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Petitioner: COMMISSIONER OF INCOME-TAX VS Respondent: URMILA RAMESH
Court Name: Supreme Court of India Judge(s): S. Rajendra Babu, B. N. Kirpal, S. C. Agarwal Title: COMMISSIONER OF INCOME-TAX vs URMILA RAMESH Case No.:Civil Appeals Nos.2141-2143 of 1982 with C.A. Nos. 2144.46, 2147 to 2149, 2150
JUDGMENT
Reported As: 1998 PTD 2603 Result: Appeals dismissed Judgment JUDGMENT ' B.N. KIRPAL, J.---These appeals arise by virtue of a certificate having been granted by the Madras High Court (see 1980) 125 ITR 207) under section 261 of Income Tax Act, 1961, and the common questions of law referred relate to the interpretation of section 2(22) of the Income Tax Act, 1961 (hereinafter referred to as "the Act"). ' Briefly stated, the facts are that the respondents-assessees were shareholders of Tinnevely Motors Service Company Private Limited. The road transport business of the respondents was taken over by then State of Madras as a result of which the said company went into voluntary liquidation on March 28, 1970. After the sale of its assets, the liquidator distributed the first dividend on March 31, 1970, at the rate of Rs,100 per share, the second dividend on April 17, 1970, at the rate of Rs,4Q per share and the third dividend on October 20, 1971, at the rate of Rs,25 per share. In the assessment of several shareholders, the Income-tax Officer held, inter alia, that the accumulated profits of the company on the date of liquidation amounted to Rs,6,61,065. Based on this figure, the Income-tax Officer treated 57..5 per cent. Per share as dividend for the year 1970-71, 57.75. Per cent. Of the dividend of Rs,40 per share for the year 1971-72 and 57.5 per cent. Of the dividend of Rs,25 per share of the year 1972-73 as the income of the respective shareholders under section 2(22)(c) of the Act. ' The respondents filed appeals against the order of assessment and contended before the Appellate Assistant Commissioner that the sum of Rs,7,28,760, which was the profit assessed under section 41(2) of the Act in the preceding years, and had been taken into consideration by Income- tax Officer in determining the accumulated profit at the aforesaid figure of Rs,6,61,065, could not be
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treated as accumulated profits under section 2(22)(c) of the Act. The submission was that there were, in fact, no accumulated profits in the commercial sense on the date of liquidation. The Appellate Assistant Commissioner accepted the contention of the respondents and allowed their appeals. The Income-tax Tribunal upheld the said decision and, thereupon, at the instance of the Revenue, it referred the following questions of law to the High Court of Madras (see (1980) 125 ITR 207, 210): (i) Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was justified in confirming the deletion of the income assessed as deemed dividend under the provisions of section 2(22)(c) in the assessee's case ? (ii) Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in law in holding that the sum of Rs,7,28,760 representing profits assessed under section 41(2) in the preceding year cannot form part of the accumulated profits for the purpose of section 2(22)(c) of the Income Tax Act, 1961 ?" ' The High Court, by its judgment dated March 9, 1979, answered the aforesaid questions of law in the affirmative and against the Revenue. It came to the conclusion that the profits assessed under section 41(2) of the Act could not form part of the accumulated profits for the purpose of section 2(22)(c) of the Act and in coming to this conclusion, it followed the ratio of decision of this Court in CIT v. Bipinchandra Maganlal and Co. Ltd. (1961) 41 ITR 290. As already noticed, these appeals arise pursuant to certificate having been granted by the High Court from the aforesaid judgment. ' On behalf of the appellant, it has been submitted by learned counsel that if the amount, for, which the assets were sold, exceeds the written down value, then the amount which is assessed under section 41(2) of the Act represents accumulated profits and on its distribution amongst the shareholders it should be assessed as dividend. Reliance was placed on the decision in Bishop v. Smyrna and Cassaba Railway Co. (No,2) (1895) 2 Ch. 596 and certain observations of this Court in CIT v. Express Newspapers Ltd. (1964) 53 ITR 250 and it was contended that this amount of excess realized over the written down value was profits and, therefore, was rightly taken into consideration by the Income-tax Officer in computing the amount of accumulated profits. There being no dispute that when accumulated profits are distributed among the shareholders by the official liquidator during the winding up