, 1956 on April 1,1956,
he was getting monthly salary from the assessee and in addition hewas getting
monthlyremuneration as technical adviser of the managed companyas well as
commissionat a prescribed rate on the sale price of healds and
reedsmanufactured and sold by the managedcompany. Afterthe passing of the
CompaniesAct, 1956, the remunerationthat could bereceived by him was reducedand
hecould not also be paid the commission. The assessee, therefore, increased the
emoluments. Thesaid excess paymentmade by the assessee was disallowed and the
expenditure incurred was restricted to the amount that was being paid prior to
coming intoforce of the companiesAct, 1956. The Gujarat High Court held that
the assessee had paid extra payment toits managing director so that the
affairsof themanaged company couldbe properly looked after and thatas a result
ofthe remuneration the profits of themanagedcompany and the shareof the
commission of the assessee increasedand, therefore, the excess amount paid by
the assessee to its managing directingwas expended wholly and exclusivelyfor
the purpose of itsbusiness and was anallowable deduction under Section
10(2)(XV) of the 1922 Act, Reliance was placedon the decisionin TataSons Ltd. (supra).
This wasalso a case where the profits of the assessee in the form of managing
agency commissionwere directly linked to the profitof the managed company which
is not the position in the present case.
The
alternative claim by the assessee-company for deduction in respect of the
expenditure incurred by the assessee-company in respect of amount paidto its
own directors who were alsothe members of the finance committee has been
rightly rejected by the HighCourt in view of the resolution passed by the assessee-companywherein
the directors, whether they be the members ofthe finance committee or not, have
been treated as a class andwith reference to all of them the
assessee-companyincurred the expenditure only because theycould not be
remunerated to that extent by the subsidiary companies. The fact thatthey were
directorsof theassessee-company and members of the financecommittee was not
taken into account in takingover the remuneration payable to them. In the
circumstances, Civil Appeals Nos. 7-11 of 1980 filed by the assessee-
companyare also liableto be dismissed.
Inthe result,
Civil Appeals Nos. 139-142 of 1980 filed by theRevenueand Civil Appeals Nos.
7-11 of 1980 filed by the assessee-company are dismissed. No order asto costs.
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