proceedings, the amount to the extent of the accumulated profits is deemed to be dividend and, therefore, taxable in the hands of the shareholders. Therefore, the Income-tax Officer, it was contended, rightly regarded the aforesaid sum of Rs,7,28,760, which had been assessed as profit under section 41(2) of the Act, as being liable to be taken into consideration in determining the accumulated profits within the meaning of that expression in section 2(22)(c) of the Act. ' Repelling the aforesaid contention, the submission of learned counsel for the respondents was that the amount, which was realized by the liquidator on the sale of the assets, was admittedly less than the purchase price. The amount, so realized, only represented the return of capital and the excess of realization over the written down value could not be regarded as profit under section 2(22)(c) of the Act. It was contended that it is only by legal fiction that this excess amount of Rs,7,28,760 received by the official liquidator is deemed to be income and taxed by virtue of the provisions of section 41(2) of that Act. It cannot be regarded as profit or capital gain. Learned counsel for the respondents did not dispute that if any amount had been received in excess of the purchase price, then to the extent of that excess amount, the provision of section 2(22)(c) of the Act could have been attracted. But, here, in fact that company had suffered a capital loss, as the amount realized by it on the sale of the assets was less than the purchase price thereof. ' These appeals came up for hearing before a Bench of two judges of this Court who, by order dated February 4, 1997 (CIT v. Urmila Ramesh (1997) 224 ITR 301), were prima facie of the view that the language employed in section 10(2)(vii) of the Indian Income Tax Act, 1922, and that employed
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in section 41(2) of the Act was materially different and that it was doubtful whether the language used in section 41(2) of the Act was akin to a legal fiction. It was observed that the decision in Bipinchandra's case (1961) 41 ITR 290 (SC) was based on the relevant provisions of the 1922 Act while a later decision in Cambay Electric Supply Industrial Co. Ltd., v. CIT (1978) 113 ITR 84 was with reference to section 41(2) of the Act. This decision was rendered by mainly placing emphasis on section 80-E of the Act. As the matter was regarded as not being free from difficulty, this batch of cases was referred to a large Bench. ' In order to appreciate the rival contentions, we may now refer to the relevant provisions of the Income Tax Act, 1961, with which we are concerned in the present case and corresponding, provisions of the Indian Income Tax Act, 1922, which were considered in the earlier cases of Bipinchandra (1961) 41 ITR 290 (SC) and Express Newspapers (1964) 53 ITR 250(SC): ' 1992 Act: "Section 2. (6-A)(a) any distribution by a company of accumulated profits, whether capitalized or not, if such distribution entails the release by the company to its shareholders of all or any part of the assets of the company ; (b) any distribution by a company of debentures, debenture-stock or deposit certificates in any form, whether with or without interest, to the extent to which the company possesses accumulated profits, whether capitalized or not; (c) any distribution made to the shareholders of a company on its liquidation, to the extent to which the distribution is attributable to the accumulated profits of the company immediately before its liquidation, whether capitalized or not; (d) any distribution by a company on the reduction of its capital to the extent to which the company possesses accumulated profits which arose after the end of the previous year ending next before the 1st day of April, 1933, whether such accumulated profits have been capitalized or not; (e) any payment by a company, not being a company, in which the public are substantially interested within the meaning of section 23-A, of any sum (whether as representing a part of the assets of the company or otherwise) by way of advance or loan to a shareholder or any payment by any such company on behalf or for the individual benefit of a shareholder, to the extent to which the company in either case assessee accumulated profits; but 'dividend' does not include-- (i) a distribution made in accordance with sub-clause (c) or sub-clause (d) in respect of any share issued for full cash consideration where the holder of the share is not entitled in the event of liquidation to participate in the surplus assets; (ii) any advance or loan made to a shareholder by a company in the ordinary course of its business where the lending of money is a substantial part of the business of the company; (iii) any dividend paid by a company which is set off by the company against the whole or any part of any sum previously paid by it and treated as a dividend within the meaning of clause (e), to the extent to which it is so set off; ' Explanation,---The expression 'accumulated profits', wherever it occurs in this clause, shall not include capital gains arising before the 1st day of April, 1946, or after the 31st day of March, 1948, and before the 1st day of April, 1956; 10. (2) Such profits or gains shall be computed after making the following allowances, namely:--. . . (vi) in respect of depreciation of such buildings, machinery, plant or furniture being the property of the assessee, a sum equivalent, where the assets are ships other than ships ordinarily playing on inland waters, to such percentage on the original cost thereof to the assessee as may in any case or class of cases be prescribed and in any other case, to such percentage on the written down value thereof as may in any case or class of cases be prescribed;.. . ' Provided that---
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(a) the prescribed particulars have been duly furnished . . . (vii) in respect of any such building, machinery or plant which has been sold or discarded or demolished or destroyed, the amount by which the written down value thereof exceeds the amount for which the building, machinery or plant, as the case may be, is actually sold or its scrap value: ' Provided that such amount is actually written off in the books of the assessee: ' Provided further that where the amount for which any such building, machinery or plant is sold, whether during the continuance of the business or after the cessation thereof, exceeds the written down value, so much of the excess as does not exceed the difference between the original cost and the written down value shall be deemed to be profits of the previous year in which the sales took place." ' 1961 Act: "Section 2. (22)(a) any distribution by a company of accumulated profits, whether capitalized or not, if such distribution entails the release by the company to its shareholders of all or any part of the assets of the company; (b) any distribution to its shareholders by a company of debentures,. Debenture-stock or deposit certificates in any form, whether with or without interest, and any distribution to its preference shareholders of shares, by way of bonus, to the extent to which the company possesses accumulated profits, whether capitalized or not; (c) any distribution made to the shareholders of a company on its liquidation, to the extent to which the distribution is attributable to the accumulated profits of the company immediately before its liquidation whether capitalized or not; (d) any distribution to its shareholders by a company on the reduction of its capital, to the extent to which the company possesses accumulated profits which arose after the end of the previous year ending next before the 1st day of April, 1933, whether such accumulated profits have been capitalized or not; (e) any payment by a company, not being a company in which the public are substantially interested, of any sum (whether as representing a part of the assets of the company or otherwise) by way of advance or loan to a shareholder, being a person who has a substantial interest in the company, or any payment by any such company on behalf, or for the individual benefit, of any such shareholder, to the extent to which the company in either case possesses accumulated profits ; but 'dividend' does not include--- (i) a distribution made in accordance with sub-clause (c) or sub-clause (d) in respect of any share issued for full cases consideration, where the holder of the share is not entitled in the event of liquidation to participate in the surplus assets; (ia) a distribution made in accordance with sub-clause (c) or sub- clause (d) in so far as such distribution is attributable to the capitalized profits of the company representing bonus share allotted to its equity shareholders after the 31st day of March, 1964, and before the 1st day of April, 1965 ; (ii) any advance or loan made to a shareholder by a company in the ordinary course of its business, where the lending of money is a substantial part of the business of the company; (iii) any dividend paid by a company which is set off by the company against the whole or any part of any sum previously paid by it and treated as a dividend within the meaning of sub-clause (e), to the extent to which it is so set off. ' Explanation 1. ---The expression ' accumulated profits' , wherever it occurs in this clause, shall not include capital gains arising before the 1st day of April, 1946, or after the 31st day of March, 1948, and before the 1st day of April 1956.
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' Explanation 2.---The expression 'accumulated profits', in sub-clauses (a), (b), (d) and (e), shall include all profits of the company up to the date of distribution or payment referred to in those sub-clauses, and in sub-clause (c) shall include all profits of the company up to the date of liquidation, but shall not, where the liquidation is consequent on the compulsory acquisition of its undertaking by the Government or a corporation owned or controlled by the Government under any law for the time being in force, include any profits of the company prior to three successive previous years immediately preceding the previous year in which such acquisition took place ; ' Section 32. (1) In respect of depreciation of building, machinery, plant or furniture owned by the assessee and used for the purposes of the business or profession, the following deductions shall, subject to the provisions of section 34, be allowed . . . . (ii) in the case of buildings, machinery, plant or furniture, other than ships covered by clause (i), such percentage on the written down value thereof as may in any case or class of cases be prescribed : ' Provided that where the actual cost of any machinery or plant does not exceed seven hundred and fifty rupees. The actual cost thereof shall be allowed as a deduction in aspect of the previous year in which such machinery or plant is first put to use by the assessee for the purposes of his business or profession; (iii) in the case of any building, machinery, plant or furniture which is sold, discarded, demolished or destroyed in the previous year (other than the previous year in which it is first brought into use), the amount by which the moneys payable in respect of such building, machinery, plant or furniture, together with the amount of scrap value, if any, fall short of the written down value thereof. ' Provided that such deficiency is actually written of in the books of the assessee.. ' Section 41. (2) Where any building machinery, plant or furniture which is-owned by the assessee and which was or has been used for the purposes of business to profession is sold, discarded, demolished or destroyed and the moneys payable in respect of such building, machinery, plant or furniture, as the case may be, together with the amount of scrap value, if any, exceed the written down value, so much of the excess as does not exceed the difference between the actual cost and the written down value shall be chargeable to income-tax as income of the business or profession of the previous year in which the moneys payable for the building, machinery, plant or furniture became due. . . . ' Explanation.---Where the moneys payable in respect of the building machinery, plant or furniture referred to in this subsection become due in a previous year in which the business or profession for the purpose of which the building , machinery, plant or furniture was being used is no longer in existence, the provisions of this subsection shall apply as if the business or profession is in existence in the previous year." ' It will be appropriate to first consider whether section 41(2) of the Act contains any legal fiction or not. The second proviso to section 10(2)(vii) of the Indian Income Tax Act, 1922, clearly provides that where the amount for which the building, machinery or plant is sold, exceeds the written down value, then so much of the excess as would not exceed the difference between the original cost and the written down value "shall be deemed to be the profit of the previous year in which the sales took place". Section 41(2) of the Act does not, however, use the expression "shall be deemed . . . . This, however, in our opinion, would make no difference. Section 41(2) of the Act is a special provision whereby the amount received in excess of written down value becomes chargeable to income-tax as income of the business or profession of the previous year in which the money payable for the building, machinery, plant or furniture become due. But for this specific provision, this amount would not have been taxed as income from business. Building, machinery, plant or furniture, on which depreciation has been allowed, would be the capital asset of the assessee. Any sum received in respect thereof would ordinarily represent a capital receipt. But section 41(2)
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regards this amount as income from .Business or profession and of the year in which' the amount becomes due. Even though the word "deemed" is not used in section 41(2) of the act, as has been used in section 10(2)(vii), second proviso, of the 1922 Act, nevertheless this proviso create a legal fiction whereby an amount received in excess of the written down value is firstly treated as income and secondly regarded as income from business or profession and thirdly is considered to be the income of the previous year in which the money payable became due. That this section creates a legal fiction has been held by this Court in Combay Electric's case (1978)113 ITR 84, where at page 93 of the report, it was observed as under: "It is true that by a legal fiction created under section 41(2) a balancing charge arising from sale of old machinery or building is treated as deemed income and the same is brought to tax; in other words, the legal fiction enables the Revenue to take back what it had given by way of depreciation allowance in the preceding years since what was given in the preceding year was in excess of that which ought to have been given. This shows that the fiction as has been created for the purpose of computation of the assessable income of the assessee under the head 'Business income'. It was rightly pointed out by the learned Solicitor-General that legal fictions are created only for a definite purpose and they should be limited to the purpose for which they are created and should not be extended beyond their legitimate field. But, as indicated earlier, the fiction under section 41(2) is created for the purpose of computation to assessable income of the assessee under the head 'Business income'' and under section 80-E(1), in order to compute and allow the permissible special deduction, computation of total income in accordance with the other provisions of the Act is required to be done and after allowing such deduction the net assessable income chargeable to tax is to be determined; in other words, the legal fiction under section 41(2) and the grant of special deduction in the case of specified industries are so closely concerned with each other that taking into account the balancing charge (i,e,, deemed profits) before computing the 8 per cent deduction under section 80-E(1) would amount to extending the legal fiction within the limits of the purpose for which the said fiction has been created." ' We are unable to agree with the submissions of Shri Ranbir Candra that reference to the language of section 41(2) in Cambay Electric's case (1978) 113 ITR 84 (SC), was only incidental. It is evident from the reading of the aforesaid passage that this Court was called upon to construe the meaning and effect of section 41(2) of the Act in that case, which it did. The two provisions, namely section 10(2)(vii), second proviso, of the 1922 act section 41(2) and of the Act both create a legal fiction, the difference in language notwithstanding. ' As has been already observed, out of the amount distributed by the liquidator of a company, to the extent that the said amount is attributable to accumulated profits. It is deemed to be dividend. As to how this determination takes place has been dealt with by this Court in CIT v Girahardas and Co. Pvt., Ltd., (1967) 63 ITR 300, where at page 305, while considering section 2(6-A)(c), it observed as follows: "There is in the hands of the liquidator only one fund. When a distribution is made out of the fund, for the purpose of determining tax liability, and only for that purpose, the amount distributed is disintegrated into its components---capital and accumulated profits--as they existed immediately before the commencement of liquidation. In any distribution made to the shareholders of a company by the liquidator, that part which is attributable to the accumulated profits of the company immediately before its liquidation, whether such profits have been capitalized or not, would be treated as dividend and liable to tax under the Act." ' While undertaking this exercise of separating capital from the accumulated profits, the Income- tax Officer has in the present case determined Rs,6,61,065 as representing accumulated profits on the basis that the amount of Rs,7,28,760, taxable under section 41(2), forms part of the
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accumulated profits. But does this conclusion follow from the language of section 2(22) of the Act, is the question. ' Section 2(22) of the Act has used the expression "accumulated profits", "whether capitalized or not". This expression tends to show that under section 2(22) it is only the distribution of the accumulated profits which are deemed to be dividend in the hands of the shareholders. By using the expression "whether capitalized or not" the legislative intent clearly is that the profits which are deemed to be dividend would be those which were capable of being accumulated and which would also be capable of being capitalized. The amounts should, in other words, be in the nature of profits which the company would have distributed to its shareholders. This would clearly exclude return of part of a capital to the company, as the same cannot be regarded as profit capable of being capitalized, the return being of capital itself. In this connection, it is important to examine the decision of this Court in Bipinchandra Maganlal's case (1961) 41 ITR 290, where this Court has the occasion to deal with the concept of balancing charge. That company was one in which the public was not substantially interested within the meaning of section 23-A of the Indian Income Tax Act, 1922. It computed its trading profits, at Rs,33,245 in the year of account 1946-47, and distributed dividend accordingly. The Income-tax Officer was, however, of the view that a sum of Rs,15,608 being the amount realized by the company on the sale of machinery in excess of its written down value, which had been included in computing its assessable income, should also be taken into consideration and on that basis, the Income-tax Officer passed an order under section 23-A of the Indian Income Tax Act, 1922, to the effect that the sum of Rs,15,429 being the undistributed portion of the assessable income of the company, shall be deemed to have been distributed as dividend. The assessee had contended that this amount of Rs,15,429 not being in the nature of commercial profits, but being a…
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